Moody's Plummets on Rating Snafu

<I>The Financial Times</I> reports that a computer error led to European credit derivatives being rated higher than they should have been.
By Debra Borchardt ,

Shares of

Moody's

(MCO) - Get Report

plunged Wednesday on a report that a computer error incorrectly caused some European financial instruments to be given ratings higher than they deserved.

The Financial Times

reported that Moody's gave its highest rating to some European products called constant proportion debt obligations, or CPDOs, in 2006. The error was discovered in 2007 and Moody's lowered the ratings on the instruments and adjusted the ratings methodology. However, the company never disclosed the problem at the time that the error occurred.

The news was enough to cause jittery investors to sell off the stock as shares dropped 15.5% to $37.10, a loss of $6.80. Moody's has been criticized throughout the credit crisis, as many investors felt the company kept ratings on domestic bonds inflated and masked the problems underlying many of those bonds.

Dutch bank

ABN Amro

developed the CPDO concept, which took leveraged bets on indices like the iTraxx Europe. One of the key selling points for CPDOs over collateralized debt obligations, or CDOs, was that both the coupon and principal were rated.

The two agencies willing to give the desired high rating necessary to sell the product were Standard & Poor's and Moody's. S&P is owned by

The McGraw Hill Companies

(MHP)

and was included with Moody's on the sales presentations for the CPDOs. Fitch Ratings refused to give the instruments the high ratings that ABN Amro wanted. Fitch Ratings is a majority-owned subsidiary of

Fimalac

, an international business group based out of Paris.

Moody's also raised eyebrows when it gave Berkshire Hathaway Assurance a AAA rating while at the same time Warren Buffett's

Berkshire Hathaway

(BRK.A) - Get Report

owns 20% of Moody's stock. Buffet created Berkshire Hathaway Assurance earlier this year to insure municipal bonds in the wake of threatened ratings downgrades for sector leaders

MBIA

(MBI) - Get Report

and

Ambac Financial

(ABK)

, due to concern over their capital reserves amid climbing defaults on the debt they insure.

Buffett came out in support of Moody's Wednesday. "I don't think one day will permanently change the franchise value of Moody's," he said at a news conference in Madrid, according to

Reuters

.

The company's shares, though, experienced the largest one-day drop in its history since spinning off from Dun & Bradstreet in 2000. Moody's did not respond to a call for comment. McGraw Hill shares tumbled as well, losing 4.4% to trade at $41.68.

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