Big Three (credit rating agencies)

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The Big Three credit rating agencies are Standard & Poor's (S&P), Moody's, and Fitch Group. S&P and Moody's are based in the US, while Fitch is dual-headquartered in New York City and London, and is controlled by the France-based FIMALAC. As of 2013 they hold a collective global market share of "roughly 95 percent"[1] with Moody's and Standard & Poor's having approximately 40% each, and Fitch around 15%.[2] However these figures understate the dominance of Moody's and S&P, since the norm for debt issuers is to obtain ratings from these two, and only occasionally turn to Fitch, for example if Moody's and S&P disagree.[3]

According to an analysis by DeutscheWelle, "their special status has been cemented by law — at first only in the United States, but then in Europe as well."[1][4] From the mid-1990s until early 2003, the Big Three were the only "Nationally Recognized Statistical Rating Organizations (NRSROs)" in the United States — a designation meaning they were used by the US government in several regulatory areas. (Four other NRSROs merged with Fitch in the 1990s.)[5]

The European Union has considered setting up a state-supported EU-based agency.[6]

Influence[edit]

2007-2010 financial crisis[edit]

The Big Three have been "under intense scrutiny" since the 2007-2009 global financial crisis following their favorable pre-crisis ratings of insolvent financial institutions like Lehman Brothers, and risky mortgage-related securities that contributed to the collapse of the U.S. housing market.

In the wake of the financial crisis, the Financial Crisis Inquiry Report[7] called the "failures" of the Big Three rating agencies "essential cogs in the wheel of financial destruction."

The three credit rating agencies were key enablers of the financial meltdown. The mortgage-related securities at the heart of the crisis could not have been marketed and sold without their seal of approval. Investors relied on them, often blindly. In some cases, they were obligated to use them, or regulatory capital standards were hinged on them. This crisis could not have happened without the rating agencies.[8]

In their book on the crisis, journalists Bethany McLean, and Joe Nocera, criticized rating agencies for continuing "to slap their triple-A [ratings]s on subprime securities even as the underwriting deteriorated -- and as the housing boom turned into an outright bubble" in 2005, 2006, 2007. McLean and Nocera blamed the practice on "an erosion of standards, a willful suspension of skepticism, a hunger for big fees and market share, and an inability to stand up to" investment banks issuing the securities.[9] The February 5th 2013 Economist stated "it is beyond argument that ratings agencies did a horrendous job evaluating mortgage-tied securities before the financial crisis hit."[10]

Recent downgrades[edit]

In August 2011, S&P's downgraded the long-held triple-A rating of US securities.[1]

Since the spring of 2010,

one or more of the Big Three relegated Greece, Portugal, and Ireland to "junk" status--a move that many EU officials say has accelerated a burgeoning European sovereign-debt crisis. In January 2012, amid continued eurozone instability, S&P downgraded nine eurozone countries, stripping France and Austria of their triple-A ratings.[1]

Overreliance on the Big Three[edit]

A common criticism of the Big Three, and one that was highly linked to bank failure in the 2008 recession, is the dominance the agencies had on the market. As the three agencies held 95% of the market share, there was very little room for competition. Many feel this was a crucial contributor to the toxic debt-instrument environment that led to the financial downturn. In a preliminary exchange of views in the European Committee on Economic and Monetary Affairs, held in late 2011, it was advocated that more competition should exist amongst rating agencies. The belief was that this would diminish conflicts of interest and create more transparent criteria for rating sovereign debt.

There are over one hundred national and regional rating agencies which could issue ratings if they can build up their credibility by meeting the conditions for being registered by European Securities and Markets Authority (ESMA). They could also use data from the European Central Bank and the International Monetary Fund to help with their analyses. Reliance on the "big three" could also be reduced by big companies assessing themselves, MEPs added.[11]

References[edit]

  1. ^ a b c d Alessi, Christopher. "The Credit Rating Controversy. Campaign 2012". Council on Foreign Relations. Retrieved 29 May 2013. 
  2. ^ Hill, Claire A. (2002), "Rating Agencies Behaving Badly: The Case of Enron", Conn. L. Rev. 35, 1145
  3. ^ Hill, Claire (2004), "Regulating the Rating Agencies", WASHINGTON UNIVERSITY LAW QUARTERLY, 82(43), p44
  4. ^ "S&P warning puts damper on Eurogroup plans". 05.07.2011. Deutsche Welle. 
  5. ^ "U.S. SEC Report on the Role and Function of Credit Rating Agencies in the Operation of the Securities Markets". January 2003. Retrieved 5-4-2012. 
  6. ^ The Times, 3 June 2010, Europe launches credit ratings offensive
  7. ^ the ten-member commission appointed by the United States government with the goal of investigating the causes of the financial crisis of 2007–2010
  8. ^ CONCLUSIONS OF THE FINANCIAL CRISIS INQUIRY COMMISSION
  9. ^ McLean, Bethany and Joe Nocera. All the Devils Are Here: The Hidden History of the Financial Crisis, Portfolio, Penguin, 2010 (p.111)
  10. ^ TE (5 February 2013). "Free speech or knowing misrepresentation?". The Economist. 
  11. ^ "Credit rating agencies: MEPs want less reliance on "big three"". The European Parliament. December 2011. Retrieved 2012-1-19.