Saturday, 20 August 2011

Moody's: Fraud, Corruption, Greed

I blogged before about the non-event that S&P downgraded the AAA status of the US:

".. as usual, the rating agencies in the US have been hopelessly slow to adapt to reality. Similar to the enormous disservice they did a few years ago rating packaged mortgages as AAA while the collatoral was dubious to say the least. A huge bias due to the wrong incentive: if the agencies would offer high (unrealistic) ratings they would receive more work and thus more money."

There is more support for this:

"A former senior analyst at Moody's has gone public with his story of how one of the country's most important rating agencies is corrupted to the core."

"The primary conflict of interest at Moody's is well known: The company is paid by the same "issuers" (banks and companies) whose securities it is supposed to objectively rate. This conflict pervades every aspect of Moody's operations, Harrington says. It incentivizes everyone at the company, including analysts, to give Moody's clients the ratings they want, lest the clients fire Moody's and take their business to other ratings agencies. In short, Harrington describes a culture of conflict that is so pervasive that it often renders Moody's ratings useless at best and harmful at worst. "
Here are some key points:

  • Moody's ratings often do not reflect its analysts' private conclusions. Instead, rating committees privately conclude that certain securities deserve certain ratings--and then vote with management to give the securities the higher ratings that issuer clients want.

  • Moody's management and "compliance" officers do everything possible to make issuer clients happy--and they view analysts who do not do the same as "troublesome." Management employs a variety of tactics to transform these troublesome analysts into "pliant corporate citizens" who have Moody's best interests at heart.

  • Moody's product managers participate in--and vote on--ratings decisions. These product managers are the same people who are directly responsible for keeping clients happy and growing Moody's business.

  • At least one senior executive lied under oath at the hearings into rating agency conduct. Another executive, who Harrington says exemplified management's emphasis on giving issuers what they wanted, skipped the hearings altogether


    Munger and Buffett have often warned about giving people/institutions the wrong incentives, it will lead to highly biased situations (ironically, they did invest themselves in Moody's, one of the big three rating agencies).

    In Malaysia we have exactly the same situation regarding the "independent" reports. It is in the benefit of the writers to follow the majority shareholders, writers who are critical of them will not be asked again for their services. It is therefore no surprise that these reports are so biased that they are completely useless.

    Recommendation: Independent reports should be abolished and the Securities Commission and Bursa Malaysia should really have come down hard at the writers a long, long time ago. By not doing so they have done Malaysia a big disservice, credibility has suffered and Minority Investors had no chance to fight for their cause.

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