SEC and the Fed erasing ratings agencies from financial regulations

Last Updated Jul 26, 2011 4:50 PM EDT

(MoneyWatch) Moody's (MCO), Standard & Poor's and Fitch are reaping the whirlwind. The SEC has begun to remove them from their cherished and lucrative place in the regulatory code.

The SEC action, a result of the Dodd-Frank financial reform law, means the ratings agencies are losing their designations as government-sanctioned Nationally Recognized Statistical Rating Organizations (NRSRO). That designation forced companies to pay to have their securities rated by the agencies.

It also turned out to be the agencies' downfall, as it created a conflict of interest in which they relied on the companies they were rating for income. In no time at all the agencies were slapping AAA ratings on every moldy ham sandwich LehmannMerrilMorganGoldman & Co. could send their way. Which is why the economy dropped faster than Wile E. "Super Genius" Coyote chasing an anvil off a cliff just a few years ago.

This move follows a similar action yesterday by the Fed and is just a first step in the regulatory unwinding. Under Dodd-Frank, every financial watchdog has to eliminate to credit ratings from their regulations. Now investors will have to choose which raters to follow based on -- gasp! -- which ones do a good job.

The rule changed by the SEC addresses which companies can use an express lane that routes around lengthy reporting forms. In order to skip the forms, companies that have issued $1 billion of non-convertible securities over the prior three years will now need to meet one of several qualifications, regardless of credit ratings. These include:

Whether a firm has $750 million outstanding in non-convertible securities issued in primary offerings, is a wholly owned subsidiary of a "well-known seasoned issuer" or is a majority-owned operating partnership of a real estate investment trust qualifying as well-known.

The SEC took several other actions, one of which resulted in the WSJ publishing one of the most honest typos ever:

It proposed adjusting its criteria for allowing asset-backed issuers to obtain pre-approval to sell their securities on an expedited basis and gathering more feedback on a proposal to require issuers to report details on the loans undermining the securities they package.

The truth will out.

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    Constantine von Hoffman is a freelance writer and writing coach. His work has appeared in outlets such as Harvard Business Review, NPR, Sierra magazine, Brandweek, CIO, The Boston Herald, TheStreet.com, CSO, and Boston Magazine.

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