Never Listen to the Rating Agencies

Back when I was young and dumb, I used to take stock analysts at face value, thinking they knew what was up.

Then later on, once I started to know what I was doing, I realized that these guys were basically paid to have “biases” from their firms. I also realized that they were routinely “late to the ball game” when it came to upgrades and downgrades on stocks.

In fact, I’ve seen guys that, to make a point, bought when they said “sell” and sold when they said “buy” and they made money by taking the opposite of their advice. What’s up with that? These guys are paid to “talk a good talk” but in the end, don’t know how to make money trading/investing in stocks.

Quit Listening to Fickle Rating Agencies

Well, I must say, I’ve added in a second rule in the last year. Never listen to the rating agencies (S&P, Moody’s & Fitch). These guys didn’t catch all of the crappy instruments that these banks, insurance companies and brokerages were holding back when these stocks were still flying and just now are they downgrading great companies because they got their hands slapped formerly for not taking action. Now they have moved to the other extreme and are downgrading everything that moves it seems.

On Friday, the S&P downgraded 11 banks including: Bank of America (BAC), Barclays (BCS), Citibank (C), Credit Suisse (CS), Deutsche Bank (DB), Goldman Sachs (GS), JP Morgan Chase (JPM), Morgan Stanley (MS), Royal Bank of Scotland (RBS), UBS (UBS) and Wells Fargo (WFC).

Guys, these are the biggest banks that we have in the world. If they don’t make it, none are going to make it and we’re all in trouble. So this was a bit extreme.

Besides, have you looked at their stocks? Why are they telling us all of this closer to the bottom in their stocks? Why didn’t they “discover” all of these “revelations” a year ago?

I have to tell you, my “CD investing grandma” could pick stocks better than these guys and could warn you faster.

Maybe they ought to pay her hundreds of thousands of dollars a year to “talk a good talk” too. In fact, they’d trust a little old grandma a lot faster than they would these analysts. She could pull out some freshly baked cookies out of the oven and have you listen to her recommendations at the same time.

Of all companies, the rating agencies pick on GE?!?

I must say, the final straw of the ratings agencies stooping so low was to reduce General Electric’s (GE) outlook to a “negative”. If one of the world’s biggest, most diversified companies can’t make it, we’ve got problems too.

There are a lot of companies I’d go picking on before I’d take a shot at GE. Come on guys!

To top it off, S&P even went so far as to “downgrade the whole country” when it came to banks in the U.S. and U.K. Don’t you think that the time to downgrade them would have been a year ago and not today? I do!

But maybe we’re just not as smart as all of these analysts. Ha-ha!

On top of this, you’d think that by their “timing” that they don’t even want stocks to recover. Besides that, they are telling us “now” what everyone knows. It’s like yesterday’s weather. Everybody already knows what it was. Do we really need to pay people for things we already know?!?

Don’t forget too that the government now owns positions in a lot of these companies. Want to ever see the return of your tax dollars at work? Then you’d better hope these securities go up in value as well whether you own stocks or not.

Comments

[Srdjan Popovic:]

I believe that in the current crisis the role of the rating agencies went beyond those of neutral observers... as was the case many times before. For example, if you remember the Peso crisis in the early 90s you will recall that the rating agencies also gave great ratings to bonds depending on financial instruments that behind ten layers of smoke had only Mexican bonds. Take some junk bonds, repackage them a few times and hide that they even exist, and get A ratings. Only this time it was sub-prime. Are rating agencies incompetent or corrupt? Without proof it remains an open question.

2008 Dec 21 12:18 PM

[User 323736:]

You forgot to mention if you are long these stocks...seems to me you might be....

2008 Dec 21 02:20 PM

[don2m:]

I am in total agreement with you and even carry it one step further. When great companies like GE, CAT, NOV and others are down graded to a 'sell' then being somewhat of a skeptic as to their real motivation I believe that it boarders on unproveable manipulation.
Run the price down, load up, run the price up. Goldman, Merrill, Morgan, and many others of their world wide status who can move markets with just a few words have bothered me for many years. Now with the Madoff Ponzi Operation placing trust in anyone on Wall Street becomes harder and harder

2008 Dec 21 02:31 PM

[henarl:]

The rating agencies are just another part of the whole corrupt Wall St. bunch. Only the naive would believe ANYTHING that analysts, brokers, raters, bankers, or anyone else in the financial industry says. Include politicians and bureaucrats among the corrupt also. And, since Paulson is part of both of these groups, he is the most corrupt of all. Now he wants Congress to release the other 350 billion to spread around to his Wall St buddies. And, if they can get the earmarks they want, they'll probably do it.
Disgusting!!

2008 Dec 21 03:32 PM

[User 283977:]

Standard & Poor’s announced Thursday (Dec 18) that it revised its outlook on GE. They stated that… "While GE is still maintaining its “AAA” long-term and “A-1+” short-term counterparty ratings; S&P believes there is at least a one-in-three chance it will cut GE’s credit rating from the top ‘AAA’ tier within the next two years". Of course, that means there is at least a two-in-three chance that they won't downgrade GE's credit rating in the next two years.

TWO YEARS… Does anyone really think these guys can predict anything, never-the-less looking two years in the future under current economic conditions? This raises an obvious question with respect to their motovation.

Rating agencies perform two functions. First, they rate stocks based on current valuation. This provides a basis to justify buy/ sell decisions. Given their valuation of investment grade securities for those mortgage based derivatives, I believe we can safely conclude they can sometimes be unbelievable wrong.

