Andrew Cuomo really hasn’t had a good financial crisis. This is when prosecutors are supposed to shine. Just ask Spitzer. Cuomo came out swinging at the beginning of the financial crisis against Merrill and Bank of America on bonuses. He did a good job of calling Bank of America chief Ken Lewis last year on what most likely were lies in order to oust rival John Thain. And he nearly got some AIG people lynched. But, at the end of the day, over-the-top bonuses and lying to shareholders while bad stuff and important to police really doesn’t get to the heart of what we really wanted to know: Was the financial crisis the result of just bad judgment or actual criminal behavior? This is what subpoena power is supposed to tell us.
And then nothing. So as the Securities and Exchange Commission rolled out its case against Goldman Sachs and said it was investigating other banks, and as the Justice Department said it too had opened an investigation, one of my questions recently was, “Where’s Cuomo?” Surely, he could have dug up the e-mails of Goldies calling their own deals shi**y. Spitzer did it. He led the investigations against Wall Street on really substantive issues of conflicts of interest, at the investment banks and at mutual fund companies. Cuomo, so far, not so much.
So this morning we find out that Cuomo has finally decided to go after Wall Street and join the legal fray. A little late, but OK if he has got something good, then in my book he gets a pass. Better late than bad. At least, that’s what I always tell my editors. (from the NY Times)
The New York attorney general has started an investigation of eight banks to determine whether they provided misleading information to rating agencies in order to inflate the grades of certain mortgage securities, according to two people with knowledge of the investigation.
The agencies themselves have been widely criticized for overstating the quality of many mortgage securities that ended up losing money once the housing market collapsed. The inquiry by the attorney general of New York, Andrew M. Cuomo, suggests that he thinks the agencies may have been duped by one or more of the targets of his investigation.
Those targets are Goldman Sachs, Morgan Stanley, UBS, Citigroup, Credit Suisse, Deutsche Bank, Crédit Agricole and Merrill Lynch, which is now owned by Bank of America.
The companies that rated the mortgage deals are Standard & Poor’s, Fitch Ratings and Moody’s Investors Service. Investors used their ratings to decide whether to buy mortgage securities.
So this is what we have been waiting for? I am underwhelmed. And Felix Salmon over at Reuters seems to have the same opinion:
I’d love more detail on this because it seems a little weird to me. The ratings agencies knew exactly which bonds were being put into in the CDOs and it really should have been up to them to check on things like geographical diversification. In the case of a CDO-squared, I can imagine that tracking down the true underlying assets might have been difficult and that the ratings agencies might have relied on the investment banks to help them with that. But there’s no mention in the story of CDO-squareds, or synthetic CDOs, or anything else which might have increased complexity and therefore the opportunity for deliberate befuddlement. Instead, there’s lots of talk about banks hiring former ratings-agency employees, which might be distasteful but which is hardly illegal.
That said, I think we’ve probably moved beyond the point at which it’s important how strong these cases are. All that Cuomo needs to do is tell Story about his investigation and most of the damage is already done: he never needs to bring an actual case, and in fact, given the amount of time it takes to put such cases together, he’ll probably have moved on to grander elected office by then anyway.
Salmon’s technical argument is a good one. The ratings agencies had all the information. In fact, they probably had more information than the Wall Street dealers. So if they were doing their work there’s no way they could have been duped.
But the bigger problem with Cuomo’s line of investigation is this: Why did Wall Street even need to dupe Moody’s and Standard and Poors? They were already on the take. Wall Street itself was the one paying the ratings agencies. Not the investors who the rating matter the most to. So Wall Street paid Standard and Poors and Moody’s when the ratings were good and withheld payment when the ratings came back bad. This is a great system for Wall Street. Not so great for the rest of us.
It made Moody’s and Standard and Poors Wall Street lackies. They could make these guys slap a AAA on basically anything. And they did. Take Jupiter V, a CDO I wrote about. 93% of the securities in that deal were rated AAA by both Moody’s and Standard and Poor’s. Yet by the time I wrote about it 59% of the collateral the deal was based on was based on was worthless. Traders estimated that eventually 95% of Jupiter could end up going bad. Meaning that just 5% of Jupiter deserved a AAA, possibly less.
And remember this e-mail exchange uncovered in a Congressional investigation nearly two years ago:
But satisfying Wall Street issuers also crept into the process. “We are meeting with your group this week to discuss adjusting criteria for rating CDO’s of real-estate assets . . . because of the ongoing threat of losing deals,” S&P commercial mortgage analyst Gale Scott wrote to colleagues in August 2004, according to the draft report and a person familiar with the situation.
Richard Gugliada, a former S&P official who replied to Ms. Scott’s email, said he recalls that commercial-mortgage rating criteria were changed slightly after several meetings on the subject. Ms. Scott, who still works at S&P, couldn’t be reached for comment.
So I don’t get why Wall Street would have needed to break into the back door of the ratings agencies to try to up a CCC bond to a AAA. The front door was wide open.