Alert January 04, 2011

SEC Requests Comment Regarding Upcoming Credit Rating Standardization Study

The SEC requested public comment to help inform its study of the feasibility and desirability of standardizing portions of the work of credit rating agencies.  The study is being conducted pursuant to Section 939(h) of the Dodd-Frank Act, which requires the SEC to study the feasibility and desirability of:  (i) standardizing credit ratings terminology so that all credit ratings agencies issue ratings using identical terms, (ii) standardizing market stress conditions under which ratings are evaluated, (iii) requiring a quantitative correspondence between credit ratings and a range of default probabilities and loss expectations under standardized economic stress conditions and (iv) standardizing credit rating terminology across asset classes so that named ratings correspond to a standard range of default probabilities and expected losses independent of asset class and issuing entity.  The SEC must submit a report on its findings and any recommendations to Congress by July 21, 2011.

The SEC has proposed a series of questions related to the four mandated areas of inquiry for public comment, including the following:

Standardizing Credit Ratings Terminology. The SEC requests comment regarding: (a) the significance of the differences in credit ratings terminology currently in use, (b) issues encountered when seeking to compare ratings from different credit agencies and (c) whether standardizing credit ratings is desirable and feasible.

Standardizing Market Stress Conditions under which Ratings Are Evaluated. The SEC requests comment regarding whether: (a) market stress conditions used by different credit agencies are comparable, (b) standardized market stress conditions are equally relevant to the evaluation of all asset classes or issuers and (c) standardizing market stress conditions under which ratings are evaluated is desirable and feasible.

Quantitative Correspondence between Credit Agencies and a Range of Default Probabilities and Loss Expectations under Standardized Economic Stress Conditions.  The SEC requests comment regarding whether: (a) the likelihood of rating transitions for similarly rated assets varies among assets classes, and if so how the variation should be addressed, (b) there is a role for market-based measures such as credit spreads or option‑based approaches in determining the correspondence between credit ratings and a range of default probabilities and loss expectations and (c) requiring a quantitative correspondence between credit ratings and a range of default probabilities and loss expectations under standardized economic stress conditions is desirable and feasible.

Standardizing Credit Rating Terminology across Asset Classes. The SEC requests comment regarding: (a) the extent to which credit ratings are currently comparable across asset classes, (b) the appropriate mix of quantitative and qualitative factors to be considered when standardizing credit rating terminology across classes and (c) any asset classes whose characteristics make it more difficult to apply standardized credit rating terminology.

Comment Due Date.   Comments are due no later than February 7, 2011.