Inflated bond ratings were one cause of the financial crisis. A decade later, there is evidence they persist. In the hottest parts of the booming bond market, S&P and its competitors are giving increasingly optimistic ratings as they fight for market share.
All six main ratings firms have since 2012 changed some criteria for judging the riskiness of bonds in ways that were followed by jumps in market share, at least temporarily, a Wall Street Journal examination found. These firms compete with one another to rate the debt of borrowers, who pay for the ratings and have an incentive to pick rosier ones.
There are signs some investors are skeptical. Some bonds in markets where ratings criteria have been eased don’t trade at the high bond prices their ratings suggest they should. Investors have also shown skepticism about ratings on some corporate and government bonds.
“We don’t trust the ratings,” says Greg Michaud, director of real estate at Voya Investment Management, which holds $21 billion in commercial-real-estate debt.
The problem is particularly acute in the fast-growing market for “structured” debt—securities using pools of loans such as commercial and residential mortgages, student loans and other borrowings. The deals are carved into different slices, or “tranches,” each with varying risks and returns, which means rating firms are crucial to their creation.
The Journal analyzed about 30,000 ratings within a $3 trillion database of structured securities issued between 2008 and 2019. The Journal’s analysis suggests a key regulatory remedy to improve rating quality—promoting competition—has backfired. DBRS, Kroll and Morningstar were more likely to give higher grades than Moody’s, S&P and Fitch on the same bonds. Sometimes one firm called a security junk and another gave a triple-A rating deeming it supersafe.
Two fast-growing structured-bond sectors are commercial mortgage-backed securities, or CMBS, and collateralized loan obligations, or CLOs. CMBS fund deals for hotels, shopping malls and the like. CLOs are backed by corporate loans to risky borrowers, typically to fund buyouts.
In a May speech, Federal Reserve Chairman Jerome Powell compared CLOs to precrisis mortgage-backed debt: “Once again, we see a category of debt that is growing faster than the income of the borrowers even as lenders loosen underwriting standards.”
Behind the ratings inflation is a long-acknowledged flaw Washington didn’t fix: Entities that issue bonds—state and local governments, hotel and mall financiers, companies—also pay for their ratings. Issuers have incentive to hire the most lenient rating firm, because interest payments are lower on higher-rated bonds. Increased competition lets issuers more easily shop around for the best outcome.
Rating analysts say their firms have lost deals because they wouldn’t provide the desired ratings.
In the first half of 2015, S&P’s share of ratings in the $600 billion CLO market hit a five-year low. That fall S&P changed its methodology to make it easier for CLOs to get higher ratings. When S&P again proposed loosening its criteria this year, a group representing more than 100 professional bond investors wrote a letter to the company, reviewed by the Journal, saying the changes “will lead to a weakening of credit protection for investors at a time where we need it most.” S&P proceeded.
Moody’s ratings on riskier slices of these multi-borrower deals often weren’t as favorable as those of its competitors. By 2015, issuers “essentially stopped soliciting our ratings” on those slices, according to a January commentary from the company. In October 2015, Moody’s eased its rating methodology for single-asset CMBS deals.
In 2016 Fitch [gave] itself wider latitude to use easier rating assumptions.
Investors say ratings inflation is most evident in commercial-mortgage-backed securities, or CMBS, of which investors hold about $1.2 trillion. When rating a security higher than their three big competitors, Morningstar, Kroll and DBRS were around two rungs more generous, on average. Some ratings were a dozen or more rungs higher, potentially the difference between junk bonds and triple-A.
A group of professional investors in 2015 complained about inflated ratings to the Securities and Exchange Commission. Adam Hayden, who manages a $13 billion securities portfolio at New York Life Insurance Co.’s real-estate-investment arm, was among the investors who met with the SEC. He said inflated ratings were a risk to market stability, according to a meeting memo obtained by the Journal.
The SEC didn’t implement their recommendations.

BREAKING: A Treasury Department statement said that China had manipulated the exchange rate between its currency and the U.S. dollar to gain an “unfair competitive advantage.”
The move follows the biggest one-day stock market loss of 2019, and stoked fears that a commercial dispute with no end in sight would do significant damage to a slowing global economy. China answered President Trump’s latest tariffs on Monday by allowing its tightly-controlled currency to slide to an 11-year low against the dollar, a move that threatened to turn the U.S.-China trade conflict into a global economic contagion.
Treasury’s view was potentially even more important on Monday, because Trump alleged China was manipulating its currency, a practice that is expressly in the department’s purview.
The currency shift also will effectively counter the Federal Reserve’s recent interest rate cut by leading to tighter financial conditions in the United States, said Robin Brooks, chief economist of the Institute of International Finance.
As of midafternoon, all three major U.S. stock indexes were having their worst day of 2019, falling more than 3 percent — fresh off having their worst week of the year. The Dow Jones industrial average was down more than 800 points, or more than 3 percent. The Standard & Poor’s 500 was off by nearly 93 points, or 3.1 percent, and the tech-heavy Nasdaq was down nearly 303 points, or nearly 3.8 percent. — a six-day losing streak. Trade bellwethers Caterpillar and Boeing were down 2 percent.
The yuan’s move will likely make it difficult for developing countries that need to cut interest rates to spur growth, such as India. Instead, they will pressure to raise interest rates to attract investment, a move that would further curb growth.
China’s central bank said it was confident it could keep the currency at a “reasonable and balanced level.” Beijing is expected to try to prevent an unrestrained plunge by the yuan, fearing it would encourage Chinese citizens to take their wealth out of the country, economists said.
The yuan has actually held up better against the surging dollar than most U.S. trading partners. Its year-to-date decline against the dollar of 2.4 percent is much less than the currencies of two U.S. allies, the Taiwan dollar at 3.4 percent and the South Korean won at 8.6 percent.
Beijing appeared to mount other forms of retaliation on Monday. The government has asked state-owned firms to stop their U.S. agricultural purchases, according to a Bloomberg report Monday that was widely cited by Chinese media. The crop purchases, which came from states that comprise Trump’s political base, were supposed to be a sign of Chinese goodwill as trade talks progressed.

