Coyote Blog

Let's suppose a Fortune 500 company went through a rancorous internal debate about strategic priorities, perhaps even resulting in proxy fights and such (think Blackberry, HP, and many other examples).  The debate and uncertainty makes investors nervous.  So when the debate has been settled, what does the CEO say?  My guess is that he or she will do everything they can to calm investors, explain that the internal debate was a sign of a healthy response to adversity, and reiterate to the markets that the company is set to be stronger than ever.  The CEO is going to do everything they can to rebuild confidence and downplay the effects of the internal debate.

Here is President Obama today, talking about the budget battle

“Probably nothing has done more damage to America’s credibility in the world than the spectacle we’ve seen these past few weeks,” the president said in an impassioned White House appearance.

Good God, its like he's urging a sell order on his own stock.   I was early in observing the Republican strategy was stupid and doomed to failure, but you have to show a little statesmanship as President.

Postscript:  

Standard & Poor’s estimated the shutdown has taken $24 billion out of the economy.

If this is true, this number is trivial.  0.15% of GDP (and this from someone hurt more than most) loss from a government shutdown about 4.4% of the year (16/365)

Just six months ago, governments were criticizing ratings agencies for letting threats by debt security issuers cow them into keeping ratings for bad debt higher than they should be (emphasis added)

Moody’s and Standard & Poor’s, Wall Street’s two largest credit rating agencies, were roundly criticized in the Levin-Coburn Senate reportfor betraying investors’ trust and triggering the massive mortgage-backed securities sell-offs that caused the 2008 financial crisis.

Credit rating agencies are supposed to provide independent, third-party credit assessments to help investors understand the risks in buying particular securities, debts and other investment offerings. For example, securities that have earned the highest ‘AAA’ rating from Standard & Poor’s (S&P) should have an “extremely strong capacity to meet financial commitments” or have “a less than 1% probability of incurring defaults.” Investors would use the ratings to help evaluate the securities they’re seeking to buy.

However, the standard practice on Wall Street is fraught with conflicts of interest. In reality, the credit rating agencies have long relied on fees paid by the Wall Street firms seeking ratings for their mortgage-backed securities, collateralized debt obligations (CDOs), or other investment offerings. The Levin-Coburn report found the credit agencies “were vulnerable to threats that the firms would take their business elsewhere if they did not get the ratings they wanted. The ratings agencies weakened their standards as each competed to provide the most favorable rating to win business and greater market share. The result was a race to the bottom.” Between 2004 and 2007, the “issuer pay” business model fostered conflicts of interest that have proven disastrous for investors.

I have no problem with this analysis.  But it's ironic in contrast to the very same governments' reactions to their own downgrades over the last 6 months.  In fact, the general government reaction from Washington to Paris has to be to ... wait for it ... threaten the agencies in order to keep their ratings up.  And these threats go farther than just loss of business - when the government issues threats, they are existential.  It's hard to see how the US or French government's behavior vis a vis downgrades has been any different than that of banks or bond issuers that have faced downgrades.

In general, the tone of government officials has been "what gives them the right to do this to us?"  The answer to that question is ... the government.  These self-same governments were generally responsible for mandating that certain investors could only buy certain securities if they are rated.  And not just rated by anyone, but rated by a handful of companies that have been given a quasi-monopoly by the government on this rating business.

Today's episode -- the shut down of the new debt market

Ford Motor Co.'s financing arm pulled plans to issue new debt, the first casualty of a bond market thrown into turmoil by the financial overhaul signed into law Wednesday.

Market participants said the auto maker pulled a recent deal, backed by packages of auto loans, because it was unable to use credit ratings in its offering documents, a legal requirement for such sales. The company declined to comment.

The nation's dominant ratings firms have in recent days refused to allow their ratings to be used in bond registration statements. The firms, including Moody's Investors Service, Standard & Poor's and Fitch Ratings, fear they will be exposed to new liability created by the Dodd-Frank law.

The law says that the ratings firms can be held legally liable for the quality of their ratings. In response, the firms yanked their consent to use the ratings, hoping for a reprieve from the Securities and Exchange Commission or Congress. The trouble is that asset-backed bonds are required by law to include ratings in official documents.

The result has been a shutdown of the market for asset-backed securities, a $1.4 trillion market that only recently clawed its way back to health after being nearly shuttered by the financial crisis.