2011: SEC raps Moody's for revolving door in key post

McClatchy NewspapersSeptember 30, 2011 

WASHINGTON — The Securities and Exchange Commission rebuked Moody's Investors Service on Friday for failings that it said "may compromise" its compliance office, which is supposed to ensure the integrity of the firm's work.

It was the first SEC report on credit ratings agencies since the commission was given stronger oversight authority over them. The staff report followed examinations and audits of 10 certified raters. The report doesn't name Moody's, but makes it abundantly clear that Moody's is the embattled company that's being criticized.

Moody's has been under fire for several years since McClatchy and others reported that it sacrificed quality analysis in exchange for profiting from the Wall Street investment banks that nearly brought down the U.S. financial system in 2008. A Senate panel found last year that more than 90 percent of Moody's AAA ratings on complex mortgage bonds later proved wrong.

All that happened because of a hamstrung compliance office, congressional investigators and a special inquiry commission concluded. Friday's report suggests that more needs to be done to clean up compliance at Moody's.

Ratings are a signpost for investors of the risk of default on bonds. Moody's poor performance on rating complex bonds sparked numerous lawsuits, along with probes by the SEC and the Department of Justice. No ratings agency official has faced criminal charges to date.

Before the financial crisis there was no direct regulation over ratings agencies. A revamp of financial regulation in July 2010 gave the SEC that power, and Friday was its first comprehensive examination of companies that were key sparks of the financial crisis.

Moody's took the criticism in stride.

"Moody's welcomes the SEC's constructive recommendations to our industry," said Michael Adler, a spokesman in New York.

Friday's report spotlighted ongoing problems with the role of designated compliance officers. The DCO is supposed to be an honest broker within an organization to ensure that the public and the integrity of the rating process are protected.

Reporting by McClatchy in late 2009, later designated a Pulitzer Prize finalist, documented how compliance officials at Moody's were shoved aside as officers from the high-flying division that rated mortgage bonds won control of the executive suite.

The new SEC report noted that at one large ratings agency, "there have been significant changes in the compliance function, including changes in structure and leadership roles since 2008. During that time, four different people have served as DCO, and the current DCO is serving on an interim basis."

That company is Moody's.

Regulatory filings earlier this year listed the interim compliance officer as Janet Holmes. She replaced Jeffrey R. Schwartz in April and became the fourth compliance officer in four years.

"The staff is concerned that the changes, which continue to present, have created an environment in which a clearly defined set of roles and responsibilities for the DCO has not yet been fully established," the report said, adding that "Staff is concerned that this (company's) DCO function may not have a prominent enough role" within the company.

That's important, because reporting from McClatchy in December 2009 and April 2010 documented how compliance officials at Moody's were forced out and replaced by people without compliance experience, and with no apparent questioning from the board of directors. Executives who went before the board described its members as incurious about compliance or even the source of surging profits that later imploded along with the housing sector.

Moody's CEO Ray McDaniel was brought before the Senate Permanent Subcommittee on Investigations and later the Financial Crisis Inquiry Commission in April and June of last year, and confronted with emails and witnesses describing how profit trumped compliance integrity and destroyed the image of a storied company.

McDaniel, who remains at the helm, promised that the company would do better, but the SEC report suggests that it hasn't done enough in this key area.

The report noted that tensions between senior management and the compliance office "may have hindered an effective working relationship" in the past, and added that the ongoing structure of compliance at this company "may compromise the DCO's role in the compliance function."

"A critical theme for us in all the reviews was to make sure that there is a designated compliance officer that has stature, experience, independence and authority to get the job done, has access to senior management, the CEO and the board and has the resources they need to build an effective compliance program," said an SEC official who's involved in the reviews.

Declining to discuss individual companies, the official, who demanded anonymity in order to speak freely, said "we still see significant need for improvement" in terms of independence and resources, adding that "we see certain ratings agencies that have taken that path and others are on it but not quite there."


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McClatchy Newspapers 2011

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