A news release said the SEC report also stressed the importance of having in place strong enough internal controls over the policies, procedures, and methodologies the firms use to determine credit ratings.
According to the announcement, the report grows out of an Enforcement Division inquiry into whether MIS violated the registration provisions or the antifraud provisions of the federal securities laws.
The report said an MIS analyst discovered in early 2007 that a computer coding error had upwardly impacted by 1.5 to 3.5 notches the model output used to determine MIS credit ratings for certain constant proportion debt obligation notes. Nevertheless, shortly after that during a meeting in Europe, an MIS rating committee voted against taking responsive rating action, in part because of concerns that doing so would negatively impact MIS’s business reputation, the document indicated
MIS applied in June 2007 to be registered with the SEC as a nationally recognized statistical rating organization (NRSRO). The report notes that the European rating committee’s “self-serving” consideration of non-credit related factors in support of the decision to maintain the credit ratings constituted conduct that was contrary to the MIS procedures used to determine credit ratings as described in the MIS application to the SEC.
The SEC declined to pursue a fraud enforcement action because of a jurisdictional problem. The report notes, however, that the Dodd-Frank Wall Street Reform and Consumer Protection Act gave federal district courts jurisdiction over SEC enforcement actions alleging violations of the antifraud provisions of the securities laws when conduct includes significant steps, or a foreseeable substantial effect, within the United States.
The new SEC document also notes that the Dodd-Frank Act amended the securities laws to require NRSROs to “establish, maintain, enforce, and document an effective internal control structure governing the implementation of and adherence to policies, procedures, and methodologies for determining credit ratings.”
“Investors rely upon statements that NRSROs make in their applications and reports submitted to the Commission, particularly those that describe how the NRSRO determines credit ratings,” said Robert Khuzami, Director of the SEC’s Division of Enforcement, in the news release. “It is crucial that NRSROs take steps to assure themselves of the accuracy of those statements and that they have in place sufficient internal controls over the procedures they use to determine credit ratings.”
The report cautions NRSROs that the agency will pursue antifraud enforcement actions against deceptive ratings conduct, including actions pursuant to the Dodd-Frank Act provisions regarding conduct that physically occurs outside the United States but involves significant steps or foreseeable effects within the U.S.
The report is at http://www.sec.gov/litigation/investreport/34-62802.htm.
MIS and other credit rating firms have been the target of litigation in recent years over the validity of their ratings (see Credit Rating Agencies Face Second Lawsuit by Public Pension Fund).