Jessica Galehouse
+1 (434) 951-5376
jessica.galehouse@cfainstitute.org
Investors Will Benefit from SEC's Rating Agency Reform,
Says CFA Institute Centre
Charlottesville, Va., June 12, 2008 −
“The CFA Institute Centre is pleased to see several of the operational
and other changes proposed by the SEC to reform the credit ratings
industry. One important concept is making sure the characteristics
of structured finance instruments are more directly identified via credit
rating symbols that are different from those used for more
traditional forms of issuer debt. Many fixed income investors need
additional information to alert them to difference in the structure, cash
flow, and volatility of such investments,” said Jim Allen, CFA, director
of the Capital Markets Policy Group at the CFA Institute Centre for
Financial Market Integrity. “Regardless of how the
SEC decides to identify the different investment
types, investors will benefit from having more
transparent information. Most importantly, the changes
begin to restore investor confidence in the CRA industry, the ratings
process, and the markets these ratings firms serve.”
Allen added that “the SEC's refinement of the various rules and
disclosures required of credit rating agencies is good progress toward
improving the ratings process itself, the ways that conflicts of interest
are managed in this ‘issuer-paid’ model for ratings, and information
about performance or track record of ratings over various periods. These
are all strong recommendations and bode well for a more rigorous process
combined with a greater clarity of credit rating firm
procedures.
“The CFA Institute Centre continues to call for the elimination of the
term ‘investment grade.’ While this term relates to a credit rating
meeting a certain industry-devised threshold, it and the mish-mash of
symbols used in ratings has created confusion. Specifically, the term can
be misleading and can cause less sophisticated funds to invest in markets
and structures they are ill-prepared to understand and monitor,
particularly in times of illiquidity. By reconsidering the ratings
designation and nomenclature that was the basis for this
‘investment-grade’ concept, the Commission will remove considerable
confusion in the market.”
(Allen is available to comment on the SEC's proposals to reform the
credit rating agency industry. Please contact kathy.valentine@cfainstitute.org or jessica.galehouse@cfainstitute.org to schedule an
interview.)
In February, the CFA Institute Centre suggested several proposals
(see statement here) to improve the transparency and consistency of
ratings:
1. Create improvements to the credit
rating process including:
- Use a rating nomenclature/categorization that distinguishes structured products from both corporate and commercial paper ratings to help investors recognize the differences.
- Refine or otherwise eliminate the concept of “investment grade” wherever possible to reduce the incidence of misconception about the purpose of the CRA’s ratings.
- Encourage a global best practice of prohibiting the practice of “notching,” where a CRA unilaterally issues a rating on an entity or structure that was not sought by the issuer.
- Create an executive-level compliance officer position at CRAs to ensure implementation and enforcement of the IOSCO code.
- Require complete adoption of the IOSCO code to claim compliance.
- Call on CRAs to refrain from rating new structured products until the statistical data are sufficiently robust to produce a defensible rating.
2. Use fair value reporting for financial
instruments. Financial reports should show the fair value of all assets
and liabilities that affect a company’s economic performance and
condition to ensure that investors have a basis for evaluating asset
values. (Read more here.)
3. Put investors’ interests
first. Regulators in all markets should ensure that investment firms
and investment managers adopt, implement and enforce procedures to make
certain the instruments they sell or use match their clients’
circumstances, goals, objectives and preferences.
As far back as 2006 the CFA Institute Centre was calling for and
supporting efforts to make credit rating agencies more accountable and
competitive. In a 2006 statement (PDF) to the U.S. Senate Banking
Committee, CFA Institute president and CEO, Jeff Diermeier,
CFA, said “Investors need to be confident that the
credit-rating information they use to evaluate companies is accurate,
unbiased, and reliable.”
About the CFA Institute Centre for Financial Market
Integrity
The CFA Institute Centre develops timely, practical solutions
to global capital market issues. Established in 2004, the CFA Institute
Centre builds upon the CFA Institute mission to lead the investment
profession globally by setting the highest standards of ethics, education
and professional excellence. It carries forward the organization’s
60-year history of standards and advocacy work, especially its Code of
Ethics and Standards of Professional Conduct for the investment
profession. More information may be found at www.cfainstitute.org/centre.