Subprime Legal: Bond Rating Firms Close to Settlement With Cuomo

[WSJ Law Blog]

LB colleague Aaron Lucchetti is reporting that a settlement might be in the offing between the three major bond-rating firms and New York AG Andrew Cuomo.

The settlement, according to sources, aims to overhaul the current practice, in which the investment banks that pool mortgages into securities hire rating firms to rate those securities. That creates a big, ugly conflict: The ratings are being paid for by the entities being rated.

But now, reports Lucchetti, a potential agreement with Moody’s Investors Service, Standard & Poor’s and Fitch Ratings envisions a system under which the rating firms would collect payments both for rating the deal and their preliminary work reviewing loans and bond structures, even when firms aren’t selected to provide a rating. The aim would be to remove some of the power of investment banks have over selecting which rating firms get paid to rate deals.

The plan, which still requires final agreement by Cuomo’s office and the rating firms, stops short of dictating the exact fees rating firms would charge. The firms would be instructed to charge more than a nominal fee for the preliminary work, according to a government official briefed on the situation. Though bond issuers would still have a say over which rating firms published the final rating and on which ones were invited to look over a pool of loans in the first place.

Still, the settlement terms being discussed may not go far enough to satisfy some critics who have suggested that bond-rating firms stop being paid by bond issuers altogether or that rules be adjusted to give bond-rating firms to rate any deal they want, regardless of whether they have the issuer’s cooperation.