Grade Inflation

Friday, May 29, 2009


Some argue that a key factor in the economic meltdown was credit rating agencies giving high ratings to worthless bonds. In lawsuits, the agencies often use the First Amendment as a defense. S&P's legal council Floyd Abrams explains this reasoning while securities lawyer David Grais says a bond rating isn't always like a newspaper editorial.

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Comments [11]

Martyn Strong

Capital markets are unstable. In the past there was no way to make them stable. But today we have computer power that can be used to make them stable.

By using the greater computer power of today we can have a much higher turn over of capital in the capital market. This higher turnover will make the market harder to game or control and the market will no longer have the unstable run ups or declines. Who can change or control the market when say 20% of the capital is trading each day?

So now that we have the compute power to provide for all these transactions that will smooth out the market how do we force people to turn over at a rate of 20% a day? Easy, put a cap gains tax of 0% (zero) on all gains of 7 days or less and put a cap gains tax of 90% of all gains of more than 7 days.

The likes of Yahoo, Micosoft and/or Sun Micro Systems will give us the systems that will provide automated software agents to support turning over one's investments every 7 days (based on the specs you give the agent).

A system like this will make the financial markets work as smoothly as the local fruit market.

Jul. 06 2009 12:41 PM
Barry Bostwick from Vancouver WA

I would also echo Chuck Thompson's comments. The contention that ratings are just speech begs the question of why people paid so much for their product if it's just common speech, similar to an editorial piece in the Wall Street Journal or the Oregonian newspaper.

Chuck is right when he says that they were selling a product and, we now know, a faulty product at that. What they sold us wasn't simply a bill of goods but a real package of lies and distortions that caused real financial harm. For that, they need to own-up and face the music, not continue with more lies and distortions using our rights of free speech as an excuse.

Jun. 07 2009 03:22 AM
Chris Gray from New Haven, CT

Michael Milkin gave junk bonds a GOOD name compared with these pirates! Plus, he paid his debt to society without his toup.

Jun. 03 2009 10:12 PM
Barb Finer from Boston

The whole system is fraught with conflict of interest. I realized this while at a startup that was planning to go public: the investment firms doing the ratings of the company/ industry were the ones getting us through the IPO. That is, they had major stock in the company that would pay off if we went public and at a strike price that was as high as they could make it...

Jun. 02 2009 02:49 PM
David E Jones from Santa Cruz, CA

With due respect, your piece let the financial rating agencies get away with playing the victims. These rating agencies made megabucks giving absurdly positive ratings for many financial instruments that failed. Some of these stocks and other instruments were still highly rated after a long decline before they ultimately went broke. You referred only in passing to the obvious conflict of interest in the fact that the rating agencies are paid by the very clients they rate.

Are "journalists" paid by baseball teams to "report" false scores so the teams can collect on their bets...?

Jun. 01 2009 01:36 AM
Peter Bernick from Boston, MA

I would agree with the comments of Chuck Thompson (4) above--rating agencies are professionals akin to doctors, lawyers, and so on. Doctors, etc. have specialized knowledge and are paid for their opinions. When their opinions are wrong, they can be held accountable. Rating agencies should be held to similar standards, particularly given the opacity (to average investors) of their financial relationships with the entities they rate, and the potential for conflicts of interest.

May. 31 2009 03:55 PM
Natalie Roberge from Sudbury MA

Rating agencies should be held to a higher standard given their "opinions" affect the wealth of all citizens through our investments in 401Ks, mutual funds, pension funds, policies we purchase from insurance companies, money we deposit in banks, etc. If the rating agencies merely offer an opinion with their ratings, we should not rely on them for all the important investment decisions we are facing. The days when buyers of investment products are willing to pay a user fee to access non-bias ratings of investment products cannot be that far-off... In light of the huge market crash precipitated by inflated ratings we have just experienced, I'd be willing to pay a user-fee. Anyone else?

May. 31 2009 07:49 AM
chuck thompson from Anchorage AK

Great piece and an interesting exercise in convoluted logic, particularly by Floyd Abrams.

By his reckoning, bond ratings are simply speech with an economic flavor. Because it's just *talk* (be it on the air, words in print, or on the phone) it's simply speech.

Balderdash. That's like saying my doctor's rendering a medical assesment on my condition is just "speech" and he should be held harmless for any diagnosis.

By the same token, my attorney's practice is just speech and any malpractice is just a, whoops!, slip of the tongue. The whole notion is, prima facie, ridiculous.

Ratings aren't just words, they are products. Products that are bought, have value and can cause harm when manufactured in an irresponsible manner... just like any other product. It may contain numbers and words, but that does NOT make it "speech" equivalent to my political rantings or a newspaper's typo.

David Grais came close, but even he gets no banana.

May. 31 2009 03:51 AM
Greg Gaudet from Nova Scotia Canada

I think your analogy of the bond raters to the restaurant critic was a little off. I believe the analogy should be to the food inspector that enters that restaurant to evaluate the safety of the food. The inspector's impartiality, like the bond rater's, must be perceived by the public to be independent and above reproach - otherwise why risk eating at that establishment?
btw - love the show!!

May. 30 2009 11:38 AM
Ann C from NYC

Boy did you goof, Brooke! "Stock rating agency?" Beware the gratuitous comment dropped to look cool during the fund raising campaign. When you find a stock rating agency, I'd be interested in hearing a little story on it. That'll be a whopper.

May. 30 2009 08:23 AM
Matt W. from Arlington, Virginia

How can OTM bemoan the lack of rigorous peer review in one segment and then treat law firm product as if it had scientific certainty? How hypocritical and how disappointing.

May. 29 2009 07:23 PM

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