Rating agencies

  • 05 Feb 2013 at 12:54 PM

Some S&P Analysts Weren’t Happy With S&P’s Whole “Trying To Rate Deals” Thing

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Michael Lewis had this to say yesterday about Greg Smith’s criticisms of Goldman Sachs:1

None of this exactly came as news. The news was that a living, breathing Goldman employee had said it. There was also, between the lines, a fresh hope: Goldman had employed an idealist! For a decade!

That was pretty much my reaction to the Department of Justice’s curiously underwhelming complaint against S&P for misrating subprime-mortgage-backed securities in the run-up to the financial crisis. Wait: S&P got paid to rate deals, and wanted to rate more deals and get paid more, so it rated deals favorably? TELL ME MORE. But then it is enlivened by an occasional cameo from a quant truther whom you would not have expected to exist inside S&P. Like Executive H:

Or Senior Analyst C:

Haha what? You can tell that the DoJ is getting its analytical framework for this case from those quant truthers, but that framework is dumb. Read more »

  • 30 Nov 2012 at 6:17 PM

EFSF Conveniently Downgraded

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Here are two tiny little puzzles about Moody’s's’s downgrade of the European Financial Stability Facility from Aaa to Aa1 just now. But first, here is some math on EFSF guarantees; basically every €100 of EFSF bonds has €165 of member guarantees, of which €103ish were Aaa-rated and €62ish were not. Until Moody’s downgraded France last week. Now it appears that each €100 EFSF bond has only €67 of Aaa guarantees, €36 of Aa1, and €62 of … various lesser things.

So the puzzles: first, this thing – the EFSF – is basically a structured credit product that is roughly two-thirds guaranteed by a Aaa thing, one-third guaranteed by an Aa1 thing, and roughly another two-thirds guaranteed by an assorted lower-rated miscellany that you can safely ignore. Should that make it (1) Aaa, (2) Aa1, or (4) other? S&P, as it happens, has a mechanism to sort of solve this, which is to say that a bond is rated by its probability of defaulting. Discarding the cats and dogs (and ignoring correlation questions), something that is 1/3 AA+ and 2/3 AAA has about an AA+ chance of defaulting: even if those AAAs are rock-solid, a default by that AA+ counts 100% as a default. Moody’s doesn’t have that – they, in theory, rate structured products1 based on expected loss, not just chances that there will be a default. So something that is two-thirds Aaa and one-third Aa1 is … at least arithmetically closer to Aaa than Aa1, is it not? (Especially if you assume the cats and dogs add a little bit of recovery.) But here you are stuck in a granular world: a thing that is two-thirds Germany and one-third France may be better than France, but I guess it’s also worse than Germany, so you gotta pick one or the other and I suppose pessimism is always a good look.

But a second and possibly related puzzle: if you were the EFSF, would you be bummed about being downgraded? Here is a weird fact2 (via Alea): Read more »

  • 22 Oct 2012 at 7:36 PM

S&P Doesn’t Want Banks To Be Too Safe

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What is this S&P paper on how the Volcker Rule could force S&P to lower ratings on banks? One basic intuition you could have is that the earnings you get from prop trading are not particularly stable so shouldn’t count for much in your credit ratings; on this intuition things like highly levered hedge funds and Berkshire Hathaway should be bad unsecured credits so, y’know, shows what I know.1 But really if you had to choose purely from a credit ratings perspective between:

  • Thing A makes $1 billion a year on like investment banking fees and stock trading commissions, versus
  • Thing B makes $2 billion a year on prop trading some stuff, but it won’t tell you what stuff, but it’s all financed with repo,

You’d pick Thing A, right? To lend to? To some approximation the guys who’ve blown up their creditors are the guys with risk positions on their balance sheets (Lehman, MF Global); the guys who just run out of fee-based business mostly wind up their debts before expiring. Or don’t have many debts to begin with, because why would you incur massive unsecured debts to just execute client orders on commission?2 Anyway here’s S&P: Read more »

