ratings agencies

Maybe this is just an effect of distance or translation, but one thing I really like about reading the fulminations of European politico-financey types is that they are savvier than their American counterparts about who to pick on. I never see a European politician or central banker quoted in the FT attacking poor children. They’ve got better scapegoats. Any time anyone says anything bad about European financial governance, they can go back to the well of “really this is all the fault of eeeevil financial speculators and ratings agencies.” And nobody likes those guys, because they’re eeeevil and dipshits, respectively.

So lots of European politico-financy types are very publicly very not amused by S&P’s threats to downgrade all of Europe, though I suspect that deep down a lot of them are excited to be able to spend today making fun of S&P rather than fielding serious questions about whether rising Italian yields are going to lead to trench warfare. So Christian Noyer of the Banque de France:

“The rating agencies were one of the motors of the crisis in 2008,” Mr Noyer said. “One can ask if they are not playing that role again today.”

Or: Read more »

Ratings Agencies Incentivized By Incentives, Part 2

A thing about credit ratings is that issuers pay for ratings, and the issuers who pay more get better ratings. This is a problem that many people want to solve either by the obvious approach of having someone else pay for ratings or by the fancier approach of having issuers pay for ratings but not letting agencies compete directly for that money.

Today a paper by three accounting professors reminds us that the first approach has been tried, and not just by Egan-Jones. In the early 1970s, while Moody’s was charging issuers for ratings, S&P was still charging investors, so there was a period where you could directly compare the ratings of two big established agencies, one of whom had incentives to give actionable advice to investors, the other of whom had incentives to give good ratings to issuers. You will not be surprised at what happened: Read more »

Fitch released a report today saying “ohmygod banks Europe” and the market went down and maybe there’s a causal link, whatever.

The report mostly takes notice of US banks’ European exposures in general, and the mystery of net versus gross derivatives exposure in particular, in which one asks “if Bank A sells CDS on $100bn of Italian debt to Bank B, and buys CDS on $100bn of Italian debt from Bank C, then when things go pear-shaped is it on the hook for zero (because it has no ‘net exposure’) or $100bn (because Bank C goes belly-up) or somewhere in between (because of collateral, sub-1 correlations, etc.)?”

It’s an important question: net exposures are manageable, gross exposures are terrifying, and there are legitimate questions about whether in a stress case the netting could break down. Various people who are smarter than me have tried to triangulate around parts of the answer using public data.

I don’t know the answer and doubt I’ll find out, though my gut is that netting should kind of sort of mostly work (I find Graph 5B of this, and the definition of “bilateral netting,” oddly comforting). What troubles me today, though, is that Fitch has no clearer answer than I do. Read more »

Michael Feroli at JPMorgan had an interesting note this morning (via ZH) on the Republican letter to Bernanke, pointing out that this sort of saber-rattling against easing might actually make it more likely as a way for the Fed to assert its independence.

Moody’s downgrade of BAC/WFC/C, on the other hand, may have the opposite effect, precisely because the government hasn’t yet been able to declare its independence from the ratings agencies. Moody’s cut the banks’ credit ratings because they think the government is less likely to bail them out if they run into trouble. And that downgrade itself may have the effect of making the government less likely to bail out the banks if they run into trouble.
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  • 08 Aug 2011 at 11:52 AM

Nothing Will Ever Be AAA Again

We assume that you, like everyone else, have been madly dumping Treasuries now that S&P has downgraded them. Smart! And presumably in your flight to safety you’ve been buying AAA rated corporate bonds, from let’s say XOM or MSFT. Which are obviously safer than Treasuries because, while sure the U.S. Treasury can print dollars and Microsoft and Exxon can’t, Microsoft can always send out a secret electronic signal that makes your Windows crash 100% of the time instead of the steady-state 20%, which will force you to upgrade to the next version, which is pretty much the next best thing to printing money. And if XOM is short on cash it can just start a war in the Middle East (that’s how it works right?).

So you think you’re in pretty good shape right? Not so fast – your shit is still really AA+.

The problem is that S&P this morning downgraded Depository Trust Company to AA+ in sympathy with the sovereign downgrade:
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Off by $2 trillion? NBD. Read more »

The Times today has a long piece about companies that lost their AAA ratings, with the number of nonfinancial AAAs going from 60-ish in the 1980s to four (JNJ, ADP, XOM, MSFT) today. Why did they lose the AAA rating? Well, “it became seen in board rooms as more of a straitjacket than a path to riches. Just as many consumers relied on their credit cards to finance a higher standard of living, companies took on more debt to reap bigger returns.” Or, in UPS’s case, “the ratings agencies started knocking down the company’s credit rating to AA because of the new pension arrangement” that it struck with its unions in 2007.

So … know anyone else who is borrowing to try to juice economic growth and/or dealing with ballooning retirement-and-medical obligations? Oh, right, those guys. America. Which Moody’s and Fitch reaffirmed at AAA (negative outlook) yesterday and which S&P is going to moan about for a while longer. The Times again:

But the truth is, even as the government maintained its AAA grade, the markets suggested long ago that the United States was no longer deserving of such a high rating.

The credit-default swap market provided one clue. … Even today, the price of insurance on a government default has been higher than that for Colgate Palmolive, the global toothpaste giant, which has a rating two notches below AAA.

Which is weird, right? Because sovereign ratings mostly overpredict default – that is, default rates on sovereigns at a given rating are below those on corporates. Here’s somewhat old S&P data: Read more »