As if we need further evidence of the gross and willful malfeasance of Moody’s S&P’s and Fitch: The latest evidence of their criminally irresponsible behavior comes to us via the Financial Crisis Inquiry Commission.

This was not, as the narrative has been reconstructed, a case of good loans gone bad. Mere incompetence does not explain the ratings agency debacle. This was a Ford Pinto, a calculated attempt to maximize profits regardless fo the systemic damage it caused. So what if a few people had to burn to death in order to make our bonuses — bankrupting the global economy is merely a cost of doing business.

NYT excerpt:

“D. Keith Johnson, a former president of Clayton Holdings, a company that analyzed mortgage pools for the Wall Street firms that sold them, told the commission on Thursday that almost half the mortgages Clayton sampled from the beginning of 2006 through June 2007 failed to meet crucial quality benchmarks that banks had promised to investors.

Yet, Clayton found, Wall Street was placing many of the troubled loans into bundles known as mortgage securities. Mr. Johnson said he took this data to officials at Standard & Poor’s, Fitch Ratings and to the executive team at Moody’s Investors Service.”

The mortgage securtitizers hired independent analytical companies (like Clayton) to “sample loans and flag any that were problematic.” According to his testimony, Clayton found a large percentage of loans that failed various tests such as geographic diversity, the loan-to-value ratios, credit scores and incomes of borrowers. These findings appear to have veen routinely ignored by both the underwriters and the rating agencies.

It was a trust-but-verify approach — but without the verification that might reduce a lucrative business:

“According to testimony last week, from January 2006 to June 2007, Clayton reviewed 911,000 loans for 23 investment or commercial banks, including Citigroup, Deutsche Bank, Goldman Sachs, UBS, Merrill Lynch, Bear Stearns and Morgan Stanley.

The statistics provided by these samples, according to Mr. Johnson and Vicki Beal, a senior vice president at Clayton who also testified before the inquiry commission, indicated that only 54 percent of the loans met the lenders’ underwriting standards, regardless of how stringent or weak they were.

Some 28 percent of the loans sampled over the period were outright failures — that is, they were unable to meet numerous underwriting standards and did not have positive factors that compensated for their failings. And yet, 39 percent of these troubled loans still went into mortgage pools sold to investors during the period, Clayton’s figures showed.”

This was not a case of error or bad forecasting or poor execution. This was a reckless pursuit of profit by design. The risks, indeed probabilities of default were well known, and ignored.

If any group of firms deserve the Arthur Anderson fate of corporate execution for bring guilty of murderous behavior, it is the rating agencies. In my opinion, they should be put down like rabid dogs.


UPDATE: October 13, 2010
Felix Salmon is (belatedly) on the case of bank liability, and having entire CDO/RMBS bundles put back to the banks.


Raters Ignored Proof of Unsafe Loans, Panel Is Told
NYT, September 26, 2010

Category: Bailouts, Credit, Really, really bad calls, Regulation

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

23 Responses to “Rating Agencies Ignored Proof of Unsafe Loans”

  1. The commission of an act that is unequivocally illegal or completely wrongful.

    Malfeasance is a comprehensive term used in both civil and Criminal Law to describe any act that is wrongful. It is not a distinct crime or tort, but may be used generally to describe any act that is criminal or that is wrongful and gives rise to, or somehow contributes to, the injury of another person.

    Malfeasance is an affirmative act that is illegal or wrongful. In tort law it is distinct from misfeasance, which is an act that is not illegal but is improperly performed. It is also distinct from Nonfeasance, which is a failure to act that results in injury.

    The distinctions between malfeasance, misfeasance, and nonfeasance have little effect on tort law. Whether a claim of injury is for one or the other, the plaintiff must prove that the defendant owed a duty of care, that the duty was breached in some way, and that the breach caused injury to the plaintiff.

    One exception is that under the law of Strict Liability, the plaintiff need not show the absence of due care. The law of strict liability usually is applied to Product Liability cases, where a manufacturer can be held liable for harm done by a product that was harmful when it was placed on the market. In such cases the plaintiff need not show any actual malfeasance on the part of the manufacturer. A mistake is enough to create liability because the law implies that for the sake of public safety, a manufacturer warrants a product’s safety when it offers the product for sale.

    West’s Encyclopedia of American Law, edition 2. Copyright 2008 The Gale Group, Inc. All rights reserved.


    is ‘malfeasance’ a strong enough term?

  2. chartist says:

    This is all well and good, but is anybody going to jail?

