S&P ordered by Japan financial watchdog to improve rating system

December 14, 2012 04:31 AM

Standard & Poor’s Japan unit was ordered by the nation’s financial watchdog to improve its system for verifying and updating credit ratings in the regulator’s first action against a ratings company.

“Significant problems were identified with the company’s business operations from the perspective of the public interest and investor protection,” the Financial Services Agency said in a statement in Tokyo yesterday. The regulator said its investigative arm recommended action against S&P on Dec. 11.

The rating company’s woes in Japan came to light less than a month after it was found liable by an Australian judge for issuing misleading ratings on securities bought by municipalities ahead of the global financial crisis. S&P failed to properly confirm information that would affect the ratings of synthetic collateralized debt obligations, the FSA said.

“This could significantly damage S&P as it harms the credibility of its ratings with investors and credit issuers,” said Takao Saga, a professor at Waseda University in Tokyo who specializes in financial regulation. “Rating structured products generates a lot of income for the companies and this regulatory penalty will impact revenue.”

Credit rating companies face increased regulation after a U.S. Senate panel found they provided inflated grades for risky mortgage bonds, helping cause the credit crisis in 2007 and 2008 that tipped the global economy into a recession.

Skeptical Investors

“Investors and issuers have been skeptical of rating agencies since the subprime issue emerged,” Saga said.

In Europe, the ratings companies may face curbs on when they can assess government debt and restrictions on their ownership as the European Union seeks to limit the industry’s influence and tackle conflicts of interest.

French bonds and U.S. Treasuries both made gains after those countries were stripped of their AAA credit ratings, in a signal that downgrades may have little bearing on a nation’s borrowing costs.

In Australia, the so-called Rembrandt notes plunged in value as global credit markets froze and the towns lost 90 percent of their investments. Australia federal court Justice Jayne Jagot in Sydney yesterday scheduled a hearing for Feb. 21 before she issues final orders in the case and determines how much to award the towns to compensate them for their losses and costs of the lawsuit.

S&P failed to factor in events linked to the underlying assets of some synthetic CDOs and didn’t downgrade the credit ratings for those products in a timely manner, the FSA said. The watchdog said it also found problems with S&P’s controls for publicly disseminating information as it issued an incorrect credit rating and published errors in press releases.

No Trust

“Investors often rely on ratings by agencies like S&P for complicated securities such as CDOs,” Tsuyoshi Ueno, a Tokyo- based senior economist at NLI Research Institute, said by telephone yesterday. “Now what can they trust?”

The FSA will require S&P to implement preventive measures for the problems its review identified and submit reports within 15 days of the end of each quarter, according to the watchdog’s statement. The regulator gave it until Jan. 18 to submit its first report.

S&P’s Japan representative director has voluntarily agreed to a 50 percent pay cut for three months, the company said. A range of salary reductions for some staff will be made in accordance with Japanese law, it said. The company also plans to issue a manual on procedures for reviewing and updating SCDO ratings by next month.

Yesterday’s order is a result of the first inspection of the company by the Securities and Exchange Surveillance Commission since S&P’s local unit registered in September 2010, S&P said in a statement on its website. It opened the Tokyo office in 1985.

“We take this matter very seriously and sincerely apologize to clients and market participants for the issues that led to the recommendation and order,” S&P said.


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