Blame the ratings agencies for the subprime crisis, The Wall Street Journal reports. In 2000, for instance, Standard & Poor’s said that “piggyback” mortgages, whereby borrowers take out a second loan to pay the down payment, were as safe for lenders as standard mortgages, and this led to a boom in subprime mortgages. S&P, Moody’s and Fitch Ratings all gave high marks to securities based on these loans.
Although S&P reversed its decision on the likelihood of such loans to default in 2006, the $1.1 trillion subprime mortgage market is in a mess today.
Moody’s has also changed its opinion, downgrading hundreds of mortgage bonds based on subprime mortgages this summer.
If the securities had been properly rated, many pension and mutual funds wouldn’t have held them, and hedge funds would have taken a far more cautious approach.
But some believe that because of the high fees that ratings agencies get when they rate complex asset-backed securities, they may have been lenient on the underwriters. Moody’s, for instance, took in $3 billion from rating such products between 2002 and 2006, contributing 44% of revenue last year, up from 37% in 2002.
Ohio Attorney General Marc Dann called the relationship between the ratings agencies and the investment banking and mortgage company underwriters “symbiotic.”