REFinBlog

Editor: David Reiss
Cornell Law School

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November 20, 2012

“Downgrading Rating Agency Reform”

By David Reiss

This is the title of Jeffrey Mann’s forthcoming article.  He writes

The most important part of the Act remains the most unresolved: the SEC’s mandate to design an alternative rating industry    business model to address the conflicts of interest created by debt issuers’ selecting and paying their rating agency gatekeepers.  Prospects for the creation of an independent commission to select rating agencies for structured finance products have foundered due to the challenges of crafting benchmarks for rating agency performance to use in selecting rating agencies and holding them accountable. The use of any performance-based standard to select or evaluate rating agencies risks fueling herding effects as rating agencies may shape their methodologies to game the system rather than to enhance accurate and timely assessments of credit risk.  (page 5, emphasis added, footnotes omitted)

How to regulate the rating of structured finance products remains the key issue in rating agency reform.  It is a much knottier issue than the rating of corporate or municipal debt because rating agencies have historically played a key role in designing these securities so that a given pool was rated investment grade to the greatest extent possible.

November 20, 2012 | Permalink | No Comments

November 19, 2012

FHA 2012 Annual Report on MMIF Shows Great Stress on Agency

By David Reiss

The report‘s findings show that the academic critics (here and here) of the FHA’s risk analysis were on to something over the last couple of years.

November 19, 2012 | Permalink | No Comments

SEC 2012 Report on NRSROs

By David Reiss

This SEC staff report has some interesting findings that relate to asset-backed securitizations.  Highlights include

  • The pie charts on page 6 that indicate the overall market share of NRSROs as well as their share by sector.  It is interesting to see that Fitch does significantly better rating Asset-Backed Securities (20%) than it does overall (13%).
  • “In some structured finance rating files, the Staff found incomplete rating recommendations relating to the final tranches and were unable to ascertain what the committee ultimately approved. In some instances, there was no rationale recorded for why the final rating recommendation deviated from the original.” (14)
  • “The Staff found that [one large] NRSRO placed certain European residential mortgage-backed securities tranches on watch for potential downgrades for over two years and failed to review the watch within the timetable specified in its policies. In doing so, the NRSRO failed to follow its policies and procedures with regard to the use of rating watch status and the timeliness of reviews conducted on the rating watch status. The NRSRO also failed to apply new criteria to these transactions within the time period required by its policies.”  (13)

November 19, 2012 | Permalink | No Comments

More on Hockett’s Eminent Domain Solution for Underwater Mortgage Debt

By David Reiss

Bob Hockett has posted this update to his plan by which localities would use their power of eminent domain to take underwater mortgages and reduce the principal amount owed so that the debt would be sustainable for homeowners.  The discussion on pages 19-20 of how the solution can benefit everyone from homeowners to junior lien-holders is particularly interesting.  It appears as if this proposal has been gaining traction since the summer with the FHFA taking note as well as the bar and the securitization industry.

November 19, 2012 | Permalink | No Comments

Further Thoughts on Prosecutorial Abdication

By David Reiss

I was discussing Prosecutorial Abdication with a friend who used to work in a prosecutorial office.  While she agreed with what Brad and I had written, she also highlighted the technical and training challenges that prosecutors face in putting together an effective investigation.

Where an insider trading or corporate fraud case might be very difficult and involve tens of thousands of emails, it usually only involves a few key people.  As a result, it is easier to get a handle on the case.  In contrast, she noted, a securities fraud case based on even a single mortgage-backed security involves thousands of mortgages originated by many different lenders.  Numerous different hands touch those files at origination as well as during the securitization process.  On top of that, many of the key documents are missing or at least their chain of custody is uncertain.

The net result, according to her, is that building such a case can be exponentially harder than building an insider trading case.  This is particularly true because many prosecutor offices will not have the sophisticated software (Excel is not enough!) to track all of the relevant data nor the training (forensic accounting skills would be nice) to do an effective job. Let’s see what the Financial Fraud Enforcement Task Force can do with the resources made available to it . . ..

November 19, 2012 | Permalink | No Comments

November 16, 2012

Federal Court of Australia Holds Standard & Poor’s Liable for Misrepresentaions in Ratings of CDOs

By Brad Borden

In a treatise-length opinion, the Federal Court of Australia held that Standard & Poor’s is liable for damages that investors incurred as a result of purchasing CDOs that Standard & Poor’s had rated AAA. See Bathurst Regional Council v Local Government Financial Services Pty Ltd, (No.5) [2012] FCA 1200 (Nov. 5, 2012)

November 16, 2012 | Permalink | No Comments

November 15, 2012

Borden & Reiss: “Beneficial Ownership and the REMIC Classification Rules”

By David Reiss

We just posted “Beneficial Ownership and the REMIC Classification Rules” which can be most easily downloaded here.  It follows up on our previous piece, “Wall Street Rules Applied to REMIC Classification,” which ban be easily downloaded here.

November 15, 2012 | Permalink | No Comments

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