Credit Rating Agency Regulations Under Wall Street Reform And Consumer Protection Act
The landmark Wall Street Reform and Consumer Protection Act still has a final hurdle to pass before it becomes law. But assuming that it does pass the Senate sometime this week or next, the bill will contain several provisions that reform the regulation of the credit rating industry.
Proponents of such reform have claimed that conflicts of interest between the credit rating agencies (also known nationally recognized statistical ratings organizations) led individuals and firms to invest in asset-backed securities without knowing the true nature of the risk they were undertaking. As a result, several significant reforms are included in the financial reform legislation.
To begin with, the legislation establishes a new Office of Credit Ratings at the SEC. The Office will have the authority to fine credit rating agencies. In addition, the Office will also examine the credit rating agencies once a year and the examinations will be made public. The SEC will also be charged with creating a way to stop issuers from simply picking the agency the issuer believes will give it the highest rating. Before this can be implemented, however, the SEC must develop the mechanism and submit a report to Congress.
As for conflicts of interest, the legislation will prohibit compliance officers themselves from working on the ratings or the sales of the securities. The legislation also includes a “look back review” requirement. This will require the agency to perform a review over a one-year time frame when an agency employee goes to work for an obligor of an instrument the agency is rating or an underwriter of such an instrument. In addition, the legislation will also require agencies to disclose when one of its employees goes to work for an organization for which the agency performed a rating in the previous year. Notwithstanding the disclosures required above, the agencies will have to also now disclose their rating methods, the identities of third parties used in their ratings, and their track record for their ratings.
Along with the reforms outline above, the legislation also gives the SEC the right to deregister agencies if the agency provides bad ratings over a period of time. The legislation also requires ratings analysts to successfully pass qualifying examinations and to obtain continuing education.
Finally, the legislation amends current provisions in the Securities and Exchange Act that will allow individuals and investors to sue credit rating agencies for the agency’s alleged “knowing and reckless failure to conduct a reasonable investigation” of the facts at issue when giving a ratings opinion.
As discussed above, the Wall Street Reform and Consumer Protection Act proposes several new regulations on the credit ratings industry. In addition to giving investors potential private rights of action against ratings agencies, the legislation also imposes several new regulatory hurdles on such agencies.
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William T. Repasky practices with the Litigation Department at Frost Brown Todd. He focuses on lending and commercial services; banking litigation and financial institutions.