The Ratings Agencies Punch In

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I ended my long piece on the mortgage credit sausage machine by suggesting that the real trouble would start when the ratings agencies start to downgrade the more highly-rated mortgage-backed structured products. Without such sterling ratings on these newfangled credit instruments, the funding from respectable institutions would start to dry up.

It seems that there may just have been a step in that very direction.

S&P, one of the three credit ratings agencies, announced that it is heavily revising its methodology for rating mortgage-backed securites (MBSs), reviewing previously rated MBSs, and downgrading a mess of them right off the bat. It will also be reviewing previously rated CDOs that consist of sliced-and-diced MBSs.

This sure seems like it could be a blow to E-Z mortgage lending, but truth be told, I am not familiar enough with the ins and outs of bond ratings to know how big an impact the move will have. The Washington bureau chief at MarketWatch has an opinion, though, and it's nothing if not poetic:

Standard & Poor's just drove a huge harpoon into the heart of the mortgage credit bubble, and it's going to take a long time to clean up the mess once the beast finally dies...

A lot of debt will be downgraded to junk status. A lot of that debt will have to be sold at fire-sale prices. A lot of pension funds and hedge funds that once thrived on the high returns they could get from investing in subprime junk will now lose a lot of money.

S&P's announcement is a death warrant for the subprime industry.