Why FEI supports credit rating agency reform.

• Author: Prysock, Mark
• Position: Finance Executives International

Credit rating agencies (CRAs) play a vital role in the U.S. and world financial markets. Unfortunately, the current credit marketplace suffers from three obvious shortcomings that Congress has expressed an interest in addressing: a lack of real competition, a lack of accountability and the presence of conflicts of interest.

FEI's Committee on Corporate Finance (CCF) has worked closely with the House Financial Services Committee and the Senate Banking Committee to tackle these concerns legislatively. The House is currently considering H.R. 2990, the "Credit Rating Agency Duopoly Relief Act of 2005," which would establish new registration procedures designed to increase competition in the credit rating marketplace. Likewise, the Senate Banking Committee recently held hearings on credit rating agency oversight and operations. FEI President Colleen Cunningham testified at the hearing, and reiterated the call for greater competition and accountability in the rating marketplace.

What specific concerns has CCF raised? To begin with, there are more than 100 CRAs operating worldwide, but only five are designated as Nationally Recognized Statistical Rating Organizations (NRSROs) by the Securities and Exchange Commission (SEC). These five enjoy a competitive advantage over their peers because the guidelines for many government, mutual fund and other institutional investment portfolios not only specify minimum credit ratings for their securities but also require that the ratings come from NRSROs. The scarcity of NRSROs and the ambiguity surrounding the designation criteria have left these incumbents with a distinct competitive edge.

The most effective way to increase competition in the credit rating market would be to eliminate the broken "no action" process the SEC uses to recognize NRSROs, and to replace it with transparent registration requirements. By establishing clear criteria for registration, Congress would not only ensure the continued validity of ratings issued by "registered" credit rating agencies, but would also generate more competition. That, in turn, would provide more choice for issuers and lower costs for rating services.

Another problem with the current system is that there is no mechanism in place to ensure that NRSROs continue to satisfy the criteria necessary to maintain their designation. Once a rating agency has earned an NRSRO designation, it is required to notify the SEC only when it experiences material changes that may...