Is being Attorney General just a way of attracting attention as a modern Roman Tribune, a friend of the plebians, so that you can gain greater political power — in our system, run for Governor? It sure seems that way at times, particularly when they go after large, complex corporations with seemingly a lot of market power. My case tonight is the State of Connecticut versus the rating agencies.
The basic claim by Connecticut is antitrust, as Naked Capitalism points out. That is hard to prove, but it is possibly the best case to make, even though I think it will still fail. The main point to bring out is that the rating agencies earned extra money through their ratings of the financial guarantors, which were overrated, and allowed them and the financial guarantors to profit from the need for ratings and financial guarantee insurance. And, as such the suit should be against both the financial guarantors and the rating agencies.
Delving into the expected loss differences between corporates and munis is probably not a fruitful line of argument, for two reasons: first, even though the rating agencies claimed the scales were comparable, the markets would say otherwise, the yields reflected greater risk. Second, the muni market is more retail-oriented than the investment grade corporate market. The retail investors are less diversified and more risk-averse, requiring a higher yield than corporate bond investors.
My experience has been that yields don’t merely reflect ratings but a broader array of risk factors. I would hear from bond brokers who would say, “Hey, this bond trades cheap to the rating.” I would often say, “Cheap for a reason.” Ratings are guides, they aren’t infallible.
The Connecticut AG should be careful here. His suit as currently constructed will fail, unless he shows that the journalistic speech of the rating agencies is at least partly driven by commercial concerns, and they implicitly profit through their symbiotic relationship with the financial guarantors, who were too highly rated for too long as a result. And, as such, he should add MBIA and Ambac to his suit. That would have a better chance of winning, but I still think they would not win. It’s close enough to be worth a try, though.