According to the Department of Justice, rating agency Standard & Poor’s Financial Services, LLC (“S&P) and its parent company McGraw Hill Financial, Inc. have agreed to settle multiple lawsuits brought by the federal government, 19 states, and the District of Columbia concerning ratings S&P gave to certain mortgage securities just before the 2008 financial meltdown. The press release issued by the Justice Department said the ratings at issue were given to residential mortgage-backed securities (“RMBS”) and collateralized debt obligations (“CDOs”) during the period 2004 to 2007. RMBS are created when a bank or other financial institution pools together mortgage loans. CDOs pool together cash flow-generating assets and repackages this asset pool into discrete tranches that can be sold to investors.
The lawsuit filed by the Justice Department in 2013 alleged that S&P had engaged in a scheme to defraud investors by knowingly inflating the credit ratings it gave to RMBS and CDOs which resulted in substantial losses to investors and ultimately contributed to the worst financial crisis since the Great Depression . The government claimed that S&P’s rating decisions were based, in part, on its business concerns, rather than independent and objective as they were required to be. Reportedly, lawsuits filed by Arizona, Arkansas, California, Connecticut, Colorado, Delaware, Idaho, Illinois, Indiana, Iowa, Maine, Mississippi, Missouri, New Jersey, North Carolina, Pennsylvania, South Carolina, Tennessee, Washington, and the District of Columbia contained similar allegations.
As a part of the settlement, S&P agreed to a statement of facts that contained an admission by S&P that its ratings for CDOs were partially made based on the effect they would have on S&P’s business relationship with issuers. It also admitted that, despite knowledge within the S&P organization in 2007 that many loans in RMBS transactions it was rating were delinquent and losses were probable, it continued to issue and confirm positive ratings.
S&P agreed to pay $1.375 billion to settle the allegations by the federal government, 19 states, and the District of Columbia. Of that, $687.5 million will be paid to the federal government as a penalty. The remaining $687.5 million will be shared by the 19 states and the District of Columbia in an allocation agreed to by the states. It is the largest penalty of its type ever paid by a ratings agency.