David Dayen: SEC Convenes Foot-Dragging Roundtable on Rating Agency Reform, While Securities Issuers Return to Familiar Rating-Shopping Tricks

By David Dayen, a lapsed blogger, now a freelance writer based in Los Angeles, CA. Follow him on Twitter @ddayen

A few months ago, I wrote a story for The American Prospect about the credit rating agencies, and their thus-far successful effort to ward off any change to their business model, despite their wretched performance during the crisis. This is true even though Dodd-Frank contained a measure, written by Al Franken, to alter the issuer-pays model that incentivizes higher ratings in the pursuit of future profits. The Franken-Wicker rule (the “Wicker” is Republican Senator Roger Wicker) would create a self-regulating organization to randomly assign securities to accredited rating agencies, with more securities over time going to the agencies that rated the most accurately.

When we last left this rule, the SEC was doing their best to avoid implementing in. The usual watering down in Dodd-Frank made this contingent on a study. Although the language of the law stated plainly that the SEC “shall” change the issuer-pays model to the Franken-Wicker vision or some alternative solution it deemed more feasible, this gave the SEC plenty of wiggle room – they could simply decide that the status quo was the most feasible of all.

The study finally came out, six months late, and it read basically like a book report from a distracted high schooler, merely regurgitating public comments given to the agency on a variety of different models. At the end, the SEC recommended only that “the commission, as a next step, convene a roundtable at which proponents and critics of the… courses of action are invited to discuss the study and its findings.”

Franken and Wicker went ballistic, demanding that they get the roundtable within the next three months, and that the SEC moves with all deliberate speed thereafter to implement a new payment model, complete with a written timeline for next steps. The SEC complied in the most under-the-wire way possible, agreeing to set a date for the roundtable – EXACTLY three months to the day after their letter.

That roundtable was held this week. First off, here were the participants at the roundtable. If you strain your eyes you may be able to find a couple reform advocates (Better Markets managed to sneak somebody on), but they’re surrounded by people like the American Securitization Forum’s Tom Deutsch, SIFMA’s Christopher Killian, representatives from all the rating agencies (including one from Mexico), someone from uber-lobby firm Patton Boggs, etc. At this point it was hard for me to even bother to look into what happened at this thing, but I soldiered on.

Predictably, the main thrust of the roundtable, from the market-based participants, was to not rock the boat. Changing the inherent conflict of interest that comes with the issuer-pays model would “create new conflicts,” be “costly and slow to implement,” and “cause uncertainty in the marketplace.” I swear they have these objections on a wheel somewhere, and they just spin it to determine the order in which they say them.

Market participants also touted rule 17g-5, which theoretically gives any rating agency access to the same data that the issuer gives to the agency they paid for the rating. This was going to spur competition, everyone said, as a firm could show themselves to be more accurate than the Big 3 (S&P, Fitch, Moody’s). But two years into the program, not one rating has been produced by an unhired firm.

As Better Markets’ Dennis Kelleher described it, the roundtable consisted of “eight hours with 25 or so panelists and speakers almost guaranteed not to point in any particular direction.”
But there was one interesting moment. Not in Franken’s speech, which just restated his priors, or in Mary Jo White’s wooden address. The real fireworks came from Jules Kroll, of Kroll Bond Rating Agency, and I’m really surprised this didn’t get more attention:

Jules Kroll, a former private investigator who started a bond-rating company after the financial crisis, said the largest credit-rating firms are again putting profits ahead of accuracy amid record demand for corporate debt.

“They’re selling themselves out just as they did before,” the chief executive officer of Kroll Bond Rating Agency Inc. said today at a U.S. Securities and Exchange Commission roundtable in Washington. “If you want to see the next tsunami, wait for the outcome in high yield and watch what washes up on shore.”

The article swings wildly away from Kroll’s comments almost as soon as it finishes the lede, so we don’t get much more information. However, a separate Bloomberg story makes pretty clear that we are all the way back to the golden age of ratings shopping.

Almost six years after the start of the worst financial crisis since the Great Depression, bond issuers are again exploiting credit ratings by seeking firms that will provide high grades on debt backed by assets from auto loans to office buildings considered inappropriate by rivals.

Fitch Ratings isn’t grading a deal linked to a Manhattan skyscraper after saying investors needed more protection. The securities won top grades from Moody’s Investors Service and Kroll Bond Rating Agency Inc. Blackstone Group LP’s Exeter Finance Corp. got top-tier ratings from Standard & Poor’s and DBRS Ltd. in the past 15 months on $629 million of bonds backed by car loans to people with bad credit histories, even as Moody’s and Fitch said they wouldn’t grant such rankings.

Borrowers are finding more options than ever to get the top ratings that many investors require after U.S. regulators doubled the number of companies sanctioned to assess securities to 10 since 2006.