  3. mark says:

    In my opinion, they should be put down like rabid dogs.

    Does that include Moody’s top shareholder St. Warren of Omaha the stouthearted defender of his rating agency and the money that’s owed to him by Goldman?

  4. Petey Wheatstraw says:

    You don’t need forensic accounting to know that the ratings agencies were a key player in a massive, organized criminal conspiracy. Everyone from the loan originators to those who pooled the bad loans into MBSs knew that they were committing fraud and poisoning the system.

    Not only should these organizations be put out of business, everyone involved in the management (and that would include, by default, all officers of any corporation involved, who knew, or should have known) and/or execution of this scam should have their assets seized, pending investigation, prosecution, and trial under the RICO statutes. If found guilty, forfeiture of all assets and long jail terms would be just.

    One can dream.

  5. Petey Wheatstraw says:


    With recent disclosure of money laundering for the drug cartels by the big banks (the same big banks that orchestrated the creation and distribution of toxic securities — they seem to be the kingpins in a number of criminal enterprises), it would seem that ‘malfeasance’ IS too mild a term. ‘Financial Terrorism’ would seem to cover most of it. Too bad their coup was successful.

  6. Petey,

    yes, it’s quite, too much, like that..

    tho, I was hoping to keep it ‘simpler’, at first, along the lines of “…A false representation of a matter of fact—whether by words or by conduct, by false or misleading allegations, or by concealment of what should have been disclosed—that deceives and is intended to deceive another so that the individual will act upon it to her or his legal injury.

    Fraud is commonly understood as dishonesty calculated for advantage. A person who is dishonest may be called a fraud. In the U.S. legal system, fraud is a specific offense with certain features.

    Fraud is most common in the buying or selling of property, including real estate, Personal Property, and intangible property, such as stocks, bonds, and copyrights. State and federal statutes criminalize fraud, but not all cases rise to the level of criminality. Prosecutors have discretion in determining which cases to pursue. Victims may also seek redress in civil court.

    Fraud must be proved by showing that the defendant’s actions involved five separate elements: (1) a false statement of a material fact,(2) knowledge on the part of the defendant that the statement is untrue, (3) intent on the part of the defendant to deceive the alleged victim, (4) justifiable reliance by the alleged victim on the statement, and (5) injury to the alleged victim as a result…”

    toward your earlier point about RICO–Racketeer Influenced and Corrupt Organization Act

    seeing that it has been around since 1970, and has yet to be swung against our laundering ‘friends’, is, almost, proof positive that “their coup was successful”..

  7. I appreciate and agree with your anger. What can be done?

    Can you get your senators angry enough to begin some action, or is it naive of me to believe that we have any influence over our legislators?

  8. jerryork says:

    Unfortunately, we have returned to the world of might makes right. In this day and age might is money. Corporations, in particular financial corporations, are untouchable. They can buy politicians by the wagonload, hold the world hostage to their will and generally rape (Halliburton via KBR), pillage (Goldman Sachs) and burn (BP oops I mean spill).

    Welcome to the Feudal (futile) system. It’s good to be the king.

  9. b_thunder says:

    chartist Says:
    This is all well and good, but is anybody going to jail?

    On the contrary, I know a number of people who left the Moody’s and S&P and got hired with high 6-figure and even 7-figure signing bonuses by hedge funds and the i-banks.
    I only wonder if they got hired because the hedgies figured a way to use their “inside” knowledge of the pools of mortgages that the same people were “rating” 3 years ago, and therefore can help the hedgies cherry-pick best assets to buy for pennies on the dollar.

  10. Tarkus says:

    Well, we know that Mary at the SEC is too busy regulating what she doesn’t understand until the next flash crash.

    FBI reported rampant mortgage fraud in 2004 and Dept of Justice turned a blind-eye to it then. What is their excuse now?

  11. rktbrkr says:

    This whole fraudulent process was too massive to do nothing so they must find a few sacrificial lambs to throw to the wolves to scare the little people, thousands of appraisers & brokers and millions of borrowers who made misstatements on applications. Maybe a few out of favor bankers & raters will get publicized executions but not the real culprits who are soooo generous at campaign time.

  12. hammerandtong2001 says:

    Kroll is trying to get into this market — providing ratings on securitized products — especially mortgages.

    Looks like one of the critical hurdles is in-place regulation requiring securities to be rated prior to marketing — but these regs stipulate ratings be supplied by only certain players…like Moody’s, Fitch and S&P.

