Steel Comments On SEC Rating Agency Proposals

by Glen Shapiro, LawAndTax-News.com, New York

13 June 2008

US Under Secretary for Domestic Finance, Robert K. Steel on Wednesday commented on the Securities and Exchange Commission's proposed rules for improving credit rating practices.

The SEC voted to formally propose a series of credit rating agency reforms, in order to bring increased transparency to the ratings process, and curb practices that contributed to recent turmoil in the credit market.

Mr Steel observed that:

"Today's SEC action is an important step to enhancing disclosure to investors and market participants about the processes and practices of credit rating agencies and towards addressing conflict-of-interest issues."

"The President's Working Group on Financial Markets made several recommendations in March addressing credit rating issues, including review and disclosure by credit rating agencies, due diligence on the part of investors, and an assessment of the use of ratings in rules and regulations by supervisors. This SEC action makes a significant contribution towards implementing the PWG's recommendations."

The Commission is proposing the rulemaking in three parts, with the first two portions unveiled on Wednesday, and the third portion to be considered on 25th June.

The first part of the Commission's proposal would:

• Prohibit a credit rating agency from issuing a rating on a structured product unless information on assets underlying the product was available.
• Prohibit credit rating agencies from structuring the same products that they rate.
• Require credit rating agencies to make all of their ratings and subsequent rating actions publicly available. This data would be required to be provided in a way that will facilitate comparisons of each credit rating agency's performance. Doing this would provide a powerful check against providing ratings that are persistently overly optimistic, and further strengthen competition in the ratings industry.
• Attack the practice of buying favorable ratings by prohibiting anyone who participates in determining a credit rating from negotiating the fee that the issuer pays for it.
• Prohibit gifts from those who receive ratings to those who rate them, in any amount over USD25.
• Require credit rating agencies to publish performance statistics for 1, 3, and 10 years within each rating category, in a way that facilitates comparison with their competitors in the industry.
• Require disclosure by the rating agencies of the way they rely on the due diligence of others to verify the assets underlying a structured product.
• Require disclosure of how frequently credit ratings are reviewed; whether different models are used for ratings surveillance than for initial ratings; and whether changes made to models are applied retroactively to existing ratings.
• Require credit rating agencies to make an annual report of the number of ratings actions they took in each ratings class, and require the maintenance of an XBRL database of all rating actions on the rating agency's Web site. That would permit easy analysis of both initial ratings and ratings change data.
• Require the public disclosure of the information a credit rating agency uses to determine a rating on a structured product, including information on the underlying assets. That would permit broad market scrutiny, as well as competitive analysis by other rating agencies that are not paid by the issuer to rate the product.
• Require documentation of the rationale for any significant out-of-model adjustments.

The second part of the Commission's proposal would oblige credit rating agencies to differentiate the ratings they issue on structured products from those they issue on bonds, either through the use of different symbols, such as attaching an identifier to the rating, or by issuing a report disclosing the differences between ratings of structured products and other securities.

The third set of recommendations for the Commission's proposal, to be considered on 25th June, are being designed to ensure that the role the SEC has assigned to ratings in its rules is consistent with the objective of having investors make an independent judgment of risks, and of making clear to investors the limits and purposes of credit ratings for structured products.

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