Ratings agencies Standard & Poor’s, Moody’s and investment bank Morgan Stanley have settled two lawsuits dating back to the financial crisis that accused them of hiding risky investments.
The lawsuits from King County in Washington state and Abu Dhabi Commercial Bank claimed that the ratings agencies and Morgan Stanley hid the risk of investing in a fund that purchased bonds backed by subprime mortgages.
Judge Shira Scheindlin dismissed the lawsuits on Friday, in federal court in New York, with prejudice, which means they can’t be filed again.
Spokesmen for the McGraw-Hill Cos., which owns S&P, Moody’s Corp. and Morgan Stanley confirmed the settlements but did not disclose terms.
McGraw-Hill spokesman Jason Feuchtwanger said the cases were settled without any admission of liability or wrongdoing.
Ratings agencies came under intense scrutiny following the 2008 financial crisis for giving top-notch ratings to investments backed by subprime mortgages. As defaults and losses mounted in the housing market, especially among subprime loans, the value of bonds backed by the bad debt plummeted.
As the mortgage market collapsed, the ratings agencies sharply lowered their ratings on the investments.
With the value of such investments declining, funds that purchased the bonds filed for bankruptcy. King County and Abu Dhabi sued the ratings agencies and Morgan Stanley claiming the banks misled them about the safety of some investments that were part of a structured investment vehicle.
A structured investment vehicle is a fund that borrows money by issuing short-term securities at a low interest rate and then lends that money by purchasing long-term securities at higher interest. That process can make a profit for its investors from the difference.
Moody’s Investors Service has lowered the credit ratings on some of the world’s biggest banks, including Bank of America, JPMorgan Chase and Goldman Sachs, reflecting concern over their exposure to the violent swings in global financial markets.
The downgrades late Thursday ultimately are a measure of Moody’s view on the ability of the banks to repay their debts. The ratings agency also cut its ratings on Barclays, Deutsche Bank and HSBC, some of the largest banks in Europe, a region fighting to contain a government debt crisis.
The banks “have significant exposure to the volatility and risk of outsized losses inherent to capital markets activities,” Moody’s global banking managing director Greg Bauer said in a statement outlining the rational for the downgrades.
The behemoth banks are all major players in the global stock and bond markets, which have become extremely volatile. However, Bauer noted that some of the banks, including JPMorgan Chase and HSBC, have reliable buffers in more stable businesses that could act as “shock absorbers” during a crisis.
Moody’s had said in February that it was considering downgrading the ratings of major banks in the U.S. and in Europe.
A downgrade usually means banks will have to pay more for its debt. Investors demand higher interest for riskier debt, which is what the downgrades represent. However, with interest rates already at rock-bottom levels, the lower ratings may not significantly affect the cost of funding for the banks.
The stock market has also priced in any negative impact from the ratings downgrades, according to Bert Ely, a banking consultant in the Washington, D.C. area. “They’ve been telegraphing this thing for months,” he said.
In a sign that investors were taking the news in stride, stocks of major U.S. banks rose in afterhours trading. Moody’s made its announcement after regular stock trading had closed.
Morgan Stanley rose the most, 3.2 percent, gaining 45 cents to $14.41. JPMorgan Chase & Co. rose 38 cents to $35.89 and Bank of America Corp. rose 6 cents to $7.88.
Citigroup Inc. said it “strongly disagrees” with Moody’s assessment. Citi said it doesn’t believe the downgrade will impact its funding costs because the ratings actions have already been expected by the market and its business partners have included them in their analyses.
Morgan Stanley also disagreed with Moody’s, saying it did not think the ratings agency had fully considered the actions the bank has taken to shore up its finances.
The downgrades come at a time of great uncertainty in the global economy. Europe’s currency union is under threat, the U.S. economy is slowing and the red-hot economies of India, Brazil and China are cooling.
On Thursday the Dow Jones industrial average plunged 251 points, its second-worst loss of the year, as new reports indicating slower manufacturing in the U.S. and China made investors fearful that the global economy could be heading for another slump.
Moody’s has been on a downgrading spree lately. In June, it downgraded Spain by three notches, after downgrading 16 Spanish lenders in May. It also cut the ratings on seven German and three Austrian lenders in this month.
In its latest report, Moody’s didn’t treat all large banks alike. It sorted the banks it was downgrading into three categories, with JPMorgan, HSBC Holdings PLC, and Royal Bank of Canada in the top one.
Moody’s said those banks have stable businesses that can offset market losses. JPMorgan, for example, has a large base of consumer deposits and major lending, credit card and asset management businesses.
These banks have also managed to contain their exposure to risky European government debt, Moody’s said. While all three were downgraded, their debt had the highest ratings among the 15 banks affected.
The second group included Goldman Sachs Group Inc., Deutsche Bank AG and Credit Suisse Group AG. Moody’s said those banks rely heavily on their markets businesses to satisfy their shareholders, although some of them have managed their risk effectively.
In its last group were the weakest banks — Bank of America, Citigroup, Morgan Stanley, and Royal Bank of Scotland Group PLC. Moody’s said these banks have either had “problems in risk management or have a history of high volatility,” and some of them have implemented business strategy changes.
“These transformations are ongoing and their success has yet to be tested,” Moody’s said.
AP Business Writer Christina Rexrode contributed to this story.
Major bank stocks fell sharply Friday after JPMorgan Chase surprised investors by announcing a $2 billion trading loss.
JPMorgan’s stock dropped 9 percent in early trading, the most of the 30 stocks in the Dow Jones industrial average. Gains in technology, energy and other stocks mitigated the losses. After the first half-hour of trading the Dow was off 18 points at 12,837.
Broader market indicators were mixed. The Standard & Poor’s 500 index fell one point to 1,356 and the Nasdaq composite index, which is weighted toward technology stocks, edged up eight points to 2,942.
The direction for financial stocks was clear. JPMorgan led other bank stocks sharply lower after its late Thursday disclosure of a $2 billion loss at a London trading unit.
JPMorgan’s blunder comes in the midst of a political battle over how closely to regulate banks, though JP Morgan’s CEO Jamie Dimon said the trades would not have been affected by the so-called Volcker rule, expected to take effect this summer.
That didn’t stop investors from cutting their exposure to the financial sector. Bank of America fell 2.2 percent, Morgan Stanley was down 4.2 percent, Citigroup fell 3.8 percent, and Goldman Sachs fell 3.9 percent.
Also on Friday, the Labor Department said that the producer price index, which measures price changes before they reach the consumer, dropped 0.2 percent last month. It was the first decline since December and the biggest drop since October. Declines were driven by gas and energy prices.
A measure of consumer confidence from the University of Michigan released Friday morning was better than analysts had expected. The index was at its highest level since January 2008.
Crude and gasoline futures slid again Friday.