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Credit rating agencies again step into the spotlight on Wednesday as a Congressional commission grills Warren Buffett, the billionaire investor, and former and current executives from Moody’s Investors Service about the sector’s role in the financial crisis.
The increased focus on credit rating agencies by legislators and regulators has dealt a huge blow to the share price of Moody’s and McGraw Hill, the media company that owns the other big credit rating agency, Standard & Poor’s.
Since mid-April, Moody’s shares are down 35 per cent and McGraw Hill shares have fallen 27 per cent.
The mistakes made by credit rating agencies in the run-up to the financial crisis shot to prominence after a Senate hearing on their role in mid-April. It combed over a series of embarrassing e-mails from rating agency employees about their misgivings about ratings for bonds linked to risky mortgages.
Carl Levin, the Democratic senator who heads the Senate panel, has said he hopes the findings will influence pending financial regulation, which he claims does not go far enough to untangle the conflict of interest between credit rating agencies and investment banks that pay companies such as Moody’s and S&P for their services.
Since then, proposals for legislation have been put forward as part of the broader regulatory reform package that could be signed into law soon.
To eliminate ratings shopping, where issuers hire the rating agencies that give them the highest ratings, the proposals suggest business be awarded by regulators.
That would limit the potential market share – and revenues – each agency could capture.
The rating agencies already face a record number of lawsuits related to mistakes made on mortgage-backed securities.
“The rating agencies have gotten more than their fair share of attention from a regulatory standpoint and that has clearly weighed on the stocks,” said Peter Appert, analyst at Piper Jaffray.
“The bills that have come out of Congress and the Senate may include some provisions that are cumbersome and would be costly to the rating agencies.”
Despite moves for more oversight and new rules about disclosure of information used to rate bonds, such as the triple A mortgage-backed securities that proved extremely risky, the basic business model that has underpinned rating agency profits has remained largely intact.
For the most part, issuers that sell bonds pay for the ratings, with the costs usually factored into the financing costs. “The rating agency business model can be adjusted to the new rules – we just need to know what they are,” said Mr Appert.
On Wednesday, the Financial Crisis Inquiry Commission, which is examining the causes of the crisis, will hold hearings in New York.
Mr Buffett, chairman of Berkshire Hathaway, which owns Moody’s shares, is due to speak about ratings and the financial crisis.
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