Standard & Poor’s, whose unprecedented downgrade of US debt triggered a worldwide sell-off in equities is pushing against a US government proposal that would require credit raters to disclose “significant errors” in how they calculate their ratings.
S&P, accused by the Obama administration of making an error in its calculations leading Friday’s downgrade, raised concern about the proposed new corrections policy and other issues in an 84-pg letter to the Securities and Exchange Commission, dated August 8.
The SEC is weighing sweeping new rules designed to improve the quality of ratings after their poor performance in the financial crisis.
The 517-pg proposal includes a requirement that ratings agencies post on their websites when a “significant error” is identified in their methodology for a credit rating action.
The letter was sent 3 days after the US Treasury Department accused S&P of miscalculating by some US$2-T the US debt in the next 10 yrs. That calculation was in a draft press release announcing a downgrade in the government’s credit rating from AAA to AA-plus.
S&P vehemently denied it had made an error, but acknowledged that it changed its long-term economic assumptions after discussions with the Treasury Department.
It switched to another economic scenario that resulted in a debt load US$2-T smaller by Y 2021, but it said that did not affect its decision to downgrade the US debt.
S&P’s criticism of the “significant error” proposal is part of a broader concern that the SEC’s reforms prompted by the Dodd-Frank financial oversight law gives the US government undue influence over its ratings decisions.
S&P is facing a tense relationship with Washington. Its downgrade sparked a backlash from Obama Administration officials and lawmakers from both sides of the aisle.
A Senate Banking Committee aide Monday said the panel has begun looking into S&P’s decision to downgrade the US credit rating.
The SEC’s proposal, issued in May, contains a wide range of provisions, including requiring credit raters to disclose more about their internal controls, to protect against conflicts of interest, and to reveal more about their rating methods.
But one issue that rubs Standard & Poor’s the wrong way is the proposed requirement that raters disclose when a “significant error” is identified in a procedure or methodology, and especially, who should define what that is.
The SEC’s proposal asks questions about whether the SEC should define the term “significant error.”
“If the commission were to define the term significant error, we believe it would effectively be substituting its judgment” for the credit-rating agencies, S&P President Deven Sharma said in the letter.
He said S&P’s own error correction policy “has proven to be effective and, where errors have occurred, our practice of reacting swiftly and transparently has benefited the market.”
Barbara Roper, director of investor protection for the Consumer Federation of America, said that policy is and has proven inadequate. “What was their correction policy on their Enron rating? What was their correction policy on their Lehman rating? What was their correction policy on their Bear Stearns rating? They do not have an error correction policy, they have an error denial policy, and the SEC is absolutely right to step in,” Ms. Roper said.
McGraw Hill’s Standard & Poor identifies numerous issues with the SEC’s proposal, including concerns about competition and that rules are consistent Globally.
Of the Big 3 raters; S&P, Moody’s Corp and Fimalac SA’s Fitch Ratings, the S&P was the only 1 to raise major concerns in its letter to the SEC about the “significant error” provision.
The measure was tucked into Dodd-Frank after the rating firms gave glowing ratings to toxic sub-prime mortgage-backed securities and then were slow to downgrade them.
A Senate investigations panel issued a report earlier this year faulting S&P and Moody’s for triggering the financial crisis with their flawed ratings and subsequent decision to downgrade them en masse.
The Big 3 ratings agencies have spent well over US$1-M lobbying Congress and federal agencies since January as they press for changes to the regulations, according to data from OpenSecrets.org.
Ms.Roper said S&P’s push back to the “significant error” proposal underscores the need for tougher reforms.
“If anything, their letter suggests it is absolutely necessary that the SEC define it because absent a definition, these guys will obfuscate,” she said.
Paul A. Ebeling, Jnr.
Paul A. Ebeling, Jnr. writes and publishes The Red Roadmaster’s Technical Report on the US Major Market Indices, a weekly, highly-regarded financial market letter, read by opinion makers, business leaders and organizations around the world.