A preliminary report by the FCIC on the role of the credit rating agencies in the financial crisis. While many of you will be familiar with the story, what is still striking, at least to me, is how little Moody’s (as an example) thought about risk in aggregate. Here is a Moody’s quote from May 2007 (from the report), a few months after the March rumblings that kicked off the crisis:
“. . . the outlook for other major drivers of mortgage losses – home price appreciation, interest rates, and refinancing opportunities for subprime borrowers facing rate /payment rests – is less favorable. As a result, Moody’s is currently projecting that cumulative losses for loans backing 2006 subprime securitizations will generally range between 6% and 8%, though particularly strong or poor performing pools may fall outside of this range. … Barring cumulative losses well in excess of current expectations, we do not expect a material number of downgrades to bonds rated A or higher.”
What is striking, at least in retrospect, is how far, far outside this range we have fallen. Was this really such an unusual event that falling outside Moody’s forecast range was unlikely? Only two months later, in July 2007, S&P was downgrading AAA tranches and Moodys followed suite shortly thereafter.