We have previously reported on two consultation papers issued by the European Commission on the regulation of credit rating agencies (click here for our earlier post). The consultation process culminated in the publication of draft regulations (the Regulations). On 23 April the European Commission announced that the Regulations had been approved by the European Parliament and the European Council.
The Regulations, which are directly applicable in EU member states, implement a common regulatory regime for the issue of credit ratings by rating agencies, aimed at restoring market confidence and increasing investor protection.
Credit rating agencies that would like their credit ratings to be used in the EU will need to apply for registration. Applications for registration will be submitted to the Committee of European Securities Regulators and ultimately decided upon by a college of regulators. The college of regulators will also be involved in the day to day supervision of credit rating agencies. Credit rating agencies will have to comply with rigorous rules to make sure that their ratings are not affected by conflicts of interest, to ensure the quality of their rating methodology and their ratings, and to ensure that they act in a transparent manner.
The Regulations include the following:
- a prohibition on the provision by credit rating agencies of advisory services
- a requirement for sufficient quality information before a credit rating agency may rate a financial instrument
- a disclosure by rating agencies of models, methodologies and key assumptions on which they base their ratings
- ratings of complex products must be identified by a specific symbol
- publication by rating agencies of an annual transparency report
- the creation by rating agencies of an internal function to review the quality of their ratings
- the appointment of two independent directors to the board of directors of each credit rating agency.
The independent directors may only be appointed for a single term of office, no longer than 5 years. At least one of the independent directors must be an expert in securitisation and structured finance.
The European Commission believes that the strict standards of integrity, quality and transparency imposed by the Regulations and ongoing supervision will ensure investors are in a better position to assess the validity and accuracy of a rating agency’s ratings and the extent to which they should impact the investors’ investment choices, resulting in clear benefits to the integrity and stability of the financial markets.
