Monday, May 17, 2010


I cannot understand the rating agency game. Standard and Poor’s and Moody’s executives and analysts need to be questioned, just as much as the people in the investment banks. Although these firms supposedly provide independent opinions, they are anything but independent. These are dependent opinions. The rating agencies depend on the income that the investment banks provide to them for their blessed ratings. The term “junk” not only refer to bonds, but to the opinions that these firms provide.

For example, in the past few weeks I have read that more than 93% of the sub-prime bonds rated AAA in 2006 are now junk. More than 75% of the securities in the Goldman Abacus fiasco were also given AAA ratings. Greek bonds, and bonds of other European countries, are downgraded when the crisis occurs-- not before the problems arise. What is truly scary is that these are just a few examples. Imagine the bigger picture...

These agencies are supposed to provide independent opinions on the securities they evaluate. The problem is that they are paid by the parties who create these securities. This creates a conflict of interest. Solving this conflict of interest problem would help create a better system. The problem, however, is that there are no good solutions at the present time. Meanwhile, investors in securities rated by these agencies should heed the rule, CAVEAT EMPTOR.

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