Senate Subcommittee: The Role of Credit Rating Agencies

(9 am. – promoted by ek hornbeck)

I saw Krugman on the TVeee over the Weekend. Something he said, made me think the Goldman Email Gate, was a big Mis-Direction.

So I decided to follow up on that hunch; I took to the Intertubes, and began to follow his trail of breadcrumbs …

Berating the Raters

By Paul Krugman, NYTimes — April 25, 2010

No, the e-mail messages you should be focusing on are the ones from employees at the credit rating agencies, which bestowed AAA ratings on hundreds of billions of dollars’ worth of dubious assets, nearly all of which have since turned out to be toxic waste. And no, that’s not hyperbole: of AAA-rated subprime-mortgage-backed securities issued in 2006, 93 percent – 93 percent! – have now been downgraded to junk status.

What those e-mails reveal is a deeply corrupt system. And it’s a system that financial reform, as currently proposed, wouldn’t fix.

Paul Krugman continues his spotlight of the Rating Agencies role the the Wall Street Mortgage crisis.

[…]

The Senate subcommittee has focused its investigations on the two biggest credit rating agencies, Moody’s and Standard & Poor’s; what it has found confirms our worst suspicions. In one e-mail message, an S.& P. employee explains that a meeting is necessary to “discuss adjusting criteria” for assessing housing-backed securities “because of the ongoing threat of losing deals.” Another message complains of having to use resources “to massage the sub-prime and alt-A numbers to preserve market share.” Clearly, the rating agencies skewed their assessments to please their clients.

Berating the Raters

Interesting.

Sounds like these “Pay to Play” Financial Analysts Salesman, knew they were dealing with something “dodgy” — when it came to these Sub-Prime backed securities.

So why did they give them their AAA “Stamp of Approval”, anyways?

Well that’s what the Investment Bankers wanted, and THEY definitely were willing to “Pay to Play”, for some AAA tinsel.     In a nutshell, it looks like “Payola” … $$$$ for $$$,$$$,$$$.00

Well that initial breadcrumb trail, was pointing in one direction — ie. it was time to “Go to the Source”, as I am often motivated to do.  So here are a few AAA-Nuggets from that archival excursion:

Committee Statement

April 23, 2010

Opening Statement of Senator Carl Levin, U. S. Senate Permanent Subcommittee on Investigations Hearing, Wall Street and the Financial Crisis: The Role of Credit Rating Agencies

In exchange for large fees, Wall Street firms helped design the [Residential mortgage backed securities] RMBS and CDO securities, worked with the credit rating agencies to obtain favorable ratings, and then sold the securities. Without credit ratings, Wall Street would have had a much harder time selling these products, because each investor would have had to rely on themselves to figure them out. Credit ratings helped make the sales possible by labeling certain investments as safe, using their trademark AAA ratings.

[…]

But those AAA ratings created a false sense of security. High risk [Residential mortgage backed securities] RMBS and CDOs turned out not to be safe investments. We heard in our first hearing how many of the high risk mortgages backing those securities were riddled with poor quality loans, contained fraudulent borrower information, or depended upon borrowers being able to refinance their loans before higher loan payments kicked in. When housing prices stopped climbing, and many borrowers could no longer refinance their loans, delinquency rates skyrocketed. RMBS and CDO securities rated as investment grade began incurring losses and were sharply downgraded.

Take, for example, a CDO known as Vertical ABS CDO 2007-1. In early 2007, UBS, which is a major bank, asked S&P and Moody’s to rate this CDO. The UBS banker, however, failed to cooperate with the analysts. One S&P analyst wrote in an email to colleagues: “Don’t see why we have to tolerate lack of cooperation. Deals likely not to perform.” That’s Exhibit 94b.

Despite the analyst’s judgment that the CDO was unlikely to perform, S&P rated it. So did Moody’s. In April 2007, both agencies gave AAA ratings to the CDO‘s top 4 tranches. Six months later, both agencies downgraded the CDO which later collapsed.

[…]

Conclusion

In the fall of 2007, Moody’s CEO Ray McDaniel called a town hall meeting to talk to his employees after the mass downgrades that shut down the subprime market. “What happened in ’04 and ’05,” he said, “is that our competition, Fitch & S&P, went nuts. Everything was investment grade. It really didn’t matter[.] … No one cared because the machine just kept going.”

A Moody’s managing director later responded our “errors make us look either incompetent at credit analysis, or like we sold our soul to the devil for revenue, or a little bit of both.

Permanent Subcommittee on Investigations (Home Page)

Senator Carl Levin is the chairman of the Permanent Subcommittee on Investigations.

Footnotes on: RMBS (a sidekick alias for CDO’s)

Committee Statement

April 23, 2010

Residential mortgage backed securities, or RMBS, are one of the oldest types of structured finance. To create these securities, issuers bundle up large numbers of home mortgages into a pool, figure out the total revenue coming into the pool from all the mortgages, and then design a “waterfall” that assigns portions of the total incoming revenue to what are called “tranches.” Tranches are not collections of mortgages, they are simply recipients of income from the waterfall of mortgage payments coming into the pool.

Each tranche is used to issue a mortgaged backed security that receives a credit rating and is then sold to investors. The tranches that are first in line to receive revenues represent the safest investments in the pool, and are designed to get AAA ratings. Tranches lower down the line get their revenues only after the more senior tranches are paid, and their securities get lower credit ratings.

Animation of the Tranche Waterfall

Brochure Graphics of the Income Streams from CDO’s

A “Waterfall” of Cash Flow … Hmmmm???

That must be somewhere near the “Fountain of Youth” — right next to those Withdrawal-Only ATM “Money Trees”!

Perhaps “Trickle down” and “Voodoo Economics” really HADN’T ended, when we once thought they did? — Perhaps these “bag holder” Economic Theories, have just been Re-packaged into AAA-CAN’T-LOSE Securities.

We, the People, get a Bill-of-Goods — They, the Players, get away with the Billions, and Scott Free, to boot!

I’m all for the “Free Market”, and making Real Investments, in our Real Economy.  In favor of, providing the essential funds so that Small Businesses can start creating the Green Jobs of the Future —

BUT the Free Market does NOT mean a License to Steal!

The “Free Market”, should NOT a Licence for reckless Bankers and “Rubber-Stamp” Rating Agencies, to trade away our National Wealth, on “paper thin” Derivative Bets, based on Nothing! —

The Top 5 Banks — March 2008

Nothing BUT some, NOW very tarnished Gold-plated Ratings!

Enough already!