A second part of their functionality, although a part they will never admit, is they are paid to provide a spin designed to move the future market. The latter occurs because there are relationships between the rating agencies and big traders. No way you say?

Lets take a look at that recent S&P 33% possible GE downgrade in the next two years statement. The trading volume for GE increased by over 100% starting at 1PM Wednesday (Dec 17), the day BEFORE the S&P announcement. GE's stock price also plunged in the futures market before the DOW opened on Thursday. This sure looks analogous to the "Blue Horseshoe loves Anacot Steel" effect in the movie Wall Street. Did anyone short large volumes of GE starting at 1PM Wednesday? It seems this is something that the SEC could easily check on… but of course this assumes we have an honest SEC.

If we take the GE example and combine it with the fact that these rating companies provided investment grade security ratings on mortgage based derivatives who's value is impossible to quantify, I believe we have grounds to question the rating companies motivations. I think its time for a full investigation of these ratings agencies, and of the government agency that was supposed to be monitoring them. How can we trust our markets when there are grounds to suspect the presence of collusion between rating agencies and other, as yet unidentified parties designed to swindle investors. It seems possible that Madoff's Ponzi scheme is just the tip of the iceberg.

2008 Dec 21 03:48 PM

[James Wilson:]

My 10 year old learned that lesson with his account fast. He said, " Why do the say the stock is no good in a news story and then a week later raise the stocks to a buy". Are they playing the investors with lies so they can buy cheap and then sell higher ? They can do this can they ? Dad you said pump and dump scams are illegal. This is a reverse pump and dump scam ! "

I laughed out loud. The U.S. Government has the SEC, Bank Regulators, and Law Makers who does nothing but even a 10 year old can see the lies are blatant !

2008 Dec 22 03:33 AM

[k45:]

GE bonds have been trading with yields 2% higher than AA rated bonds. Obviously the market knows a lot more than "Johnny come lately" S&P.

But two years? Yes, S&P obviously makes their ratings by looking in the rear view mirror. By then GE either will be past the problem, or will have crumbled. Either way, an honest assessment would have downgraded GE months ago. The market already did.

2008 Dec 22 08:13 AM

[BlueOkie:]

If you are not going to listen to anyone, what is your secret to investing? The entire market has gone south, not just individual stocks. People are finding out that reward/risk has a downside. Even Buffett's stocks have taken a hit.

2008 Dec 22 09:02 AM

[henarl:]

Buffett's portfolio has taken hits before and recovered bigtime. He is still a multi-billionaire. Who do you listen to? Take a page from Buffett's book and do your own research. It will always be somewhat of a gamble but hopefully you can slant the odds slightly in your favor.

2008 Dec 22 11:19 AM

[FXedu:]

Srdjan Popovic, I couldn't agree with you more. And it seems like they love to keep those "layers" happening all the time. Good comment. Thanks for posting it.


User 323736, no most of my stuff is in the forex market right now and in a few select ETFs getting poised for the market recovery in 2009. Have been out of all stocks for the most part of 2008. So I dodged the huge fall and am poised for the recovery. My stuff is all cash, no margin and longer term trades in stocks. In currencies, in 2008 I was long the U.S. dollar and yen but am no longer. I'm bearish on those now.


don2m, yes many firms used to "carry inventory" and still may. They would downgrade a stock, then buy it upon the sell off...upgrade it later on when they wanted to dump it so that they could sell into a rally and not move the market against them. Seems shady to me, but nonetheless happened. That's why I worked for Schwab back then...that stuff never happened there. Wall Street can get real dirty, real quickly...being a man of integrity, I could only work for one of the few that was like minded.


henarl, while I do believe Paulson is trying to do his best in this mess that he inherited, I also agree that the "saving" that they are doing has been selective. If you were a "buddy" of his clan, then you got saved. If not, you didn't. Goldman Sachs has always been a "tighter club" than any fraternity.

Yep Bob Lunn, there's always been "suspect" activity like that. I agree. These guys have a ton of power too...because many funds and pension funds can't invest in a country without 1 to 2 rating services deeming them "investment grade". So they can somewhat control where the "big river" of money goes to a certain degree. I agree.


James Wilson, you are exactly correct. 10 year olds see things clearly and honestly without bias. So the 10 year old saw things that the others didn't bother to see.

k45, yeah these guys act like they are looking into the future..but they are not "predictors" but rather "responders".. Correct.


BlueOkie, I found out long ago that I could mainly only rely on myself because of all of these biases that we're talking about here. Many are "paid" to be biased rather than giving honest assessments.

I do my own analysis first, fundamentally and technically on stocks and sectors while keeping a bigger "macro" view of things in mind too. Other than that, some of the only guys I'll usually listen to are Dennis Gartman, Jim Rogers and Warren Buffett. Old guys that have been doing this 30-40 years. I could care less what a 27 year old analyst has to say. What does he know. He hasn't usually seen his first "rough patch" yet. haha.

Yeah henarl, those are the main three that I will listen to. These guys have been around the block, stood the test of time and have seen every type of thing imaginable just about...come around a time or two at least. So I value grey hair..that's something that many valued in the past that many don't value much any more and I think that's a mistake. If I can learn from their experiences, then I don't have to "re-learn" it myself.

2008 Dec 22 03:21 PM