Standard & Poor’s Involvement in the Financial Crisis

November 2019

Mark Roytman

Standard & Poor’s role in the housing mortgage bubble and financial crisis was quite significant, both with being morally transgressive and possibly unlawful. To carry the weight of rating CDOs means you have a responsibility of giving an accurate rating based on analytical findings. To advertise subprime CDOs as AAA, is definitely a form of false advertising, if not deliberate fraud. Putting legal aspects aside, to exaggerate the strength of an investment is immoral on the grounds that it will not benefit the consumer or the provider of the service if the consumer loses money on their investment. Even though Standard & Poor’s defence cited the US 1st Amendment or freedom of speech as a way of saying their misleading ratings were lawful which would be fair if Standard & Poor’s was publishing content in the same way a newspaper would, they offer a financial service to client, they nevertheless are offering a service that aims to inform investors (Fernholz, 2013). In the same way a business consultant should give accurate insight to a particular industry, mortgage credit ratings ought to hold their analysis of mortgages to the same standard. When it comes to legal aspects of S&P’s prosecution, whether reform should result in a government receivership of such rating agencies or allow the free market to decide their fate is another question altogether.

I would argue, based on a free-market approach, S&P should restructure their ratings system to produce meaningful ratings clearly based on analytical findings rather than putting out triple AAA ratings as a means of collecting more fees and outperforming their competitors. In the long run, they would benefit from a higher consumer loyalty as their service relies on advising investors. At the same time, even though it may conflict with a free-market approach I would argue that government regulations should be placed on the sector, requiring the rating agencies to comply with a higher standard. In fact, one of the key issues with credit rating agencies is that they are motivated by profit like investors. Instead if credit rating agencies became non-profit organizations they would not be distracted by the fraud triangle which is where a financial opportunity leads to justification of defrauding (USI, 2019).

S&P has already taken a step in the right direction, paying out a settlement of $1.57billion to the US Department of Justice as well as 19 US states (Viswanatha, Freifield, 2015). Despite the US government requesting $5 billion for defrauding investors, this was still a record-setting settlement by a credit rating agency. In addition, S&P agreed to pay £77m to the SEC plus New York and Massachusetts as well as cease all mortgage rating operations for one year in 2015 (The Guardian, 2015). I would disagree with the latter punishment as it is overly authoritarian and does not deal with the core issue. Had there been legislation passed to reform the industry, S&P providing accurate ratings would be considered ethical activity. All reparatory settlements and “time-outs” are pointless if they continue to defraud investors.

References

Fernholz T. (2013) S&P Amazingly Says No One Should Believe Its Objectives Are Independent and Objective, Quartz. [Online] qz.com Available at: qz.com/101722/sp-amazingly-says-no-one-should-believe-its-ratings-are-independent-and-objective/ [Accessed 3 Nov. 2019].

The Guardian (2015) Standard & Poor’s fined and banned from rating certain securities for a year, The Guardian, US Markets. [online] The Guardian.com. Available at: www.theguardian.com/business/2015/jan/21/standard-poors-to-pay-fine-banned-rating-mortgage-securities-one-year [Accessed 2 Nov. 2019].

University of Southern Indiana (2019) What is Fraud? [Online] usi.edu. Available at: www.usi.edu/internalaudit/what-is-fraud/ [Accessed 3 Nov 2019].

Viswanatha, A. and Freifeild, K. (2015). S&P reaches $1.5 billion deal with U.S., states over crisis-era ratings. [online] Reuters. Available at: www.reuters.com/article/us-s-p-settlement-idUSKBN0L71C120150203 [Accessed 1 Nov. 2019].

Wolf, S. (1985). THE LEGAL AND MORAL RESPONSIBILITY OF ORGANIZATIONS, [online] 27, pp.267-286. Available at: www.jstor.org/stable/24219391 [Accessed 30 Oct. 2019].