| Bonds Online |
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| 5/10/2013Market Performance |
| Municipal Bonds |
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S&P National Bond Index
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3.00% |
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S&P California Bond Index
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2.96% |
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S&P New York Bond Index
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3.13% |
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S&P National 0-5 Year Municipal Bond Index
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0.70% |
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| S&P/BGCantor US Treasury Bond |
400.09 |
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| Income Equities: |
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| Preferred Stocks |
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S&P U.S. Preferred Stock Index
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848.03 |
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S&P U.S. Preferred Stock Index (CAD)
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636.26 |
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S&P U.S. Preferred Stock Index (TR)
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1,701.05 |
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S&P U.S. Preferred Stock Index (TR) (CAD)
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1,276.26 |
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| REITs |
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S&P REIT Index
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174.07 |
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S&P REIT Index (TR)
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425.30 |
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| MLPs |
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S&P MLP Index
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2,469.58 |
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S&P MLP Index (TR)
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5,428.50 |
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See Data
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When Bond Ratings Get Stale |
The New York Times - Oct. 10, 2009 - By GRETCHEN MORGENSON
THE utter failings of our nation’s credit rating agencies — you know the drill: repeatedly slapping triple-A ratings on piles of dubious mortgage securities — were central to the financial crisis. And anything-goes ratings from Fitch, Moody’s Investors Service and Standard & Poor’s have left investors around the world with trillions in losses.
But while overly rosy ratings for complex mortgage-related securities are the focus of investors’ ire, another significant problem bubbled to the surface in recent Congressional hearings when Scott McCleskey, head of compliance at Moody’s from April 2006 to September 2008, outlined his employer’s failure to effectively monitor ratings on thousands of municipal bonds held by individual and institutional investors.
As it turns out, according to Mr. McCleskey, once Moody’s issues these ratings, it rarely reviews them again — leaving them fallow, sometimes for decades. Would you want to own a security that hadn’t been given a sniff test for 20 years? Did you know that if you were a municipal bond investor you might have one of those potential time bombs in your portfolio?
Mr. McCleskey outlined this sad state of affairs in a letter he sent in March to the Securities and Exchange Commission. It was published by the House Committee on Oversight and Government Reform on Sept. 30, the day it held hearings on the rating agencies. Mr. McCleskey testified at the hearing.
Municipal bonds are an important part of many investors’ portfolios; two-thirds of the transactions in the $2.7 trillion market are by individual investors, either in their own accounts or in mutual funds.
Yet, as Mr. McCleskey warned in his letter, “While a few very high profile/frequent issuers (City of New York, etc.) were receiving some periodic reviews, the vast majority had received none — in some cases there were bonds which had been outstanding for 10 or 20 years but which had never been looked at since the original rating.”
And yet, he continued, Moody’s contends that it monitored all securities “in a robust fashion” or at least flagged them as “point in time” ratings so investors knew they might not be up to date.
Mr. McCleskey declined to elaborate when asked for an interview last week. But there is plenty in his letter alone. For example, he said that when he raised concerns at Moody’s about a lack of meaningful surveillance of municipal securities, his comments were ignored. He was told, he wrote, “not to mention the issue in any e-mails or any other written form.”
How big a deal is this? Moody’s rates more than 29,000 municipal securities issuers, according to its Web site. And with many governments in increasingly difficult financial straits, investors’ reliance on stale ratings grows increasingly perilous. “Investors may think they are holding investment grade bonds when in fact the issuer is teetering on the edge of bankruptcy,” Mr. McCleskey wrote.
In April, a few weeks after he sent his letter to his former employer, Moody’s warned investors that it was putting the entire United States local government sector on watch for possible downgrades. While this provided something of a wake-up call to investors who might have been unaware of the stresses in this arena, its blanket nature did not help much on specific issues.
“The performance of Moody’s municipal ratings has been outstanding throughout the credit crisis, and our ratings continue to be well-positioned,” said Anthony Mirenda, a Moody’s spokesman. “We believe that attempts to compare municipal ratings to those of subprime residential securities is ill-informed and makes an inflammatory assertion about a critical sector of the capital markets. We are extremely comfortable with our process for monitoring the ratings of municipal securities.”
OTHER former Moody’s employees agree that stale ratings are a menace to investors, whether you’re talking about corporate bonds, mortgage-backed securities or municipal bonds.
Ann Rutledge, a co-founder of R & R Consulting, a firm based in New York that helps investors gauge debt risks, is a former Moody’s structured-finance executive. She has long advocated a need to rerate securities to keep investors aware of changing risks in a holding.
“The rating becomes a lagging indicator almost from the day it is issued,” she said. “A rating is a function of the time, the underlying risk and the extra capital put against the risk, all of which change. As long as you don’t update it, the ratings are terribly misleading.”
Ms. Rutledge said that one reason ratings agencies steered away from rerating was that they didn’t want to be criticized as having caused a problem for a company with a downgrade. “The philosophy was, we don’t want to be seen as causing a bankruptcy,” she recalled.
So ratings can become orphans, leaving investors in the dark about negative developments at an issuer — or, for that matter, positive ones.
Given the size of the municipal market, it is almost impossible to imagine how Moody’s or any other ratings agency could track the fortunes of so many issuers.
Mr. McCleskey’s letter said that after the credit crisis threw the spotlight on Moody’s and the other agencies, the firm began to address the problem. “However, this only consisted of designating a small team to review alerts generated by a computer algorithm,” he wrote.
The increased complexity of municipal issuers’ financing methods also makes it tough to analyze their bonds. In recent years, for example, municipalities have been persuaded by Wall Street to enhance their returns or reduce their interest-rate risks through the use of derivatives. Some of these derivatives have become black holes on issuers’ books, and can be unwound only at a heavy cost. Keeping track of which issuers are using such derivatives, and the implications they hold for bondholders as interest rates rise and fall, would be a Herculean undertaking.
An initial and relatively easy step would be for agencies to disclose exactly when a ratings or rerating was given.
But Ms. Rutledge and others say that rerating securities is imperative to alert investors to the changing risks in their holdings. “If ratings are not updated,” Ms. Rutledge said, “there is no way to measure the magnitude of destabilizing trends in the secondary market for these securities.”
If the current financial fiasco hasn’t taught us the value of such standards, then nothing will.
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