    Seems like even if there was desire and market need for independent ratings, the regulations are in the way.


  13. wunsacon says:

    If I’m ever picked to serve on a jury to judge a street criminal nabbed for a mugging in a wealthy neighborhood, I will have a hard time ignoring the concept of “jury nullification”. Who am I to decide that person deserves prison? Would seem like an arbitrary application of justice, which is not.

  14. wunsacon says:

    It’s sometimes said that crooks sent to prison often learn to become bigger crooks. Is this a metaphor for business schools?

  15. plantseeds says:

    Moody’s has to be good for smething…isn’t this the same Moody’s that gave Alan Blinder and Mark Zandi the proof they needed to show us that we’ve been saved and yes, we should be grateful?

    ” the combined actions since the fall of 2007 of the Federal Reserve, the White House and Congress helped save 8.5 million jobs and increased gross domestic product by 6.5 percent relative to what would have happened had we done nothing. The study showed that government action delivered a powerful bang for the buck, and that the bank rescue on its own will turn a profit for taxpayers.”

    “In this paper, we use the Moody’s Analytics model of the U.S. economy—adjusted to accommodate some recent financial-market policies—to simulate the macroeconomic effects of the government’s total policy response. We find that its effects on real GDP, jobs, and inflation are huge, and probably averted what could have been called Great Depression 2.0. For example, we estimate that, without the government’s response, GDP in 2010 would be about 11.5% lower, payroll employment would be less by some 8½ million jobs, and the nation would now be experiencing deflation.”

    Down in places you don’t talk about at parties, you want me on that wall, you need me on that wall!

  16. rktbrkr says:

    Foreclosure bedlam. False statements (AKA lies) by the banks jam up the entire FC process, foreclosure sales slow down but grind on more years, homeowers who ain’t paying get to live free longer.

    Big 5 mortgage writers Chase,CITI,BOA,WFC and Ditech/GMAC/Ally control 75% of mortgage market (how healthy is that). Guess who gets bailed out again when these foreclosures get too big to misaccount for (probably not until cash flow dries up, de facto cash basis accounting here LOL)

  17. nickthap says:

    Gretchen Morgenson, the author, continues to be one of the best financial reporters out there. All of her articles are worth reading.

    What I don’t get is, does anybody trust the ratings agencies anymore? I mean, big institutional investors that rely on them like CALPERS and such.

  18. obsvr-1 says:

    @Mark E Hoffer Says:
    … tho, I was hoping to keep it ‘simpler’, …

    — Reply

    Whether simple or complex, nobody believes that justice is being served. As for the enforcement side of things, I would favor more money thrown to the budgets of the investigator and enforcement agencies, take a few billion from the DOD and Dept of State budgets, TARP profits could be used as well.

    When the laws are written by the banksters, such that they can skirt what appears to most common folks as to be fraud, malfeasance or other crime against society we have a much bigger problem, more insidious problem such that we have a system constructed that avoids prosecution for the folks that construct the system.

  19. AHodge says:

    this is up to SEC Shapiro. They could wipe the big three out at a stroke by withdrawing their approvals.
    Or enforce any interim step. Shapiro is totally in the tank, aside from her record, there is her resume, Chair of FINRA?
    doesnt Congress know, per some above? Of course they do. see my earlier on kanjorskys herculean efforts to shut up the Moodies whistleblowers.

    there are lawsuits.
    including my fave on Rineland, the Moodies AAA rated CDO sold by IKB in 2007. that blew up a record short 4 months after AAA rated

  20. Randle Patrick McMurphy says:

    The upper management of these companies should lose the benefit of the corporate shield and be personally persecuted, I mean prosecuted. This is one example of a group that have political influence sufficient to bend the system to benefit themselves at the expense of the other players in the system. For these people I would have no sympathy if they were to be the focus of Obama’s budget balancing taxation.

    However, I don’t believe it would be either wise or just that their penalties be paid to and enrich another of major corrupt player, the government. Is there any possibility of justice in this?

  21. machinehead says:

    ‘the rating agencies … should be put down like rabid dogs.’

    Seconded! Like Congress, these are failed institutions.

    They cannot be reformed. Sue them for more than they’re worth, liquidate them, and start all over again.

  22. Bob A says:

    especially in california wunsacon…
    where a third strike can be stealing a sixpack from 7-11…
    for which the voters in their wisdom choose to
    dedicate $20-30,000/year or so to keep the offender
    in prison for life
    … and they wonder why the state’s going broke