An Honest Mistake

From the WSJ:

As Housing Boomed, Moody’s Opened Up
April 11, 2008; Page A1

Bond-rating agency Moody’s Investors Service used to be an ivory tower of finance. Analysts were discouraged from having a drink with a client. Phone calls from bankers went unanswered if they rang during intense, almost academic debates about credit ratings.

A decade ago, as the housing market was just beginning to take off, Moody’s was a small player in analyzing complex securities based on home mortgages. Then, Moody’s joined Wall Street and many investors in partaking of the punch bowl.

A firm once known for a bookish culture began to focus on the market share that affected its own revenue and profit. The rating firm became willing, on occasion, to switch analysts if clients complained. An executive overseeing mortgage ratings went skydiving with a client. By the height of the mortgage-securities frenzy in 2006, Moody’s had pulled even with its largest competitor, rating nine out of every 10 dollars raised in these instruments. It gave many of the bonds its coveted triple-A rating.

Profits at the 99-year-old firm, which John Moody started to rate railroad bonds, rose 375% in six years. The share price quintupled.

Now, Moody’s and the other two major rating firms, the Standard & Poor’s unit of McGraw-Hill Cos. and the Fitch Ratings unit of Fimalac SA, are under fire for putting top ratings on securities that ultimately collapsed in value. Investors, many of whom relied on ratings to signal which securities were safe to buy, have lost more than $100 billion in market value. The credibility of the ratings system is in tatters as new downgrades of mortgage securities come almost weekly. Investigators from Congress, the Securities and Exchange Commission and several state attorneys general are examining the rating firms’ practices.

Moody’s acknowledges it sometimes got things wrong in judging mortgage bonds, but says these were honest mistakes and not the result of efforts to garner market share. It says it has maintained its rigor and objectivity in a rating process that is still adversarial toward big investment banks.

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2 Responses to An Honest Mistake

  1. bairen says:

    Moody’s drank the kool aid and focused on short term revenue gains instead of building long term value for the firm and its shareholders.

    It’s amazing that the vast majority of Wall St pros didn’t realize that securities backed by loans from houses priced at all time highs and lending standards at all time lows might not be worthy of a AAA rating? What ever happened to doing your own due diligence? Didn’t they remember the tech and telecom scandals with analysts knowingly putting out bogus price targets?

    Only a few pros like Prem Watsa and the guys from Leucadia bought CDS (credit default swaps) that would give them big payouts if the subprime market imploded. (Disclosure: I own some Leucadia stock)

  2. make money says:

    Peter Schiff from EuroPacific Capital nailed this and everything else.

    Read his Crashproof book.

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