May 21 (Bloomberg) -- Moody's Corp. plunged the most in nine years after the ratings company said it is conducting ``a thorough review'' of whether a computer error caused it to assign Aaa rankings to debt securities that later fell in value.

Moody's fell 15.9 percent after the Financial Times said some senior staff at Moody's Investors Service were aware in early 2007 that constant proportion debt obligations, funds that used borrowed money to bet on credit-default swaps, should have been ranked as much as four levels lower. Moody's altered some assumptions to avoid having to assign lower grades after fixing the error, the FT said, citing internal Moody's documents.

The allegations raise questions about internal controls at credit ratings firms as they face scrutiny from lawmakers and regulators for assigning their top grades to securities derived from loans to people with poor credit. U.S. Senate Banking Committee Chairman Christopher Dodd has flagged the potential conflict of interest between ratings firms and the issuers that pay their fees, while the Securities and Exchange Commission is probing the way ratings are assigned.

``If it is true, does that mean other products haven't been rated correctly?'' said Puneet Sharma, Barclays Capital's head of investment-grade credit strategy in London. ``Will they be downgraded? It could lead to turmoil.''

Moody's said it retained law firm Sullivan & Cromwell after receiving questions about its rating for CPDOs, according to a statement released on Business Wire. Moody's rated 44 European CPDO tranches, representing approximately $4 billion in rated securities, according to the statement.

Buffett's Holdings

Moody's, whose largest shareholder is Warren Buffett's Berkshire Hathaway Inc. with a 19.6 percent stake, fell $6.99 to $36.91 in composite trading on the New York Stock Exchange today, valuing the company at about $9 billion. It's the biggest decline since Aug. 20, 1999, when the shares fell 16.9 percent.

Buffett today described the disclosure as a one-day event.

``I would doubt very much that any events of any one day will permanently change the franchise value of Moody's,'' Buffett said at a Madrid news conference as he tours Europe in search of family-owned companies to acquire.

Moody's said in the statement that it has ``adjusted its analytical models on the infrequent occasions that errors have been detected. It would be inconsistent with Moody's analytical standards and company policies to change methodologies in an effort to mask errors.''

Integrity of Ratings

``The integrity of our ratings and rating methodologies is extremely important to us, and we take seriously the questions raised about European CPDOs,'' New York-based Moody's said in an e-mailed statement. ``We are therefore conducting a thorough review of this matter.''

Banks created at least $4 billion of CPDOs, promising annual interest of as much as 2 percentage points above money-market rates combined with the highest credit ratings. Standard & Poor's, the largest credit ratings company, also awarded top ratings to CPDOs.

``Small tweaks in the model can make a huge difference in a product that's this leveraged,'' said Huston Loke, the global head of structured finance at Dominion Bond Rating Service in Toronto. ``They are complex, there's a significant amount of model risk, a presumption of market liquidity and leverage.''

Moody's and S&P stripped CPDOs of their top ratings this year as rising defaults in the U.S. housing market caused the cost of credit-default swaps referenced by the funds to soar amid concern the economy might be plunged into recession.

`Abiding Interest'

``We are downgrading to 'underperform' from 'buy' and moving our price target to $32 on a damaging report that implies Moody's faces more serious litigation risk,'' Jefferies and Company, Inc. said in a research note today.

SEC Chairman Christopher Cox said that because the ratings were given out of Europe, the SEC doesn't have any jurisdiction.

Even so, ``we have an abiding interest in this subject and will ensure that our ongoing examinations include this area in a robust way,'' Cox told reporters after a public meeting in Washington today.

McGraw-Hill Cos. Inc., the parent of S&P, fell $2.41, or 5.5 percent, to $41.18 in New York trading today.

The subprime crisis caused banks including UBS AG and ABN Amro Holding NV to unwind their CPDOs, triggering losses of as much as 90 percent for investors.

Effect on Reputation

``As far as CPDOs are concerned there shouldn't be a material impact'' because the securities have already been downgraded, said Andrea Cicione, a credit strategist at BNP Paribas SA in London. ``Of course there could be a reputational impact for Moody's.''

ABN Amro sold the first CPDOs in 2006, followed by banks including Lehman Brothers Holdings Inc. and Merrill Lynch & Co.

CPDOs sell contracts on credit-default swap indexes and use the premiums to pay investors. If the perception of credit quality deteriorates, the cost of insuring the debt increases and CPDOs lose money. To make up for losses, the funds would typically increase their borrowing.

Credit-default swaps, contracts conceived to protect bondholders against default, pay the buyer face value in exchange for the underlying securities or the cash equivalent should a company fail to adhere to its debt agreements.

Rating a CPDO involves making assumptions about the way the indexes of credit-default swaps will move, based on a limited history of the benchmarks. The U.S. index referenced by CPDOs was created in 2003; its European counterpart started in 2004.

To contact the reporter on this story: John Glover in London at johnglover@bloomberg.net

Last Updated: May 21, 2008 17:22 EDT