Conflicts Draws Sanctions for Rating Agency

Ratings from a nationally recognized statistical rating organization or NRSRO registered with the Commission can have a significant influence of the sale of products such as residential mortgage backed securities. It is for that reason that Congress in Dodd Frank, and the Commission in drafting certain rules regarding NRSROs, sought to ensure that the process was free of conflicts – those involved with the products being rated could not become participants in the sales and marketing process. See, e.g. Rule 17g-5(c)(8)(prohibiting ratings when there is conflict). Yet that is the situation in the Commission’s latest case in this area. In the Matter of S&P Global Ratings, Adm. Proceeding File No. 3-21240 (November 14, 2022).

Respondent is an NRSRO based in New York City. In August 2017 Respondent had not rated any transactions for the issuer since 2015. The client requested that the firm rate certain senior tranches of RMBS. Initially, Respondent informed the client that the RMBS transaction met the minimum credit enhancement floor under the applicable criteria to be assigned a “AAA” rating. Yet later Respondent notified the client that there had been a calculation error – the tranches being considered were actually 10 basis points under the minimum for the AAA rating criteria. A few days later Respondent informed the client that after further analysis and discussion the firm had reached a different conclusion – the tranches did meet the minimum requirements to secure the AAA rating.

The issuer repeatedly expressed disappointment with the process. During the communications between Respondent’s staff and that of the issuer, the latter threatened Respondent with a lawsuit. As Respondent’s employees re-evaluated the transaction over a five-day period in early August 2017 there were multiple discussions and emails along with meeting requests and telephone calls. There was an effort to pressure S&P analytical employees to find a way to rate the transaction AAA.

All of the communications between the S&P commercial and analytical employees during the period were chaperoned by staff from from S&Ps compliance department. Nevertheless, some emails reflected sales and marketing considerations. Those included the fact that a quick decision was required on if to move forward with S&P. Exclusion of the firm would impact its future business.

S&Ps analytical employees worked late the evening prior to a preliminary meeting of the rating committee. The group was considering a unique structural item as urged by the issuer. The analytical group concluded that the rating should be AAA based in part on an economic outlook that extended past the end point of the one prepared at the beginning for the transaction.

The Order concludes that as “a result of the content, urgent nature, high volume, and compressed timing of the communications between the S&P commercial employees and the S&P analytical team . . .” the S&P commercial employees became “participants” in the rating process for the RMBS transaction being influenced by sales and marketing considerations. This violates Rule 17g-5(c)(8).

In resolving the proceedings Respondent agreed to implement certain undertakings. Respondent consented to the entry of a cease-and-desist order based on Rules 17g-5(c)(8)(i) and 17g-5(c)(8)(ii) under Exchange Act Section 21F(g)(3). The firm agreed to pay a penalty of $2.5 million. See also In the Matter of Egan-Jones Rating Co., Adm. Proc. File No. 3-20902 (June 21, 2022)(same conclusion), available at

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