Standard and Poor's: Downgrade Backlash?

VIDEO: Senate Banking Committee investigates Standard and Poors credit downgrade.
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Has Standard & Poor's downgrade of U.S. debt from AAA to AA+ made the ratings agency a lightning rod for critics and regulators?

The Justice Department is reportedly investigating whether S&P improperly rated dozens of mortgage securities before the financial crisis, and the city of Los Angeles has withdrawn its S&P contract to rate its $7 billion investment portfolio.

"Quite frankly, we just don't want to be associated with [Standard & Poor's] anymore based on that decision. We think it was irresponsible and just excessive," Thomas Juarez, the city's chief investment officer and assistant treasurer, told The Bond Buyer. The city council's budget and finance committee was told of the cancelled contract on Monday.

The Justice Department reportedly began investigating whether S&P improperly rated dozens of mortgage securities before the ratings agency issued its downgrade of U.S. debt on Aug. 5, according to the New York Times.

Bob Litan, deputy assistant Attorney General at the Department of Justice from 1993 to 1995, said people are leaping to the conclusion that the reported investigation is a result of the U.S. downgrade.

"Having been at the Justice Department, I don't think the department behaves that way. I think this is almost certainly a coincidence. It's just the way these things happen," Litan, now vice president of research and policy at the Kauffman Foundation, told ABC News.

Although it is routine for the chairpersons of congressional committees to send letters to the Justice Department to encourage investigation into issues, Litan does not think the investigation would proceed in response to the downgrade.

"I can't believe any calls were made to rush through the announcements as a way of retaliation," he said.

Litan also said that he does not think the Justice Department is singling out Standard and Poor's among the ratings agencies.

"My guess is that if the Justice Department is investigating one agency, it's investigating them all," Litan said. "Given what we all know now in the run-up to the financial crisis, all the ratings agencies were doing similar things in rating these securities. If S&P is guilty of something I find it hard to believe the others wouldn't be too."

Members of Congress have criticized the ratings agencies for their role in giving top ratings to mortgage-backed securities before they crumbled and contributed to the financial crisis.

"The credit rating agencies failed spectacularly in the years leading up to the financial crisis. A government seal of approval for credit rating agencies led to a mispricing of risk and the subsequent collapse in market confidence," Rep. Spencer Bachus, R-Ala., said during a House financial services oversight subcommittee hearing on July 27.

Deven Sharma, S&P president defended his ratings agency during the hearing.

"Importantly, S&P's ratings do not make recommendations to buy, sell or hold a security," Sharma said in his prepared remarks. "Rather, they simply provide the market with a forward-looking view based on analysis that different market participants — whether they be investors, issuers, or regulators — may choose to use as part of their own assessment of the credit risks attendant to a particular security or entity."

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