Feds, states join Miss. in suing S&P over suspect mortgage bond ratings

Mississippi Attorney General Jim Hood now has ample company in a fight to force Standard and Poor’s to give up hundreds of millions it made in profits in exchange for suspect ratings of mortgage bonds before the financial crisis of 2008.

In essence, enforcement actions filed Tuesday by the states and U.S. Justice Department accuse S&P of a rate- for-pay scheme that netted the rating agency huge paydays in exchange for attractive – but misleading — ratings of the mortgage-backed securities.

Hood, in a press statement Tuesday, said he welcomed additional federal and state enforcement actions against Standard and Poor’s. He said the federal suit and legal actions initiated by Arizona, Arkansas, California and a handful of other states seek “accountability for alleged misconduct by the credit rating agency involving structured finance securities backed by subprime mortgages that were at the heart of the nation’s financial crisis.

Hood has had a consumer protection lawsuit pending against Standard & Poor’s, as well as Moody’s, since May 2011.

Like Mississippi’s lawsuits, the new federal and state complaints allege that despite S&P’s repeated statements emphasizing its independence and objectivity, S&P allowed its analysis to be influenced by its desire to earn lucrative fees from its investment bank clients – who paid three times more for ratings of mortgage-backed securities than for ratings of traditional bonds and knowingly assigned inflated credit ratings to toxic assets packaged and sold by the Wall Street investment banks.

The alleged misconduct began as early as 2001, became particularly acute between 2004 and 2007, Hood charges.

He said new evidence indicates that the shady ratings continued as recently as 2011.

Structured finance securities backed by subprime mortgages were at the center of the financial crisis. These financial products, including residential mortgage-backed securities (RMBS) and collateral debt obligations (CDOs), derive their value from the monthly payments consumers make on their mortgages.

Hood charged that the credit rating agencies, “including Standard & Poor’s and Moody’s, are just as culpable as the investment banks in causing the financial crisis.”

In some ways, he added, the conduct by the credit rating agencies was worse “because these agencies held themselves out to be objective and independent.”

Said Hood, “As Mississippi has alleged in its lawsuit – and as is echoed now by the U.S. Department of Justice and multiple sister states in similar complaints – these representations were false.”

Like Mississippi’s pending case, the new enforcement actions seek court orders to stop S&P from making misrepresentations to the public; changes in the way the company does business; and civil penalties and disgorgement of ill-gotten profits, which may total hundreds of millions of dollars.

Connecticut was the first state to sue S&P and Moody’s on these allegations in March 2010. Mississippi filed a similar lawsuit against both ratings agencies in May 2011, and included additional allegations about the competence of the rating agencies. Illinois later filed suit against S&P in 2012.

States filing actions Tuesday include: Arizona, Arkansas, California, Delaware, the District of Columbia, Idaho, Iowa, North Carolina, Maine, Missouri, Pennsylvania, Tennessee, and Washington.

The congressionally appointed bipartisan Financial Crisis Inquiry Commission concluded in its final report that the financial crisis “could not have happened” without ratings agencies such as S&P.

During the housing boom, the demand for ratings of mortgage-backed securities increased exponentially.

Mississippi’s lawsuit alleges that, during the housing boom, S&P and Moody’s each earned fees in excess of $1 billion annually for rating these securities.

“The rating agencies should be disgorged of the hundreds of millions in profits they made from banks. As described in our complaint, these banks were submitting the faulty mortgage backed securities in exchange for the agencies’ seal of approval,” Hood said. “The rating agencies’ actions almost bankrupted our country. Although these are civil cases, somebody should have gone to jail over this.”

After The Wall Street Journal reported Monday afternoon that the government intended to launch the civil case, S&P confirmed the expected lawsuit and said the rating firm was being punished unfairly by the U.S. government for “failing to predict” the housing meltdown or financial crisis.

 

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