In other words, the additional upstarts in the rating agency biz have just made it easier for issuers to play them off of one another. And this has just driven more garbage securities into the market, tied to commercial mortgages, subprime auto loans (which accounted for an amazing 43% of all car financing in the last quarter of 2012), or whatever else is laying around. Meanwhile, junk bonds are at record sales highs, and of course those are the bonds that have that rating profile; surely, with this running rampant there are plenty of other “junk bonds without portfolio” out there.

No real agenda for next steps came out of the meeting. In fact, I’m sure the SEC would love to drag their feet just long enough for Congress to slow them to molasses. Today, the House votes on HR 1062, which would force an additional layer of “cost-benefit analysis” to any SEC rulemaking. This is designed simply to clog up any SEC rulemaking implementation whatsoever, including but not limited to Dodd-Frank. And it provides an avenue for Wall Street to sue the SEC for not following cost-benefit guidelines on any rule they implement. Incidentally, the Independent Community Bankers of America, who are supposed to be every reformer’s best friend these days, sent a letter to the House supporting the bill.

In the case of the rating agencies, I’m sure the SEC would welcome the opportunity to apply more analysis and talk it out until everybody forgets what it is they were supposed to be doing. Meanwhile, the essential corruption of their business model continues unabated.

I don’t know exactly how critical this would be, but for what it’s worth, the SEC Office of Credit Ratings is accepting comment letters on the roundtable and the proposed alternatives until June 3, if you’re so inclined.

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This entry was posted in Credit markets, Free markets and their discontents, Investment banks, Politics, Regulations and regulators, Ridiculously obvious scams on by .

About David Dayen

David is a contributing writer to Salon.com. He has been writing about politics since 2004. He spent three years writing for the FireDogLake News Desk; he’s also written for The New Republic, The American Prospect, The Guardian (UK), The Huffington Post, The Washington Monthly, Alternet, Democracy Journal and Pacific Standard, as well as multiple well-trafficked progressive blogs and websites. His has been a guest on MSNBC, CNN, Aljazeera, Russia Today, NPR, Pacifica Radio and Air America Radio. He has contributed to two anthology books, one about the Wisconsin labor uprising and another on the fight against the Stop Online Piracy Act in Congress. Prior to writing about politics he worked for two decades as a television producer and editor. You can follow him on Twitter at @ddayen.


  1. monday1929

    Very humorous-agencies can rate issues independently, for no fee, and thus prove they are “more accurate”, and thus win future business. Yeah, that is how the world works. In fact, it is clear, accuracy is not saleable, to put it generously.
    High Yield is at all time low rates;companies which will be bankrupt within 3 years can borrow at the rates treasuries were at 5 years ago.
    High yield Put options are being given away, and returns of 100 to one on those options are now available for the first time since the prior Delusional peak in 2007. Again, a portion of any profits that accrue to me, if any, will be pledged to NC, and to bounties to be paid for those who can bring Elite criminals to justice.
    Jamie Dimon, your days as a free man are numbered. keep selling me those cheap Puts, I’ll keep watching them expire worthless, until they don’t.

  2. Barbara Roper

    Thanks for this. It is good to be reminded that someone can still feel outrage at the SEC’s predictable lack of bold action instead of just taking it as a given. I’ve been reminding myself to keep good notes. Because there is going to come a point in the next financial crisis when people start asking how things could have so quickly devolved to the state they were in before the last financial crisis. The last few weeks will doubtless figure prominently in the dismantling of financial reform highlight reel.

  3. banger

    For those of us who have worked in Washington this is pretty typical of all efforts at “reform” that have come down the pike for some time. As I often have said “abandon all hope ye who enter here” is the motto in the nation’s capital. There are clear reasons for this having to do with the nature of power. Those that are trying to reform don’t have the muscle to compete with those who do have the muscle–it’s as simple as that. All legislation, Dodd-Frank, included is written to be gamed and nearly all legislation is gamed.

  4. Middle Seaman

    Why wouldn’t securities issuers return to old rating-shopping tricks? Did anyone go to jail? Pay fines? Lost face?

  5. Teejay

    I only managed to hear Senator Franken’s comments in the 3 hour SEC roundtable, so I can’t gauge the degree of foot dragging at the meeting. Mary Jo White has chaired the agency just over 30 days, which leads me to wonder how much she can be credited or blamed with the progress on implementing new rating agency rules. Aren’t we still looking at remnants of Chairwoman Shapiro’s tenure? Is it reasonable to expect evidence of a course correction at the 30 day mark? To be sure there are armies of saboteurs be they industry pros or congressional shills well equiped with monkey wrenches and molasses. Is it too early to tell if White is friend or foe?

