Mortgage Securities Still Being Rubber-Stamped by Ratings Agencies

Ratings agencies, like Standard & Poor’s, are still having issues when it comes to rating complex <"">mortgage backed securities, according a new ProPublica report. The failure of ratings agencies like Standard & Poor’s to properly rate mortgage securities played a huge role in the financial meltdown of two years ago. The ProPublica report makes it clear that the ratings agencies are still susceptible to the same problems that plagued them before the crisis.

The new problems revolve around a type of security known as re-remics – mortgage bonds that had collapsed in the meltdown that have since been rebundled into new securities by Wall Street. Standard & Poor’s and the other ratings agencies rated billions of dollars worth of these bonds, mostly in the last two years, but according to ProPublica, these have been defaulting at an alarming rate. That includes bonds rated Triple-A – a designation that supposedly indicates they are “exceedingly safe.”

Two weeks ago, Standard & Poor’s announced it would be downgrading its ratings on almost 1,200 complex mortgage securities, two thirds of which it only rated last year. According to ProPublica, of the more than $85 billion of re-remics issued since 2009, an estimated $30 billion may be under review by Standard & Poor’s.

Some of the same issues that caused the ratings agencies to basically rubber stamp mortgage securities before the financial crises are still present today, ProPublica said. Pre-crises, bankers knew more about their bonds than the ratings agencies did and took advantage to get good ratings. The same thing appears to have occurred with re-remics.

And the banks appear to have been “ratings shopping,” again, that is, seeking out the most lenient firms, rather than the best. According to ProPublica, pre-crisis, Standard & Poor’s was slower to lower ratings on mortgage bonds than Moody’s, another ratings agencies. With Standard & Poor’s handling of re-remics, history appears to have repeated itself.

Unfortunately, it doesn’t appear federal regulators will be doing anything to address the ratings agency problems anytime soon. While the recently enacted Dodd-Frank financial reform bill did include provisions that would hold the agencies liable for material errors and omissions in their ratings, those provisions are in limbo. According to ProPublica, the agencies revolted against the new rules, and refused to allow their ratings to be used in offering circulars, freezing up the markets. The Securities and Exchange Commission (SEC) responded by giving the ratings agencies what they wanted, by suspending the rule for six months, pending more study. Then in late November, the agency extended the delay indefinitely, according to ProPublica.

Then, last month, the SEC announced that it doesn’t have the money to put into effect big parts of the Dodd-Frank reforms. According to ProPublica, the initiatives put on hold include the formation of the “Office of Credit Ratings,” which would oversee the ratings agencies. Now, with Republicans controlling the House of Representatives, it’s highly unlikely that the SEC will have the budget it needs to go forward with many of the Dodd-Frank reforms.

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