S&P Agrees to One-Year Ban from Rating Conduit CMBS









Standard Poor’s agreed to a one-year suspension from rating certain commercial mortgage bonds and $80 million in fines to settle charges with the Securities and Exchange Commission and the New York and Massachusetts Attorneys Generals offices.

The SEC issued three orders instituting settled administrative proceedings against SP. One order, in which SP made certain admissions, the Commission charged SP with failing to disclose a change in its methodology for calculating debt service coverage ratio in late 2010. This change lowered the amount of credit enhancement ncessary to achieve a particular rating for transactions then in the market. 

“SP’s public disclosures affirmatively misrepresented that it was using one approach when it actually used a different methodology in 2011 to rate six conduit fusion CMBS transactions and issue preliminary ratings on two more transactions,” the SEC said in a statement posted on its website this morning.

As part of this settlement, SP agreed to take a one-year timeout from rating new issue conduit fusion deals, which are backed by geographically diverse pools of at least 20 mortgages loans made to unrelated borrowers. The rating agency can still engage in  surveillance of outstanding conduit fusion CMBS that it has previously rated.

The ban does not apply to bonds backed by a single commercial mortgage or loans to a single borrower, an area of the market in which SP has gained significant market share. In research published last month, J.P. Morgan noted that SP is the sole major rating agency on many single-asset and single-borrower deals.

Another SEC order found that, after being frozen out of the market for rating conduit CMBS in late 2011, SP sought to re-enter that market in mid-2012 by loosening its ratings criteria, and that it misrepresented this criteria to investors. Without admitting or denying the findings in the order, SP agreed to publicly retract the misleading marketing and correct the inaccurate descriptions in the publication about its criteria.

 A third SEC order issued in this case involved internal controls failures in SP’s surveillance of residential mortgage-backed securities ratings. The order finds that SP allowed breakdowns in the way it conducted ratings surveillance of previously-rated RMBS from October 2012 to June 2014, making its criteria less conservative. Without admitting or denying the findings in the order, SP agreed to extensive undertakings to enhance and improve its internal controls environment. 

“We are pleased to have concluded these matters,” Catherine Mathis, SP’s senior vice president for marketing communications, said in an emailed statement.  “We take compliance with regulatory obligations very seriously and continue to make investments in people and technology to strengthen our controls and risk management throughout the organization.”

SEC targets SP former head of CMBS 

Although SP has put  the matter to rest with the SEC, its former head of CMBS, Barbara Duka, is still in the hot seat.

The regulator stated that the SEC Enforcement Division has begun proceedings against Duka, who left the rating agency in 2012, on  allegation that she orchestrated the “shift to more issuer-friendly ratings criteria,” after being frozen out of the market for rating conduit CMBS in late 2011.  

The SEC alleges that in late 2010, SP’s CMBS Group, acting through and led by Duka, loosened its methodology for calculating debt service coverage ratios (a key metric used to rate CMBS transactions), resulting in credit enhancement requirements that were up to 60% lower for bonds at each different level of the capital structure. 

“This change to SP’s methodology was designed to make SP’s ratings more attractive to fee-paying CMBS issuers,” stated the SEC in a order it filed against Duka today. “Duka ordered the change because she perceived that SP’s criteria were too conservative and were causing SP to lose rating assignments, thereby threatening both the profitability of the CMBS Group she led and her position within the firm”. 

The case against Duka will be scheduled for a public hearing before an SEC administrative law judge for proceedings to  determine what, if any, remedial actions are appropriate.

Duka took preemptive action against the allegation and last Friday filed to in federal court in Manhattan to sue the SEC over the administrative proceedings, according to a Reuters report. 

In the lawsuit, Duka challenges “the constitutionality of legal provisions that create and provide position and tenure protections for the administrative law judges”.   Guy Petrillo, a lawyer representing Duka at Petrillo Klein Boxer, said in a statement to Reuters that Duka did not act wrongfully and performed her duties in good faith. “Anyone who would claim otherwise should be required to prove their claim in court and in public, as our Constitution requires,” he added.