Raters still rule … let the buyer beware
BB+, AA-minus and standards that could make you poor.
Ten years after the debt crisis, long-dead Lehman remains the whipping boy lending its name, like Xerox to copying, the biggest meltdown in US history. Why? Lehman may not have needed to file for bankruptcy had they been given the time to sell their assets at fair market value and had not been denied the government bailouts that went to banks. Too big to fail. But the raters who propped the packages of sub-prime mortgages sold around the world still rule the roost. How much transparency and accountability today? You be the judge.
What we do get is a backpage disclosure that they are paid between $1,500 to $2,500,000 by … get this … the guys they rate.
Sam Jones explained it best in a brilliant Financial Times article on April 24, 2009. Using the analogy of country-singer couple Johnny Cash and June Carter.
Johnny died 4 months after June from cardiomyopathy, where the brain releases chemicals into the blood stream that weaken the heart after intense emotional trauma. Losing June simply broke his heart. He isn’t alone. Men are six times more likely to die in the first year after the death of a loved one. Women … two.
Xiang Lin Li from China, David Li by the time he joined Citigroup, married the math of actuarial science to the probability of default and bankruptcy in the Gaussian copula for default. Markets now had a model to “map and determine the correlation between” Johnny and June in death and “any given portfolio of assets” in default. Raters rushed to incorporate the formula into their methodology, and abandoned the staple of a diversity score. The sale signs went up. In the decade since interest rates have been slashed to stimulate the economy. Debt has risen from billions then to trillions now, and some of it is triple B, the lowest investment grade. Analysts agree on the likelihood of another crisis, but no one knows when or how.
Sovereign funds, institutional investors and banks may have the talent to rate the raters and the capacity to sustain significant losses, but for the retail rest of us beware of the suits. Herald back to Warren Buffet, the oracle of Omaha, and then do your own homework. That investment is “triple A.”