SEC Proposes New Credit Ratings Rules, Seeks Input on NRSRO

The Securities and Exchange Commission (SEC) in May took steps to implement certain provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act as it relates to credit ratings, including proposing new rules that would increase transparency and improved integrity of credit ratings.

“In passing the Dodd-Frank Act, Congress noted that credit ratings applied to structured financial products proved inaccurate and contributed significantly to the mismanagement of risks by financial institutions and investors,” said SEC Chairman Mary L. Schapiro in a press release.  “Our proposed rules are intended to strengthen the integrity and improve the transparency of credit ratings.”

The proposed rules would enhance the SEC’s existing rules governing credit ratings and Nationally Recognized Statistical Rating Organizations (NRSROs).  Specifically, they would require NRSROs to:

• Report on internal controls
• Establish professional standards for credit analysts
• Publicly provide disclosure about a credit rating and the methodology used to determine it
• Enhance public disclosures about the performance of their credit ratings

Also required would be the establishment of policies regarding former employees who participated in determining a credit rating and were subsequently employed by an entity subject to that credit rating.  Specifically, in these situations, the NRSRO would be required to conduct a “look-back” review to determine whether any conflicts of interest influenced the credit rating.

If the review determined that a conflict influenced a rating, the NRSRO would at minimum be required to immediately place the credit rating on a credit watch and include an explanation that the reason for the action is that the rating was influenced by a conflict of interest.  It must also promptly determine whether the credit rating must be revised so it is no longer influenced by a conflict of interest and publish a revised credit rating or an affirmation of the credit rating, if appropriate.

The proposed rules would also require due diligence providers for asset-backed securities to provide a written certification to any NRSRO that rates the securities.  The certification would be made on Form ABS Due Diligence-15E and would describe the due diligence undertaken, the findings and conclusions.

In a separate announcement, the SEC also issued a request for public comment on the feasibility of a system in which a public or private utility or a self-regulatory organization would assign a NRSRO to determine credit ratings for structured finance products, as mandated by the Dodd-Frank Act.

The Act directs the SEC to study the credit rating process for structured finance products and the conflicts associated with the “issuer-pay” and the “subscriber-pay” models.  It also requires that the study address the range of metrics that could be used to determine the accuracy of credit ratings for structured finance products, and alternative means for compensating NRSROs that would create incentives for accurate credit ratings for structured finance products.  Findings must be submitted to Congress by July 21, 2012, along with any recommendations for regulatory or statutory changes that the SEC determines should be made.

The SEC is accepting public comments on both the proposed rules and the feasibility study, which can be submitted via the “Proposed Rules” section of the Commission’s website, www.sec.gov.
 

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