WASHINGTON (AP) — China decided Monday to meet President Donald Trump's latest tariff threat with defiance, letting its currency drop to an 11-year low and halting purchases of U.S. farm products.
The moves, which came four days after Trump threatened more taxes on Chinese imports, knocked stock markets worldwide into a tailspin. On Wall Street, the Dow Jones Industrial Average was down more than 850 points by mid-afternoon. Earlier, stocks tumbled from Shanghai to London on fears the escalation in U.S.-China trade tension will drag down a global economy that is already weakening.
Also Monday, China's official Xinhua news agency reported that Chinese companies have stopped buying U.S. farm products — a direct shot at Trump supporters in rural America. Together, the currency devaluation and suspension of farm purchases suggest that China has decided to stand tough, rather than cave in Trump's threats.
"The Chinese side won't submit to the US," tweeted Hu Xijin, editor-in-chief of China's hardline Global Times newspaper.
The weaker yuan makes Chinese exports less expensive in foreign markets. It also helps offset the impact of U.S. tariffs on Chinese products. Trump promptly took to Twitter to denounce the move as "currency manipulation." He added, "This is a major violation which will greatly weaken China over time."
China's central bank blamed the yuan's drop on "trade protectionism" — an apparent reference to Trump's threat last Thursday to impose tariffs Sept. 1 on the $300 billion in Chinese imports to the United States in addition to the $250 billion he's already targeted.
It appears "the currency is now also considered part of the arsenal to be drawn upon," Robert Carnell of ING said in a report. He said Monday's move might be part of "a concerted series of steps aimed at pushing back at the latest U.S. tariffs."
The yuan has lost 5% since February.
Globally, a weaker yuan might lead to more volatility in currency markets and pressure for the dollar to strengthen, Louis Kuijs of Oxford Economics said in a report. That would be "unwelcome in Washington," where Trump has threatened to weaken the dollar to boost exports.
A weaker dollar "would be bad news" for Europe and Japan, hurting demand for their exports at a time of cooling economic growth, Kuijs said.
The Chinese are well aware of the pain the trade war is causing American farmers, a loyal part of Trump's political base. Their retaliatory tariffs on $110 billion in U.S. products targeted soybeans and other key agricultural products. To ease the pain in rural America, Trump has rolled out two packages of farm aid worth a combined $27 billion.
Monday's Xinhua report said that Beijing would "not rule out the possibility of levying additional tariffs" on U.S. farm imports. Xinhua said Trump's plan to tax another $300 billion in Chinese imports "seriously violated" a ceasefire agreed to in June by Trump and Chinese President Xi Jinping.

Stocks continue to tumble around the world Monday after China allowed its currency to slide, in the latest sign of economic tensions between Beijing and Washington.
The Dow Jones Industrial Average was down nearly 600 points in midday trading, a drop of more than 2%. The blue chip index has fallen more than 5% from last month's all-time high, while the S&P 500 index lost ground for the sixth day in a row. Technology stocks such as Apple and IBM were hit especially hard.
Earlier in the day, China allowed its currency, the yuan, to drop to more than seven per dollar, its weakest level in a decade.
China also said it asked state-owned firms to stop buying U.S. agricultural products, Bloomberg reported. It's the latest blow to American farmers, who have seen prices fall sharply as a result of friction between the U.S. and its major trading partners.
The decision to let the yuan fall was widely seen as an effort by China to stem the effects of President Trump's decision last week to impose stiffer tariffs on imports from China, which also sent stocks falling on Thursday.
The decline makes Chinese imports to the United States less expensive, and thus makes U.S. companies less competitive. It also lowers profits for U.S. companies that do business in China. People's Bank of China Governor Yi Gang said China won't let the yuan become a casualty of the trade war. "I am fully confident that the yuan will remain a strong currency in spite of recent fluctuations amid external uncertainties," he said.
Still, Trump's tariffs, coupled with the yuan depreciation, have left investors concerned that the trade war is spiraling out of control. As a result, investors poured money into safe assets such as government bonds, and the yield on U.S. Treasury debt fell to its lowest level since 2016.

unless you are retired then place everything in bonds