Rating agencies under EU spotlight

Credit-rating agencies are facing the prospect of increased scrutiny in the wake of this summer’s sub-prime mortgage crisis.

EU watchdogs will discuss an ongoing review of the sector with Internal Market Commissioner Charlie McCreevy later this month, ahead of consultations with the four main rating agencies - Standard & Poor’s, Moody’s, Fitch Ratings and Dominion - at the beginning of October.

"Structured finance is a new, important sector of the market that requires study," said Fabrice Demarigny, secretary-general of the Paris-based Committee of European Securities Regulators (CESR). "We need to decide whether there is a market failure. If so, we will need to look at the options and do a cost-benefit analysis of solutions."

Structured finance is a complex sector of the securities market in which risk from financial contracts is repackaged for sophisticated investors.

Credit-rating agencies provide information to investors on the credit-worthiness of firms and funds involved in this sector. But alarm bells have been sounded over the objectivity of agencies, which are often paid by debt issuers requesting ratings, in the wake of recent turbulence in the markets. German Chancellor Angela Merkel led criticism last month, deeming it unacceptable that the global community should bear the brunt of lax risk assessments.

CESR’s oversight of the four main market players was established last year by voluntary agreement. Demarigny signalled that the body’s review of the sector, which is governed by a non-binding code of conduct, should not be considered as an investigation. "You investigate when you have authority," he said. "There is no EU law on rating agencies so I’d call it an in-depth analysis of a very specific market," he said.

CESR had already launched a study on the rating of structured finance instruments prior to this summer’s crisis, issuing a questionnaire to interested parties in June. Following market developments over the summer, the deadline for responses was extended to 10 September. Results of the review, which will examine the quality of the rating process and possible conflicts of interest created by agencies’ revenue models, are expected next spring.

McCreevy was set to meet the watchdogs yesterday (5 September), but cancelled because of commitments at the European Parliament in Strasbourg. Addressing MEPs in yesterday’s plenary sitting, he reiterated his belief in a light-touch, principle-based approach to regulating financial markets. McCreevy stressed that he would discuss the extent to which rating agencies could be relied upon with "international partners". He questioned whether investors had access to the qualitative and quantitative data needed to assess the validity of ratings.

Supervision of the credit-rating sector will also be raised at a parliamentary hearing with Jean-Claude Trichet, the president of the European Central Bank, next week (11 September).

EU finance ministers will discuss credit-rating agencies as part of a general discussion on the sub-prime crisis at an informal meeting this month (14 September).

Credit-rating agencies are facing the prospect of increased scrutiny in the wake of this summer’s sub-prime mortgage crisis.