IOSCO releases new reports on credit rating agencies
28 December 2012
By Asia Asset Management
The International Organization of Securities Commissions (IOSCO) has published two reports on credit rating agencies: Internal Controls Designed to Ensure the Integrity of the Credit Rating Process and Procedures to Manage Conflicts of Interest and a consultation report on Supervisory Colleges for Credit Rating Agencies.
Both reports form part of IOSCO´s effort to improve the integrity of credit rating agencies (CRAs), as part of the global effort to enhance investor protection and the fairness, efficiency and transparency of securities markets. In a communiqué last month, the G20 Finance Ministers and Central Bank Governors encouraged further work by IOSCO “to enhance transparency of and competition among credit rating agencies.”
Despite concerns about their performance during the 2008 crisis, CRAs continue to play an important role in most modern capital markets. Issuers and corporate borrowers rely on the opinions of CRAs to raise capital. Lenders and investors use credit ratings in assessing the likely risks they face when lending money to, or investing in, securities of a particular entity. Institutional investors and fiduciary investors, likewise, use credit ratings to help them allocate investments in a diversified risk portfolio. Finally, laws and regulations use credit ratings to distinguish creditworthiness.
Internal controls and conflicts of interest
The Internal Controls Designed to Ensure the Integrity of the Credit Rating Process and Procedures to Manage Conflicts of Interest report provides an overview of the internal controls and conflicts of interest procedures adopted by a diverse array of credit CRAs. The findings from the report will help inform IOSCO’s current review of the IOSCO Code of Conduct Fundamentals for CRAs, which is aimed at ensuring the code remains relevant as the international standard for CRA self-governance. The code was last revised after the 2008 financial crisis raised concerns about the quality of credit ratings and credit rating methodologies, the timeliness of adjustments to credit ratings, the integrity of the credit rating process, and how conflicts of interest are managed by CRAs.
An objective of the report is to increase public understanding of the internal workings of CRAs, and to enable CRAs to compare their internal controls and procedures with those of their peers. By shedding light on the processes and controls some CRAs utilise to ensure the integrity of the credit rating process and manage conflicts of interest, this report, in conjunction with disclosures that individual CRAs make about their controls and procedures, may help users of ratings draw their own conclusions about an individual CRA’s controls and procedures, and thereby help the users make informed decisions with respect to their reliance on credit ratings.
The report issued summarises the information received in response to a questionnaire and a consultation paper on internal controls and conflict of interest producers published in May 2012. The final report concludes that CRAs tend to adopt different policies and procedures to ensure the quality and integrity of the rating process, and to manage conflicts of interest, because they vary in size. However, despite these differences, all surveyed CRAs have adopted some form of policies and procedures to provide internal controls and safeguard against conflicts of interest.
Establishing and operating supervisory colleges
The consultation report on Supervisory Colleges for Credit Rating Agencies recommends establishing supervisory colleges for internationally active CRAs and provides preliminary guidelines on how to establish and operate them.
The dispersion of internationally active CRA affiliates worldwide poses a challenge to supervisors, as they may only have perspective on the CRA activities in their jurisdiction. The creation of a CRA colleges could ultimately enhance the effectiveness of supervisors’ risk assessment and oversight of these internationally active CRAs by facilitating information exchange and, if appropriate, cooperation.
A number of international bodies and standard setters, including IOSCO, have identified high-level principles relevant to the establishment of supervisory colleges. The consultation report draws from that work and seeks to tailor existing principles to the CRA business model.
The report makes preliminary recommendations on the subjects of a supervisory college, as well as its membership, chairperson, meetings, functions, and confidentiality safeguards and use of information.
The closing date for responses to the consultation report is Friday, February 15, 2013.
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