WASHINGTON -- — Executives and employees at the major credit rating agencies were often aware of problems in the AAA grades awarded to thousands of mortgage-related securities whose downgrades helped plunge the nation into a financial meltdown.
At the same time, according to documents from the big credit rating agencies presented at a House hearing Wednesday, pressure from bond and securities issuers translated into inflated ratings that put investors at risk. The companies -- Standard & Poor's Corp., Moody's Investors Service and Fitch Inc. -- made enormous profits as they evaluated a ballooning number of mortgage-backed bonds, many of which were given top marks as long as housing prices went up.
In a presentation made to the board of directors of Moody's a year ago, Chief Executive Raymond McDaniel warned that company employees sometimes "drink the Kool-Aid" and gave in to pressure for undeservedly high ratings, even as the weaknesses of the mortgage-backed securities were becoming apparent.
McDaniel also warned that the issuers of mortgage-related securities awarded business to companies that produced inflated assessments and that other participants in the market wanted them as well.
"It turns out that ratings quality has surprisingly few friends: Issuers want high ratings; investors don't want ratings downgrades; shortsighted bankers labor shortsightedly to game the ratings agencies," McDaniel told the board.
"The story of the credit rating agencies is a story of colossal failure," said Rep. Henry A. Waxman (D-Beverly Hills), chairman of the House Oversight and Government Reform Committee.
The California Democrat said: "Millions of investors rely on them for independent, objective assessments. The rating agencies broke this bond of trust, and federal regulators ignored the warning signs and did nothing to protect the public. The result is that our entire financial system is now at risk."
The executives of the big credit ratings agencies testified that virtually no one predicted the plummeting values in the housing market and mortgage-related securities. They were caught unprepared when housing prices fell and their ratings models proved flawed.
"It is by now clear that a number of the assumptions we used in preparing our ratings on mortgage-backed securities issued between the last quarter of 2005 and the middle of 2007 did not work," Standard & Poor's CEO Deven Sharma said.
