Ratings: Yet more triple-A ratings are under threat

Leaving to one side profound uncertainty about investors’ risk appetite for CDO product in the medium term, there is a strong possibility that the triple-A rating will become a rarity in structured credit.

First, Fitch raised the market’s ire by proposing to shift its methodology on synthetic corporate risk CDOs to a dramatically more conservative stance. The agency predicted, following the implementation of the new model, five-notch downgrades on average for deals rated under previous assumptions. Moody’s proposes doing away altogether with its well-known alpha numeric ratings scale for complex securities (in other words CDOs) and replacing it with one based purely on numbers or perhaps a special signifier to denote the asset class. Standard & Poor’s has also made some modest changes to its RMBS-backed CDO methodology.

Both Fitch’s and Moody’s proposals are a reaction to the fact that many ABS CDOs rated by all the rating agencies have not lived up to the rankings initially bestowed on them. What was called a triple A was not in fact a triple A, and in many cases not even of investment grade. Fitch’s approach is brave, although there is the possibility that it will lose a lot of business as a result of trying to match CDO ratings with standalone credit ratings. Moody’s risks confusing everyone with a scale that means nothing to anyone.