WASHINGTON - Standard & Poor's officials met yesterday with a group of about two dozen market analysts at its headquarters in New York to discuss changes to its policies, which are designed to remove potential conflicts of interest in its ratings. The changes come amid charges that the rating agencies' actions in recent weeks have thrown analysts and other market participants into confusion.

Standard & Poor's said yesterday that it would undertake 27 separate changes to bolster confidence in its ratings in response to huge losses insurers have suffered from their exposure to mortgage-backed securities. They include hiring an ombudsman to address concerns raised by issuers, investors, employees and other market participants, as well as new guidelines that will automatically rotate the lead analyst of any issuer after five years.

These changes, as well as suggestions announced earlier this week by Moody's Investors Service for changes in its rating system for structured products, are an attempt to assure the market that the rating agencies have a firm handle on the situation.

"There has been a diminution in investors' faith in the rating agencies and anything they can do to shore that back up will be beneficial not just for the muni market but for the capital markets generally," said George Friedlander, managing director and fixed-income strategist at Citi.

Standard & Poor's executive vice president Vickie Tillman said her agency's decision to makes these changes relates to the criticisms that have been leveled at the rating agencies in recent months.

"Given what we have seen over the past six months relative to the dislodging of the capital markets, we have to be a leader in order to better serve the capital markets by strengthening where we've been criticized," Tillman said. "That's around our business model, which is an issuer-paying model, and the independent model around insuring that the independent controls are independent."

But individuals from a group of corporate and muni buy-side analysts who attended the closed-door meeting with Standard & Poor's yesterday reiterated that they had lost confidence in the agencies, saying the continued increases in loss assumptions tied to the structured products that the insurers guarantee are making a moving target harder to hit.

As insurers look to raise capital and meet the requirements outlined by the rating agencies to keep their triple-A ratings, the increased loss assumptions demand more capital from the monoline insurers.

On Jan. 30, Moody's amended its projected loss estimates for 2006 subprime mortgages, saying losses could now be in the range of 14% to 18% with further actions on other securities set to come. Moody's said at the time that as the loss estimates are updated, Moody's will use them to examine the ratings of the bond insurers.

"Our estimate of capital needed to support the mortgage-related risk of some guarantors has risen significantly due to changing circumstances," Moody's said in a report last week.

"This reversal, so quickly after affirmations only a few weeks ago, says to me that they have no clue where this is going to end," said Dick Larkin, a senior vice president and municipal trading desk analystat J.B. Hanauer & Co., "Remember, it was only August when S&P said the bond insurers should be able to maintain adequate capital to keep their ratings, in what they called a much stronger, theoretical 'worst case' basis."

Earlier this week, Fitch updated its review of the financial guarantors, saying that increased loss projections caused the agency to update its models. Fitch said adequate capital reserves will no longer be enough for insurers to keep their triple-A rating, and placed MBIA Insurance Corp. on negative watch. The announcement was particularly shocking because it was less than three weeks ago that Fitch affirmed MBIA's triple-A rating, after the company raised $1 billion in capital through the sale of surplus notes.

"The municipal market seems paralyzed due to a crisis in confidence in the monolines and more importantly the rating agencies' opinions on the monolines," said Tom Weyl, director of research at Eaton Vance Management. who attended the meeting at S&P. "The market needs certainty - it needs to know that when the rating agencies say that a certain amount of capital is needed to maintain a triple-A rating, that number will not change and that successfully meeting the demand will result in stability."

It remains to be seen whether the Standard & Poor's plan will accomplish this. The potential effects of the Moody's plan, for which structured products will be rated on a number scale rather than letters, is also unclear. In announcing the policy, Moody's asked for investor comment and said it would collect opinions until Feb. 29.

A source who attended the Standard & Poor's meeting was critical of the changes that rating agency is making, down-playing them as "risk management."

"That's all the stuff they need to do to keep the regulators and Congress off their back," the source said.

The source was also critical of the rating agencies for, among other things, pushing bond insurers to diversify their portfolios, which contained mostly staid municipal bonds early in the decade, to "higher-margin business" in fixed-income securities, including mortgage-backed instruments.

But Tillman rejected such criticisms.

"We never encouraged bond insurers to go into structured finance, that was up to them," Tillman said. "There are a number of factors that we look at when we develop a rating opinion and one of them is portfolio diversity, and diversity can come in a variety of different ways. It can come in geographic diversity for the bond insurers, it can come in terms of the different kind of municipal sectors that they're covering, whether its revenue bonds or [general obligation] bonds or utility bonds.

"So there are a variety of ways that you can diversify your portfolio and basically we've always needed to see a sustainable business plan that can survive a downturn if the primary market were to do so," she added.

But the source said Tillman's remarks were off base.

"There's no one in the market who doesn't think the rating agencies pushed the bond insurers this way," he said. "That's absolutely false."

Also yesterday, New York State Attorney General Andrew Cuomo criticized the agencies' policy changes, saying "Both S&P and Moody's are attempting to make piece-meal changes that seem more like public relations window-dressing than systemic reform."

In response, Standard & Poor's senior vice president of marketing and communications, Marjory Appel, said her company believes the reforms are "meaningful" efforts to serve the capital markets.

"We're taking these steps after having sought input from market participants," Appel said. "These initiatives and those that we will continue to pursue, because this is really the beginning, are making a fundamentally good process better."

The rating agencies, for their part, maintain that the loss estimations need to be updated as subprime borrowers default at ever increasing rates. The modeling is designed to create a distribution for expected losses around a certain distribution point and Moody's looks to the tail of that distribution to measure how much capital would be needed to maintain a certain rating, Moody's analyst Jack Dorer said.

"We have the traditional portfolio risk model that we have used for many years for the financial guarantors," Dorer said. "The concept is to model the individual transactions that the financial guarantor insures on a very granular basis so we are looking at all the individual transactions and we compute an estimation of expected loss on each of those."

Dorer said the Moody's models try to be forward looking. But one of the criticisms of the rating agencies by market participants is that the models did not foresee the rising levels of defaults in subprime mortgages when assigning their triple-A ratings to the collateralized debt obligations that the insurers eventually guaranteed.

"It's really meant to be forward looking in that we are anticipating, given our current view of the world, what cumulative loss rates might be in these products," Dorer said. "The reality is that there is a great deal of uncertainty as to how things will ultimately play out and we try to come up with our best estimate."

However, the world does not always act as you would expect it would, Friedlander said.

"There's a very strong tendency to think in terms of what happened before will happen again," Friedlander said. "It is going to take some time for the damage that has been undone to be unwound." q

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