Italian prosecutors join Australians in taking credit ratings agencies to court

Prosecutors based out of the southern Italian town of Trani are seeking to put seven senior managers from Standard & Poor’s (S&P) and Fitch on trial after requesting they attend court over their downgrading of the country. The case, which the two credit rating agencies (CRAs) dispute, is the first such case in Europe but follows on from an earlier Australian court ruling that S&P misled investors there, resulting in a A$30m compensation win for 12 New South Wales councils. 

Justice Jayne Jagot said the Australian councils had wrongly been sold S&P triple-A rated constant proportion debt obligation (CPDO) notes by Dutch bank ABN Amro in late 2006 that supposedly had a less than 1% chance of defaulting. They did default, of course when the banking crisis hit, but S&P is appealing the 5 November Australian decision, and fighting this latest Italian case. 

The new fight that S&P faces in Italy, with only Fitch for company after Moody’s was eliminated from the Trani case last week, revolves around “tendentious and distorted” information which the prosecutors allege was supplied to markets by five S&P employees, including the former president Deven Sharma, alongside four other London-based staff. 

The bigger Italian courts have refused to back the Trani case, however, which is also targeting two analysts from Fitch for similar alleged market manipulation and abuse of privileged information regarding “the reliability of Italian credit and initiatives taken by the Italian government to restore and relaunch the economy”, said the prosecutors. The statements emanating from the Trani prosecutors, and widely publicised last week in the FT and other newspapers, added that the CRAs actions had “discouraged the purchase of Italian public debt”, thereby driving down its value. 

Some may argue the country itself has done this itself of course with its excessive public debt, but then the UK and US have high debt too and have suffered no such action themselves, fitting into what some continental Europeans see as an unfair and ‘Anglo-Saxon’ ratings system. This feeling prompted the European Parliament to agree proposals for CRA regulation this summer. Forming a European CRA is still firmly on the agenda of some European countries, which remain annoyed that the agencies failed to spot the threat posed by sub-prime mortgages and securitisation before the 2008 financial crisis hit and have subsequently exacerbated the euro crisis with sovereign debt downgrades. 

Responding specifically to the Italian case, S&P said in a statement that: “These claims are entirely baseless and without any merit. Our role is to publish independent opinions about creditworthiness according to our public and transparent methodologies, which we apply consistently around the world.”
Fitch did not immediately respond, although subsequent reports in the ‘Daily Telegraph’ newspaper in the UK said the CRA had threated to quit Italy over what it views as the unfounded allegations. 

Background

A raid on the CRAs offices in Milan, Italy, was carried out by the same Trani prosecutors’ office back in January this year, after complaints from Italian consumer groups opposed to austerity measures. The complaints were subsequently rejected by local and Roman magistrates, but have been championed by the Trani prosecutors from the southern Puglia region. It seems that the Italian prosecutors based in the town are still determined to pursue the case, despite the lack of interest from higher courts, and their latest action last week in requesting that the seven accused staff from S&P and Fitch stand trial in the country could be the next instalment of a long-running battle for the CRAs to redeem their reputations post-crash. 

Protecting their ‘advisory-only’ assessments, which nevertheless have often been taken as the ‘gospel truth’ in the past – to the detriment of many treasurers and others following the 2008 crash – is likely to be An increasingly hard task for CRAs in the wake of precedent-setting cases like the ones in Italy and Australia. Many corporate treasurers no longer take the agencies’ word as read, and include other assessments in boarder-based risk programmes post-crash to try to minimise corporate exposure. But if the Italian case – or the Australian appeal – is lost then it will mean a forced redefinition of the role of CRAs in international finance. 

S&P is already fighting to restore its reputation with a new ratings system post-crash, which it maintains will be more transparent and clear. The idea is to combine a management and governance score for the first time to try to illustrate the robustness, or otherwise, of governance procedures at assessed institutions (for more on this see the ‘gtnews’ coverage from the ratings session at the 2012 AFP Conference

It will be interesting to see the outcome of the court cases, and perhaps more pertinently of the way CRAs redefine themselves in the post-crash environment, with S&P leading the way on this while others watch with interest. Whether the agencies get the time to initiate voluntary reform, however, before legislators around the world force them to is the present debate.

 

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