European regulator calls for improvement at rating agencies

The European Securities and Markets Authority (ESMA) has urged the top three credit rating agencies (CRAs) to tighten up their rating methodologies following an investigation into bank ratings.

ESMA regulates the pan-European activities of rating agencies.

ESMA’s investigation focused on bank ratings because of their linkage to countries’ sovereign ratings, the number of changes agencies had made there and the amount of rating actions taken in the period under review.

The regulator conducted its investigation of activities that took place from September 2010 to August 2012 by Fitch, Moody’s and Standard & Poor’s.

ESMA noted that rating agencies had made progress, including improved disclosure of methodologies and ratings, internal control resources, involvement of senior management in governance and record-keeping practices.

But the review found that rating agencies ”have not sufficiently embedded the main requirements of the CRA Regulation in their organisations”.

In particular, ESMA is seeking improvements in the following areas:  

• the consistent application and comprehensive presentation of rating methodologies;
• the empowerment and resourcing of analytical and control functions;
• the monitoring and surveillance of ratings; and
• the reliability of IT infrastructures.

ESMA chair Steven Maijoor said: “While CRAs have made progress in meeting the regulatory requirements on integrity, transparency, responsibility and good governance, they have not sufficiently embedded in their organisations those changes necessary to address the concerns about the conflicts inherent in CRAs business models.

“Considering the continued importance of credit ratings in financial markets, it is extremely important that CRAs identify and remedy those issues in their businesses which may undermine the independence, objectivity and the quality of credit ratings.

“This will contribute to building confidence in the transparency and smooth functioning of EU financial markets while ensuring a high level of financial consumer protection.”