  • 22 Jun 2012 at 10:03 AM
  • Banks

Moody’s Slightly Reduces Overrating Of Banks

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Are we supposed to care about these downgrades? I like Glenn Schorr at Nomura, emphasis mine:

We think the net financial impact of these downgrades will be manageable as 1) potential collateral calls are small percentages of these firms’ liquidity pools; 2) counterparties have been preparing for this for some time and ratings downgrades have been an issue for the last 2+ years (there was little impact on Citi and BAC when they were downgraded back in September of 2011); 3) ratings are a relative game: given that Moody’s downgraded all capital markets firms, no single-firm is an outlier, so we don’t expect to see one company uniquely impacted. Yes, we get that counterparties looking to do long-dated derivatives might prefer a single-A rated entity, but as Basel III is implemented and more derivatives move to central clearinghouses, counterparty ratings should become less meaningful and clients will adapt (and not do all their business with JPM and GS).

It would be a serious misinterpretation of credit ratings to think of them as a global rank ordering of risks in the world. “A-rated things are of course safer than BBB-rated things,” you say, and get punched in the face repeatedly by life. A-rated things are not safer than BBB-rated things. A-rated RMBS CDOs were not safer than BBB-rated corporates, A-rated corporates are not safer than BBB-rated municipalities, and A-rated banks are it goes without saying not safer than BBB-rated software companies. Nobody really suggests otherwise – if they did, this graph would be a huge embarrassment to Moody’s: Read more »

  • 21 Jun 2012 at 5:54 PM

Moody’s: Banks Do Things That Are Bad And Good And Bad For Them

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Moody’s Investors Service downgraded the debt ratings of 15 major international banks and securities firms on Thursday, a move that could cost the banks billions of dollars in extra collateral…U.S banks that were downgraded included: Bank of America, Citigroup, Goldman Sachs, JPMorgan, and Morgan Stanley. “All of the banks affected by today’s actions have significant exposure to the volatility and risk of outsized losses inherent to capital markets activities,” Moody’s said in a statement. “However, they also engage in other, often market leading business activities that are central to Moody’s assessment of their credit profiles,” the firm added. “These activities can provide important ‘shock absorbers’ that mitigate the potential volatility of capital markets operations, but they also present unique risks and challenges.” [CNBC, related]

  • 16 May 2012 at 5:53 PM

European Banks Want To Make Rating Agencies Stupider

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It’s sort of easy these days to worry about banks. Banks do worrying things, etc. Bankers are only human and sometimes they get things wrong. Arguably those errors are systematically biased in favor of risk, what with the bankers being incentivized by asymmetric incentives and so forth.

One thing that could help you sleep at night is that other people are keeping a close eye on banks. Other people like their regulators. And like Moody’s and S&P and Fitch. Also other people like, I don’t know, David Tepper or something, but a thing to like about regulators and rating agencies specifically is that they have inside information. If you believe, as many do, that big banks are far too opaque for you to have any hope of evaluating them based on public disclosures, then the confidence of other public-market debt and equity investors – however smart and motivated by, y’know, the prospect of making money they might be – should only give you so much comfort: they’re relying on the same opaque financials as you are. Regulators, on the other hand, can see literally whatever they want about a bank’s book, and rating agencies can and do (sometimes) get lots of nonpublic information from the banks in formulating their ratings judgments. If the Fed and the OCC think a bank is sound, and Moody’s and S&P think it is investment grade, who are you to worry about its creditworthiness? Don’t answer that.

Anyway this is weird: Read more »

  • 11 May 2012 at 6:22 PM
  • Banks

Spare Some Worrying For Ratings-Triggered Collateral

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Remember how a week ago people went around bothering themselves about Bank of America’s derivatives? Specifically how if they get downgraded, as seems plausible, they will have to come up with a zillion more dollars for derivative collateral? And how earlier this week they did the same for Morgan Stanley?

