Credit rating agencies could be held liable for investor losses on complex securities backed by risky US subprime mortgages and other assets, according to a study.
Any such liability could dramatically change the rating business by upsetting the agencies’ traditional position that their ratings are simply opinions covered by constitutional protections for free speech.
That argument has generally proved successful for the agencies in defending lawsuits brought by investors.
But the study, released in draft form last week, contends that, in the huge and growing structured finance market, agencies have become too close to the deals they rate.
The study’s authors say rating agencies have deviated from their traditional roles as providers of opinion and instead co-operate closely with investment bankers to help them secure the desired ratings to sell deals to investors.
“Unlike the traditional ratings process, in which a company can do little to change its risk characteristics in anticipation of issuance, in structured finance, the rating agency is often an active part of structuring the deal,” wrote co-authors Josh Rosner, consultant at Graham Fisher, the investment research firm, and Joseph Mason, associate finance professor at Drexel University in Philadelphia.
The big three ratings agencies – Moody’s, Fitch and Standard & Poor’s – were quick to dismiss this on Thursday, saying their role was limited to producing a rating opinion and that their rating criteria were publicly available for investment banks to use to structure transactions.
Investors have yet to test this new line of attack in any lawsuit.
In the past, agencies have responded to investor lawsuits – including those filed after the default of Orange County in California and the collapse of Enron – with the claim that they are publishers of opinion protected by the First Amendment to the US Constitution.
But Mr Rosner and Prof Mason say rating agency co-operation with deal underwriters, who also pay for the ratings, could lead courts to consider the agencies themselves as underwriters under US securities law.
