The Vendetta Against S&P, part II
WASHINGTON -- My last column on the federal suit against the bond-rating rating agency Standard & Poor's drew some critical reactions that are worth sharing with readers. In the column, I argued that S&P, which badly erred in rating bonds tied to home mortgages, was being made a scapegoat for the financial crisis. As is well-known, this crisis -- with some exceptions -- was not foreseen by government officials, economists or bankers. S&P's sins, I wrote, stemmed more from this over-optimism than from a deliberate effort to mislead markets.
One skeptical response came from an economist I know and respect. He wrote that although he "largely" agreed with the column, he thought I "let S&P off too easily." Here's the crucial passage in his email:
"The rating agencies have historically done a pretty good job with their corporate ratings, but they have a real conflict of interest on securitizations [the bundling of many separate loans or bonds into a larger bond]. On corporate bonds ... their fees are pretty much the same no matter what the rating. On securitization, an unwillingness to give an AAA rating to a large enough tranche of the offering would kill the transaction. So, the agencies become effective partners in structuring the transactions and had a real incentive to take an encouraging approach."
I think this is probably true. The Department of Justice argued, on the basis of internal company emails and documents, that S&P delayed altering its risk models in ways that would have lowered ratings for mortgage-related bonds. The crux of the case against S&P is that its ratings were distorted by its business interests and were not "objective" and "independent" as promised.
But these erroneous and self-serving judgments could as easily have been influenced and rationalized by the euphoria surrounding housing in the boom years. As I noted, there was a broad belief -- which now appears foolish -- that home prices would rise for the foreseeable future. If that had happened, the housing "bubble" would never have burst and the financial crisis never would have occurred. I also put stock in the fact that many issuers of mortgage-backed securities (Citigroup, Merrill Lynch, etc.) invested heavily in them. They knew the quality of the underlying mortgages as well as anyone; yet, they kept them, presumably because they believed the securities were good investments.
By contrast, the Department of Justice alleges that S&P "knowingly and with the intent to defraud" awarded excessive ratings to the mortgage-backed securities. This is a much stronger charge than simply accusing S&P of erring on the side of
self-interest. The complaint offers emails and other internal documents in support of this conspiracy, but I found the evidence weak. Most organizations have dissenters from official policy, and some will disagree in colorful language. And remember: S&P hasn't yet issued a detailed rebuttal based on its own reading of the emails and documents.
Another interesting reaction came from a reader -- unknown to me -- who works in the financial services industry. My column, he said, "leaves out something vital." The complaint against S&P, he said, "could also serve to punish [S&P] for downgrading the federal credit rating in 2011 -- note that Fitch and Moody's [the other main rating agencies] did not follow suit in 2011 and are not being sued."
The administration, of course, admits no such thing. The two events (the suit and S&P's downgrade of Treasury debt) may be unconnected. But it's clear from this email and other commentary that many people in the financial community believe the two are related, even if they can't prove it. They think S&P is a victim of retaliation.Copyright 2013 Washington Post Writers Group