Anyway we talked about it a bit and I put up a table that I figured I’d update when it was complete and now it is so here it is. Also a JPMorgan downgrade, which looked hilariously unlikely 25 hours ago, looks more likely so I guess this is relevant even where it wasn’t before. So here is how much cash various banks will need to stump up – to post as collateral on OTC derivatives or to clearinhouses, or to pay on termination of trades – if they are downgraded two notches:


Read more »

  • 09 May 2012 at 5:15 PM

Former S&P Analyst Has Some Things He’d Like To Get Off His Chest

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Yesterday we talked a bit about this lawsuit bubbling around where some investors are suing Moody’s and S&P for doing a not so great job rating some asset-backed SIVs called Cheyne and Rhinebridge. I said then that the rating agencies were probably pretty keen to avoid going to trial for negligence, because, well

Because … look, maybe the ratings agencies weren’t negligent in rating these things, maybe their models made sense at the time and were falsified by unexpected future events that no reasonable person could have predicted, but … I’m gonna guess that if this goes to trial they will look bad. I mean, they look bad already, no?

A reader helpfully pointed to a preview of what a trial would look like for S&P and Moody’s, in the form of this interview report,* filed by the plaintiffs in February, of former S&P senior quantitative analyst Kai Gilkes, who among other things says that their models made no sense at the time and he predicted that they’d be falsified by expected future events: Read more »

  • 08 May 2012 at 5:30 PM

Ratings Agencies Can Be Sued As Long As They Lie To Few Enough People

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One thing that looks pretty certain is that lawsuits over crisis-era structured credit products will be around for the rest of our natural lives, burbling around in courts and every now and again surfacing in a Reuters article with a bunch of nine-digit numbers and acronyms of defunct German banks. This is comforting, in a way, but also worrying. How many are there? What are they all about? What is the aggregate amount of liability? Who owes it? It all seems unknowable. Remember how Judge Jed Rakoff rejected that SEC/Citi MBC CDO settlement, and it got appealed, and the appeals court disagreed but it’s still kicking around? Just in the past few days, Rakoff approved a $315mm class action settlement over $16.5bn of Merrill MBS. Did you know that was happening? There’s this thing, with some banks suing the New York insurance regulators over the restructuring of a monoline that insured some structured products, which is like a derivative on a derivative on a derivative on a derivative of the mortgage mess. The supply is endless. Everyone is suing everyone about everything.

Particularly enjoyable, though, are the lawsuits against ratings agencies for rating structured products that are bopping around in federal court in New York. Here’s some news on that front: Read more »

  • 19 Apr 2012 at 3:53 PM

Quis Custodiet Ipsos Egan-Joneses?

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Let’s not stop there with the clichés.* Here’s a great one: “never attribute to malice that which can be adequately explained by stupidity.” In applied form: your model of all the AAA mortgage CDOs that were maybe not so AAA could be “ratings agencies were paid by banks so they were venal and corrupt and sold the banks good ratings on products they knew were bad.” Or it could be “ratings agencies created medium-dumb criteria to make a thing be AAA, and bankers who were smarter than medium-dumb arbed those criteria to make more things be AAA than should have been AAA.” The incentives model has good economic theory behind it, and some suggestive evidence; the stupidity model has that lovely cliché but also some evidence, about which more later.

But first hilarious contrarian ratings agency Egan-Jones is in trouble: Read more »

  • 16 Dec 2011 at 2:04 PM

Fitch: You Should Just Give Up Already

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Fitch Ratings lowered its outlook on France’s triple-A rating to “negative” from “stable,” indicating there is a 50-50 chance the nation could lose its top investment-grade rating over the next two years. The move came as Fitch also placed its ratings on six other euro-zone nations, including Spain and Italy, on watch for downgrade after it concluded a “comprehensive solution” the region’s debt crisis is “technically and politically beyond reach.” [WSJ]