  6. udo nomi

    who buys the securities that are rated through this gaming of the system? why would any person or institution knowingly buy financial products that are effectively overpriced and riskier than their face value rating?

    1. Gerard Pierce

      It’s kind of like the old Western story about the cowboy who is asked by his partner: “Why do you keep playing roulette? You know that the wheel is rigged. The answere: “It’s theonly game in town”.

    2. banger

      To ride bubbles–same as it was. Not everyone believes the rating agencies are the frauds they are and mainly they rate honestly. It reminds me of a close friend I had whose father was a made-man in a certain gang in NYC. My friend told me (this was back in the 60s) how payoffs were made–usually at the track. Certain races were fixed almost everyday but the rest were mainly honest. Every system has corruption in it and when it gets past a certain tipping point the system is threatened–are we there again? Not yet.

      1. nonclassical


        the bubble is already in evidence…when it yet again pops, perhaps you will not
        countenance so blithely..

        is this the new libertarian mode??

        1. banger

          Bubbles always burst, new ones are formed. I don’t think we’re in the place we were in 2006-08–the globalists have rationalized and stabilized the system for now through, largely, hidden agreements between the major actors. As for libertarianism–I’m a pragmatist–I want things to work and the federal government is in bad shape at the moment.

    3. nonclassical

      for answer, read Satyajit Das’, “Extreme Money”…documentation of egregious acts in various (all?) forms of speculative “leverage”…

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  8. DWoolley

    Dayen states “Changing the inherent conflict of interest that comes with the issuer-pays model would “create new conflicts,” be “costly and slow to implement,” and “cause uncertainty in the marketplace.” I swear they have these objections on a wheel somewhere, and they just spin it to determine the order in which they say them”.

    Brilliant! I laughed out loud!

    I am counting on California AG Kamala Harris to apply pressure on these folks-their SRO model doesn’t work like the neighborhood watch program. There is the inherent conflict of interest-making money selling AAA ratings to coax unsophisticated pension fund managers or providing accurate ratings (think Timberwolf), conflict.

    Making money AND providing accurate ratings is like placing Clark Kent and Superman in the same room.

  9. kevinearick

    Demographic Timing

    An empire is like a farmer throwing his kids under the tractor tire as needed for traction. The only difference between this empire iteration and its predecessors is that it ran out of geographic space to swap populations in and out as they were grown and collapsed, … and labor employed the Internet as a microscope on empire activity, while empire operators employed it to find the virtual space required to continue growing the ponzi – print, tax, spend. Where is the cash? Bring it out and let us see it.

    Registered voting is like a survey asking people if they have had extra-marital affairs, making decisions based on its literal interpretation. A better survey is the characteristics of the survey volunteers, and the non-profits funding the expedition. That’s the business of the most deliberative political body the world has ever seen, Congress. Bernanke is just supplying the crystal and the hay for the body politic to smoke.

    The whole point of an empire is to live off the work of others, which works out just fine for the majority, because it prefers to be directed in exchange for guaranteed income, simpleton insurance, especially when future generations are the guarantors, which is why Buffet and Kissinger are referred to as vampires. Ticks more like, but critters have their niches for a reason.

    If you think about it, allowing the majority to pull revenue forward and push costs back, rather than accepting responsibility for adapting to an increasingly difficult environment, suits your interest in distillation. One way to see evolution is to run your garbage disposal.

    The problem/solution is the fixed cost of the empire’s non-performing asset base. Unless you promise to deliver your children to the empire and provide the technology necessary to support the growing demographic stupidity, the empire collapses of its own dead weight. Civil bridges are not designed to support REIT indefinitely.

    An empire cannot exist without slave labor, entertained for the purpose. America is only a democracy in that the majority has voted to exempt itself from responsibility with social compliance. If everyone is participating, no one is responsible. Wrong assumption.

    Kissinger’s bid to avoid FIRE collapse in China has failed. Although the majority cannot be prosecuted under civil law, which is designed to provide sufficient scapegoats as necessary to repeat the cycle, until it can’t, it cannot find a scapegoat sufficient to stop the hemorrhaging, NOT ONE, let alone a group to be recycled back into the mix at a later date.

    Now we turn our attention to military law…

    The vortex fulcrum is adjusted by kids swapping in and out of the family civil law enforcement role, on the margin at the multiplexer gate, adjusting expansion and contraction in the event horizon blades, as needed for any given propulsion development. They are the spark plugs, transistors, or whatever other analogy suits your purpose.

    So, net, you have a rate of demographic deceleration ahead of a rate of demographic acceleration, with volumes and pressures in event horizons…now, where is that switch? The lock and the key complete development at fulcrum ignition. The chicken and the egg is relative to perspective.

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