Friday, May 14, 2010

One Provision Overlooked in Senate version of reform leglislation

Shahien Nasiripour in the Financial Fix:

In passing a measure that attempts to end their oligopoly, the Senate purposely did not include a provision in the House bill that forces major credit rating agencies to be accountable to investors by scrapping a Securities and Exchange Commission rule that has shielded them from civil lawsuits for nearly 30 years.

The provision, known as Rule 436(g), insulates the 10 credit rating agencies recognized by the government as "Nationally Recognized Statistical Rating Organizations" from liability if they knowingly make false or misleading statements in connection with securities registration statements to dupe investors. Other experts -- like the rating agencies not part of the group of 10 -- are legally liable for their statements "to assure that disclosure regarding securities is accurate," according to a 2009 SEC document supporting the removal of the exemption.

In short, if a Standard & Poor's or Moody's Investors Service knowingly tries to deceive an investor, under current law that investor can't sue.

Here's what was in the House version:

Rule 436(g), promulgated by the Securities and Exchange Commission under the Securities Act of 1933, shall have no force or effect.

Shahien Nasiripour continues:

But the Senate bill, like the House bill, does provide investors with an improved ability to sue credit raters for faulty ratings. A spokesman for LeMieux pointed to these provisions when asked why his amendment did not include the House language on the 436(g) rule.

The agencies have enjoyed a near-perfect legal record by claiming that their ratings fall under the protection of the First Amendment -- free speech, they've successfully argued. The House and Senate bills attempt to address this by strengthening investors' hand when it comes to suing the rating agencies, but the First Amendment defense may be hard to overcome, as ultimately the courts decide -- not Congress.

Still, according to experts like Barbara Roper, director of investor protection at the Consumer Federation of America, the bills are a big improvement over the status quo. Many consumer groups say the provisions approved Thursday strengthened the Senate bill.

Elsewhere in those amendments were measures that remove various references in federal law to credit ratings, which had compelled their use and guaranteed the majors' oligopoly, and a government mechanism that would inject government officials into deciding which agency rates which securities.

Regarding the removal of the references, federal regulators will largely be forced to define creditworthiness, rather than regulations that currently rely on the credit rating agencies for that.

However, there are open questions about the LeMieux-Cantwell provision. The House bill, largely authored by Rep. Paul Kanjorski (D-Pa.), directs the various federal agencies that would need to modify their rules, like the Office of the Comptroller of the Currency, the SEC and the Federal Deposit Insurance Corporation, to harmonize their standards of creditworthiness "to the extent feasible." The Senate provision includes no such language.

Also, the House bill compels federal agencies to look for other such references to credit ratings in their rules and regulations, and modify them so they instead refer to government-defined standards. The Senate amendment doesn't include this, either.

The measures in the LeMieux-Cantwell amendment won't take effect until two years after the bill is enacted into law; the House provisions take effect within six months.

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