[Infowarrior] - Did the Credit Rating Agencies Go Extinct?

[Richard Forno]

Bond Sale? Don't Quote Us, Request Credit Firms

By ANUSHA SHRIVASTAVA

http://online.wsj.com/article/SB10001424052748704723604575379650414337676.html

The nation's three dominant credit-ratings providers have made an urgent new request of their clients: Please don't use our credit ratings.

The odd plea is emerging as the first consequence of the financial overhaul that is to be signed into law by President Obama on Wednesday. And it already is creating havoc in the bond markets, parts of which are shutting down in response to the request.

Standard & Poor's, Moody's Investors Service and Fitch Ratings are all refusing to allow their ratings to be used in documentation for new bond sales, each said in statements in recent days. Each says it fears being exposed to new legal liability created by the landmark Dodd-Frank financial reform law.

The new law will make ratings firms liable for the quality of their ratings decisions, effective immediately. The companies say that, until they get a better understanding of their legal exposure, they are refusing to let bond issuers use their ratings.

That is important because some bonds, notably those that are made up of consumer loans, are required by law to include ratings in their official documentation. That means new bond sales in the $1.4 trillion market for mortgages, autos, student loans and credit cards could effectively shut down.

There have been no new asset-backed bonds put on sale this week, in stark contrast to last week, when $3 billion of issues were sold. Market participants say the new law is partly behind the slowdown.

"We are at a standstill right now," said Bingham McCutchen partner Ed Gainor, who specializes in asset-backed securities.

Several companies are shelving their bond offerings "indefinitely," according to Tom Deutsch, executive director of the American Securitization Forum, which represents the market for bonds backed by assets such as auto loans and credit cards. He said he knew of three offerings scheduled for coming weeks that are now on hold.

The change caught the ratings agencies by surprise. The original Senate version of the bill didn't include the provision. It was only on June 30, when the Dodd-Frank bill was passed, that the exemption was removed. The Senate passed the amended version on July 15. The offices of Sen. Christopher Dodd (D-Conn.) and Rep. Barney Frank (D-Mass.) didn't immediately respond to a request for comment.

Rating firms have warned that sections of the legislation concerning ratings' firms legal liability could cause them to pull back from certain parts of the market.

In an April 21 conference call, Moody's Chief Executive Raymond McDaniel told investors that "we remain concerned that the bill's liability provisions would lead to unintended consequences that could negatively impact the credit markets."

If greater liability provisions were passed, he continued, "we would implement appropriate changes."

He added that Moody's, a unit of Moody's Corp., would rethink whether it still made sense in a new regulatory environment to give ratings "for as many small and perhaps marginal issuers as possible."

The confusion comes as investors, bankers and ratings companies across Wall Street seek to digest the intricacies of the new law, the most sweeping since the 1930s. The overhaul touches on virtually every part of the financial-services world, part of an effort by lawmakers to head off another financial crisis.

Ratings providers became a lightning rod for criticism after the financial crisis. Their overly rosy assessments of many bonds, particularly complex securities and bonds backed by subprime mortgages, were blamed for helping fuel the meltdown of the credit markets.

In response, the Dodd-Frank bill revamped how the government treated credit-ratings firms, which receive a special government designation that allows them certain privileges and market access

Once the bill is signed into law, advice by the services will be considered "expert" if used in formal documents filed with the Securities and Exchange Commission. That definition would make them legally liable for their work, meaning that it will be easier to sue an firm if a bond doesn't perform up to the stated rating.

That is a change from the current law, which considers ratings merely an opinion, protected like any other media such as a newspaper.

Prior to the Dodd-Frank bill, issuers were allowed to include the description of the ratings in the offering documents without the consent of the rating firms. Now, they will have to get written permission. And the rating providers are concerned that giving such consent exposes them to liability they haven't been exposed to in the past.

Unlike many parts of the larger financial-overhaul bill, these changes go into effect as soon as it is signed into law.  The speed of the move has spooked the three firms.

All issued statements in recent days saying they will continue to issue bond ratings. But they said they won't allow those ratings to be used in formal documents accompanying bond sales, known as prospectuses and registration statements.

One solution to the logjam is for sellers of bonds to offer their deals privately. That means they would offer ratings that can be used in private transactions but not in deals registered with the SEC and sold to the general public. The private market is much smaller and more expensive than the public one.

On Friday, S&P, a unit of McGraw-Hill Cos., issued a release saying it would "explore mechanisms outside of the registration statement to allow ratings to be disseminated to the debt markets."

—Aaron Lucchetti contributed to this article.
Write to Anusha Shrivastava at anusha.shrivastava at dowjones.com