Ratings Agencies Face Call for More Regulation

Proposed regulations for credit rating agencies would promote transparency, resolve conflicts of interest and empower the Securities and Exchange Commission (SEC) to better monitor the tools investors use to evaluate financial products, according to legislation the Obama Administration presented to Congress Tuesday. Ratings agencies have faced criticism for over-rating mortgage-backed and other asset-backed securities created by their clients but that were comprised of assets that turned out to be toxic. Since the subprime mortgage fallout, critics have called for regulation of the firms. The administration’s proposal would require nationally recognized statistical rating organizations (NRSRO), like Fitch Ratings, Moody’s Investor Services and Standard & Poor’s, to register with the SEC. In turn, the SEC would establish an office dedicated to NRSRO oversight, and the agencies would be required to submit regular reports on internal controls, due diligence ratings methodologies to that office. “In recent years, investors were overly reliant on credit rating agencies that often failed to accurately describe the risk of rated products,” according to an unsigned Treasury Department statement issued Tuesday. “This lack of transparency prevented investors from understanding the full nature of the risks they were taking.” The ratings agencies would also be required to designate dedicated compliance officers who would report to their firm’s board and CEO. This compliance officer would be responsible for ensuring the legislation’s new initiatives are implemented. These new rules would prevent agencies from consulting for companies they rate, a restriction similar to one placed on accountants. The agencies would also have increased disclosure responsibilities, including fees paid for rating reports and potential business conflicts of interest. The proposed legislation comes after last week’s testimony from SEC chair Mary Schapiro to a House Financial Services subcommittee, which called for, among other things, an end to “ratings shopping,” — the practice of soliciting “preliminary ratings” from multiple agencies and then purchasing and reporting the highest rating. The administration’s proposed legislation would require issuers disclose all preliminary ratings it requested. The regulations would even go so far as to require NRSROs to use different rating symbols for different types of structured products. Under the proposal, asset-backed securities would have a different ratings scale than corporate bonds. Write to Austin Kilgore.