Transparency needed to end Wall Street's ratings game

Reuters ran an article describing how rating firms, in a replay of the run-up to the financial crisis, are once again using more favorable ratings to win business.

Regular readers know that the way to end this ratings game is to require transparency.  Specifically, valuation transparency so that all market participants have access to all the useful, relevant information in an appropriate, timely manner.

With equal access to the useful, relevant information, market participants can choose to independently assess this information for themselves or hire a third party expert to do the assessment for them.

Regardless of whether market participants do the assessment themselves or hire a third party the result is the dependence of the financial system on the rating firms is ended.

They become nothing more than a third party expert competing for business.

Five years after inflated credit ratings helped touch off the financial crisis, the nation’s largest ratings agency, Standard & Poor’s, is winning business again by offering more favorable ratings. 

S.& P. has been giving higher grades than its big rivals to certain mortgage-backed securities just as Wall Street is eagerly trying to revive the market for these investments, according to an analysis conducted for The New York Times by Commercial Mortgage Alert, which collects data on the industry. 

S.& P.’s chase for business is notable because it is fighting a government lawsuit accusing it of similar action before the financial crisis. 

As the company battles those accusations, industry participants say it has once again been moving to capture business by offering Wall Street underwriters higher ratings than other agencies will offer. 

And it has apparently worked. Banks have shown a new willingness to hire S.& P. to rate their bonds, tripling its market share in the first half of 2013. ... 

“The general consensus was that these changes have let them get their market share back,” said Darrell Wheeler, a bond analyst at Amherst Securities....

But David Jacob, who ran the S.& P. division that rated mortgage-backed bonds until 2011, said that in his time at the company, after the financial crisis, he saw employees adjusting criteria in response to business pressure. 

“It’s silly to say that the market share doesn’t matter,” said Mr. Jacob, who is now retired. “This is not God’s holy work. It’s a business.”...

But Mr. Shugrue said that the little things being allowed could turn into steps toward much bigger problems. 

“You can see that we are slipping our way back to 2007,” he said.