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The US question: to rate or not to rate

The US Congress may have ordered agencies that regulate financial institutions to stop relying on credit ratings by firms such as Moody’s and Standard & Poor’s, but regulators are still struggling to come up with an alternative.

business Updated: Apr 28, 2011 22:04 IST

The US Congress may have ordered agencies that regulate financial institutions to stop relying on credit ratings by firms such as Moody’s and Standard & Poor’s, but regulators are still struggling to come up with an alternative.

Onee of the painful lessons of the mortgage meltdown was that securities stamped with the highest ratings turned out to be poor investments.

Yet those private ratings had been enshrined in the nation’s laws and regulations as official benchmarks of quality, helping to determine, for example, what assets certain financial institutions could buy.

The Congress told regulators to go through their rules and strike any official reference to credit ratings. The SEC opened another chapter in that review on Wednesday, even as some commissioners said the task could be difficult.

The five commissioners proposed a set of rules addressing how to protect clients of brokerage firms without leaning on the familiar crutch of credit ratings.

The rules govern how much of capital brokerage firms must maintain to cover obligations to investors if the firms go under. At present, the grades that rating agencies assign to securities held by brokerages are used to measure the value of those securities. In its place, the SEC proposed allowing brokerages to use a mix of factors, and letting them tailor their own combination of measures. Other proposed factors include “internal or external credit risk assessments”

The SEC’s proposal is now open for public comment.

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