by Anonymous on 9/27/2007 09:48:00 AM

From the International Herald Tribune, we see that Congress is getting up on its hind legs and barking over the perennial issue of who pays for bond ratings:

Democratic and Republican senators said they were particularly concerned with one aspect of the agencies' business models: They get paid by the companies whose bonds they rate. That is like a film production company paying a critic to review a movie, and then using that review in its advertising, said Senator Jim Bunning, Republican of Kentucky.

Right. Because we all know that film critics' salaries are paid by surcharges on movie tickets, not newspaper advertising revenue. Whatever.

I really do want to know why those who believe that rating agency fees should be paid by investors, not issuers, believe that this is going to improve anything. I'm not defending the status quo; I'm legitimately curious. There's no context we can imagine in which, say, large institutional investors who pay the lion's share of those fees might not put pressure on the RAs to keep them from downgrading an outstanding issue, against which the investor doesn't really want to hold more reserves or capital? There are no transparency concerns when only those "accredited investors" who pay subscription fees can see rating benchmarks? (It's working so well for the hedge fund industry . . .) Issuers would somehow become unable to pressure the agencies for the "right" rating if they didn't directly pay those invoices? You know a clear, bright-line distinction between "issuers" and "investors" you could share with me? If Bear Stearns, say, buys tranches for its own trading account, and also issues them off its own shelf, what difference does it make which cost center cuts the checks to Moodys?

Let's contrast this situation with the highly satisfactory smooth working of consumer credit reports. The information in those reports is provided by creditors, not the individuals who are subject to them. The fee for use of that information is paid by subscribers--creditors, mostly--although they turn around and pass that cost onto applicants and borrowers. You pay the cost of lenders getting your credit report from a for-profit company who considers its information on you to be its property, not yours. In an environment of rampant identity theft and privacy violation--an environment caused, basically, by the existence of electronic repositories of sensitive data that consumers don't profit from, although they take the incalculable privacy risk--there can be no "transparency" of FICOs, and you wouldn't want there to be.

However, in an attempt to fight back, a whole industry of manipulating consumer credit ratings has sprung up, driven by both consumers wanting more or cheaper credit and lenders wanting more or more profitable borrowers. In all of this, the mortgage industry in particular is reeling from the results of its overreliance on FICOs, which were designed more for evaluating the risk of unsecured lending than mortgage lending, and that can rather easily be used to find not the most credit-worthy borrowers but the most profitable ones: those who do not default, but who run up balances sufficiently and pay enough periodic late fees to be a credit card issuer's dream come true. As more people are granted more unsecured credit by savy users of FICOs, the FICOs themselves "improve" for a class of borrowers who now want mortgage loans based on those FICOs.

Some of you may not know this, but there used to be a chronic problem with subprime mortgage servicers refusing to report data to the credit repositories. That meant that those borrowers who got a subprime loan and then paid it on time were not benefitting, since their credit record didn't show the on-time payments; when they went to refinance, they got put into another subprime loan. You would also find subprime servicers not reporting current balances, only original ones, making these borrowers look more indebted than they really were. It took Fannie and Freddie coming out with the declaration that they would no longer buy loans from seller/servicers who did not "full file report" to the credit bureaus to put a stop to this practice. Anyone who is convinced that users of ratings always have an interest in the accuracy of ratings should ponder this: there's always money to be made off of information asymmetry. It's fashionable these days to see bond investors as the hapless innocent victims of issuers and their lapdog rating agencies, but I'm old enough to have seen lenders who foot the bill for consumer credit reports going out of their way to make sure those reports didn't tell the whole picture.

I really want to know why we think subscriber-paid fees in the bond rating world is going to result in something we'll be happy with.

by Anonymous on 9/27/2007 07:06:00 AM

I know, it's not Saturday yet, but CR's little caption contest below was just too tempting.

by Calculated Risk on 9/26/2007 09:06:00 PM

From the LA Times:

News item: "For 10 days now, a sagging house parked on the Hollywood Freeway's northbound shoulder in the Cahuenga Pass has had people gawking -- and talking."

Some of the captions are great. My favorites:

"If you lived here, you'd be home now!"
Gary

"Halfway to Calabasas, Bob realizes his mistake and decides to mail in the keys instead."
Raughle

by Calculated Risk on 9/26/2007 08:50:00 PM

From Bloomberg: Subprime-Mortgage Defaults Rose Last Month, Data Show (hat tip John & Jim)

Late payments and defaults among subprime mortgages packaged into bonds rose last month ...

After August payments, 19.1 percent of loan balances in 20 deals from the second half of 2005 were at least 60 days late, in foreclosure, subject to borrower bankruptcy or backed by seized property, up from 17.5 percent a month earlier, according to a report yesterday from Wachovia Corp.

Prepayment speeds for the loans slowed, suggesting it's more difficult for borrowers to sell their homes or refinance, according to another report by New York-based analysts at UBS AG. Record levels of delinquencies and defaults on subprime mortgages are worsening as home prices decline and interest rates on loans adjust higher for the first time. As lenders tighten standards, borrowers are finding it harder to refinance into new mortgages with lower payments.

The ``reports showed the first inkling of the impact of shutdown of subprime market,'' the UBS analysts led by Thomas Zimmerman wrote late yesterday. ``In our opinion, the full impact is yet to come.''

by Calculated Risk on 9/26/2007 04:58:00 PM

From MarketWatch: Sallie Mae says deal to buy lender threatened

The group of investors that agreed to buy SLM Corp. has said that it can't close the deal under the agreed-upon terms, the giant student lender announced Wednesday.

SLM, commonly known as Sallie Mae said that the group "has no contractual basis to repudiate its obligations" under the agreement, and pledged to pursue "all remedies available" to get the deal done.

The NY Times had an article on the Sallie Mae deal last week: Deal to Buy Sallie Mae in Jeopardy

While the group is hoping to renegotiate the price of Sallie Mae, these people said, it may also be willing to walk away and pay the $900 million breakup fee.

The $900 million breakup fee is a little higher than the reported percentage writedowns at Lehman and Morgan Stanley. The total deal value is $25 Billion.