Nationally Recognized Statistical Rating Organization - Controversies

Controversies

Many private users (pension funds, banks) of ratings data now demand that ratings be from an NRSRO. Consequently, there is some debate that, by "recognizing" certain CRAs, the SEC has bestowed a competitive advantage on them. This view is supported by the vigor by which many non-NRSRO CRAs seek NRSRO recognition. On the other hand, historically, many private users of ratings data have "defaulted" to Standard and Poor's and Moody's when specifying which ratings must be used for their own purposes. (S&P and Moody's are the oldest, most widely respected, and by far the largest of the CRAs.) Accordingly, it is conceivable that the NRSRO designation has actually increased competition in the industry by providing an unintended government "seal of approval" on certain smaller CRAs (such as Fitch Ratings, DBRS, A.M. Best, and now, Egan-Jones). If true, this, of course, raises the question of whether this is something the government should do, and whether the NRSRO recognition process is the best mechanism to achieve this goal.

The larger NRSROs have also been criticized for their reliance on an "issuer-pays" business model, in which the bulk of their revenue comes from the issuers of the bonds being rated. While this is recognized by regulators as a potential conflict of interest (since the bond issuer paying for the rating has an incentive to seek out the CRA most likely to give it a high rating, possibly creating a "race-to-the-bottom" in terms of rating quality), the larger NRSROs claim that the issuer-pays model is the only feasible model for them. This is because, in an age of email and faxes, the ratings of the larger CRAs are so widely and so quickly shared that a subscription-based model would not be profitable. Furthermore, the larger CRAs often receive non-public information from issuers and, under the SEC's Regulation FD, a CRA may only use such information if their ratings are made available to the public for free.

However, some smaller CRAs, including Egan-Jones (the only NRSRO to do so), rely on a subscription-based business model where the ratings are not made public but are available only to subscribers. These firms argue that such a business model makes them less reliant on the good will of the issuers they rate, thereby eliminating one major potential conflict of interest.