Case in Business & Society: "Moody’s Credit Ratings & the Subprime Mortgage Meltdown"

1. Class 4- Group 3 – Case 1
1 | P a g e
Cases in Business & Society
‘Moody’s Credit Ratings & the Subprime Mortgage Meltdown’
Summary
In the late 2008, the world faced the worst financial crisis (also called as the Great Recession of
2008-2009) since the Great Depression of the 1930s that was a result of the Subprime Mortgage
Meltdown in United States starting in mid-2007. Billions of dollars’ worth of securities backed by
their mortgages had plummeted in value, straining the balance sheets of venerable Wall Street
investment banks. Although the causes of the financial crisis were complex and many parties also
had a portion of responsibility, some analysts questioned the accuracy of the ratings and the critical
role in widening financial crisis played by “Big Three” ratings agencies - Moody's Investors Service,
Standard & Poor's (S&P), and Fitch Ratings.
The world’s financial markets relied heavily on Moody’s and other credit rating agencies in
evaluating the safety of bonds-debt issued by governments, companies, investment banks and public
agencies. Millions of investors rely on Moody’s ratings, along with other its competitors for
independent and objective assessments about the risks of various fixed-income investments. As one
of the leading and the oldest credit rating agencies in the world, Moody’s Corporation (Moody’s) –
founded in 1909 by John Moody, broke the trust of the investors as well as lost its outstanding total
return during 2000-2006 periods because of the bursting of the housing bubble in the US.
The rating structured financial products, such as RMBSs (Residential mortgage-backed securities)
that became particular popular in the early 2000s, proved to be highly lucrative business for
Moody’s. At that time the pool of money was growing – money available worldwide to purchase
stocks and bonds, many classes of assets were becoming less attractive to investors; therefore,
RMBSs became increasingly attractive to the world’s investors. However, mortgage lenders and
leaders of the investment banking firms were willing to weaken the tradition standards used to
qualify borrowers to take on borrowers - with poor credit, low-paying jobs, few assets and no money
to put down, which were known as subprime. Meanwhile, the risky mortgages of RMBSs were not
reminded. Consequently, some banks and mortgage companies became particularly aggressive in
pushing loans on poorly qualified borrowers in addition to increasing numbers of homeowners
realized that they owned more that their home was worth – that means, their mortgages became
worthless and the value of securities based on them swooned. When the problem was beginning to
become obvious since July 2007, the solution of Moody’s was to begin train downgrades which
poured in the criticism that “the rating agencies got it wrong.”

2. Class 4- Group 3 – Case 1
2 | P a g e
Answer the DiscussionQuestions
1. Putting pressure on mortgage lending Moody’s is wrong. In fact, Moody was only assessed
loans and its risks. However, Moody was the leverage to profitability problems without
thinking about its consequences. Moody cannot just blame the economic crisis, which itself
must be responsible.
2. Stakeholders have benefited from the work of Moody's homebuyers they do not qualify for
traditional mortgages. Also, those who have benefited from the bad credit rating that Moody's
assessment of investors. Wall Street also benefited greatly because thousands of packaged
loans and sold them to investors such as banks Lehman Brothers and Merrill Lynch. The
benefit from the commissions for selling risky loans come with high costs is the broker.
3. Moody’s have conflict of interest because they were paid by the firm that were organizing
and selling the debt to investors. He was getting $11 for every $10,000 the security was
worth. He is also a public traded company causing them to compete with other rating
agencies to increase their market share.
4. He was responsible for investors losing money on securities that they gave an appropriate
rating. Mortgage securities are very complex. Government regulation and policy encouraged
lenders to give subprime loans to people. Initially many stakeholders benefited from Moody’s
high rating including shareholders, institution investor, and investment banking companies.
5. To prevent a recurrence of something like the subprime mortgage meltdown, the steps can be
taken that are:
 The lender should take the form of guarantees to ensure the loans they are not on the
list of risks.
 The government should require banks to be more transparent in the rankings investors
and banks subprime.
 The credit rating agency should have oversight division standings to get the standard
result ranking

3. Class 4- Group 3 – Case 1
3 | P a g e
Fill in forms
Stakeholder Benefits Cost
Ethical
yes/no
CEO
Good compensation, in 2007,
CEO – Raymond McDaniel
earned total compensation of
$7.4 million
Working under a lot of pressure,
have to protect reliable
reputation (protecting the
integrity of credit) and ensure
profit for company
Yes
Managers Good compensation
Increased pressure to increase
revenues and improve share-
holder returns,
yes
Board of
Directors
Good compensation
Need to win the business and
maintain market share, also
square the circle within bounds
of the code of conduct
yes
Shareholders
Have benefited from the work of
Moody’s homebuyers, share
value rose 354% over a 5-year
period
Some cases, giving decision can
make disadvantages for
company
yes
Employees
Can have some internal
information after that they can
have profit by their investment
Working under a lot of pressure
to collect and analysis
information of companies
yes
Customers
Receive a share of the income
flowing from the homeowners’
monthly payments. Base on the
rating credit, they can take
benefit from right investment
Affected by eventual downturn
of the market or so their
investments were less value
than had originally.
yes
Local
community
Institutions, governments, and
individuals who invested in
RMBSs benefited, since these
securities typically paid interest
rates above those paid by other
investments with comparable
investment grade ratings during
2004-2007.
Investors lost around $7 trillion
in the market value of their
assets
yes

4. Class 4- Group 3 – Case 1
4 | P a g e
Union
(UMW)
Changed the between bond
issuers and rating agencies.
Ratings strongly influenced the
market value of the bond, issuers
had a strong incentive to shop
for the best possible rating
Decision need to be fair,
objective and accurate
yes
Government
regulators
(2005) OCC considered new
regulations that would have
limited risky mortgages
OCC bought only one
enforcement action
related to subprime
lending (2000-2006)
yes
Environment
The companies have more
investors and easy to borrow
money so the business create
more profit the economic
environment also develop
The recession can greatly
shifted the behavior of
customers, suppliers, creditors
and stakeholders of the firms
yes

5. Class 4- Group 3 – Case 1
5 | P a g e
Conclusion
The mortgage-related securities at the heart of the crisis could not have been marketed without
the power hand of Moody’s and other credit rating agencies. Investors relied on the credit rating
agencies, often blindly. In some cases, they were obligated to use them because of the lack of
necessary and reliable information to invest. Their ratings helped the market soar and their
downgrades through 2007 and 2008 wreaked have across markets and firms. Furthermore, the
interest conflicts of charging the issuers for ratings from large credit rating agencies since the
1970s along with their highly level of power in ratings have questioned the accuracy as well as
the companies’ code of conduct after the Great Recession.