The Past, Present and Future of Structured Product Ratings

In response to a wave of structured product downgrades by all three major credit rating agencies1 in late 2007, I examine the causes of this event by incorporating the market reputational mechanism within the current regulatory environment to create a theoretical composite model. My findings suggest that this wave of downgrades stems from misaligned incentives caused by a transfer of reputation from corporate debt to structured products, which created an opportunity for rating agencies to reap large one time profits without penalty. Going forward I argue that there is no need for further regulation; the incentive to innovate and repair reputation will act as a corrective force. 1 The three major credit rating agencies are Moody’s, S&P, and Fitch.