Cows on Wall Street: Why the Latest Suit Against the Rating Agencies Matters

Standard & Poor’s in New York Photograph by Justin Lane/EPA via Corbis

If the deal-structuring cows are back, that can mean only one thing: another lawsuit against the rating agencies. Repetitive as this may sound, this suit matters. Here are answers to four key questions:

1. Cows? In one of the most notorious e-mails to emerge from the 2008 financial crisis, a Standard & Poor’s analyst told a co-worker that investments could be “structured by cows” and still get rated—and rated favorably. The cows e-mail has been cited on numerous occasions as evidence of S&P’s laxity, if not its allegedly fraudulent “AAA” rubber-stamping of dubious mortgage-backed securities. These were the securities whose implosion helped set off the crisis and a near-depression. Now the cows are back in a fresh suit filed Nov. 11 in state court in Manhattan against McGraw Hill Financial’s S&P unit, Moody’s, and Fitch Group. The plaintiffs this time are the liquidators of two defunct Bear Stearns hedge funds. The liquidators accused the Big Three rating agencies of issuing ratings they knew were bogus.

2. What else do the suits allege? They contain plenty of other communications that allegedly show the rating agencies’ knowledge that their evaluations of securities were cockeyed. One internal document from a Moody’s employee said the firm sold its soul “to the devil for revenue,” according to the lengthy complaint. “These quotes are not the punch line to a bad joke,” the suit adds. Instead, they’re “evidence that, at the same time that these ratings agencies were issuing their top, virtually risk-free ratings on numerous complex securities, each of these very same rating agencies (but not the investing public) knew the ratings were false.” The suit seeks damages in connection with more than $1 billion in losses.

Bloomberg News reported that an S&P spokesman, Ed Sweeney, said in an e-mail that the allegations against the firm lack merit and that S&P will fight them in court. Daniel Noonan, a spokesman for Fitch Group, also said the claims lacked merit and the company would defend itself. Moody’s didn’t immediately return a phone message seeking comment.

3. Haven’t we seen this suit before? The U.S. Justice Department accused S&P of fraud in a separate action filed in February. Various states have filed similar suits against S&P. The agency has denied wrongdoing, and all of those other cases are pending.

4. So why does this one matter? Two reasons. One of S&P’s main comebacks to the Justice Department suit was to suggest that it amounted to revenge, coming as it did 18 months after the McGraw Hill unit downgraded U.S. sovereign debt. Another S&P defense was that there was no logical reason for the government to single out S&P, since the firm’s two major rivals issued virtually identical ratings on the same and comparable securities.

Well, the hedge fund liquidators can’t be waved off in a similar manner: All three agencies are named as defendants, not just S&P. Moreover, the latest case benefits from the cumulative investigative work that’s been done to date into how the agencies, at a minimum, helped inflate the bubble that ultimately burst and brought Wall Street to its knees. Whether that enabling can also be labeled fraud, forcing the rating agencies to cough up huge judgments or settlements, is something that will unfold in court in coming weeks and months.

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