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Daily Rules, Proposed Rules, and Notices of the Federal Government

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 240 and 249b

[Release No. 34-59342; File No. S7-13-08]

RIN 3235-AK14

Amendments to Rules for Nationally Recognized Statistical Rating Organizations

AGENCY: Securities and Exchange Commission ("Commission").
ACTION: Final rule.
SUMMARY: The Commission is adopting rule amendments that impose additional requirements on nationally recognized statistical rating organizations ("NRSROs") in order to address concerns about the integrity of their credit rating procedures and methodologies.
DATES: Effective Date: April 10, 2009.

Compliance Date: April 10, 2009, except that the compliance date for the amendment to SS 240.17g-2(d) is August 10, 2009.

FOR FURTHER INFORMATION CONTACT: Michael A. Macchiaroli, Associate Director, at (202) 551-5525; Thomas K. McGowan, Assistant Director, at (202) 551-5521; Randall W. Roy, Branch Chief, at (202) 551-5522; Joseph I. Levinson, Special Counsel, at (202) 551-5598; Carrie A. O'Brien, Special Counsel, at (202) 551-5640; Sheila D. Swartz, Special Counsel, at (202) 551-5545; Rose Russo Wells, Special Counsel, at (202) 551-5527; Division of Trading and Markets, Securities and Exchange Commission, 100 F Street, NE., Washington, DC 20549-6628
SUPPLEMENTARY INFORMATION: I. Background

On June 16, 2008, the Commission, in the first of three related actions, proposed a series of amendments to its existing rules governing the conduct of NRSROs.1 The proposed amendments were designed to address concerns about the integrity of the process by which NRSROs rate structured finance products, particularly mortgage related securities.2 Today, the Commission is adopting, with revisions, a majority of the rule amendments proposed in the first action.3 These new requirements are designed to address practices identified, in part, by the Commission staff during its examination of the three largest NRSROs.4 In particular, the requirements are intended to increase the transparency of the NRSROs' rating methodologies, strengthen the NRSROs' disclosure of ratings performance, prohibit the NRSROs from engaging in certain practices that create conflicts of interest, and enhance the NRSROs' recordkeeping and reporting obligations to assist the Commission in performing its regulatory and oversight functions.5 The Commission received 61 comment letters on the amendments as proposed.6 Many commenters expressed general support for the proposals and the ends they were designed to achieve.7 At the same time, commenters raised concerns about the practicality and costs of the proposals.8 The rules being adopted today incorporate many aspects of the rules as proposed, but also include significant revisions based on the comments received.9 The revisions seek to address practical impediments identified by commenters while at the same time continuing to promote the substantive goals of the proposed rules (increasing transparency and disclosure, diminishing conflicts, and strengthening oversight) and of the Credit Rating Agency Reform Act of 2006 (“Rating Agency Act”).10

1 Proposed Rules for Nationally Recognized Statistical Rating Organizations,Exchange Act Release No. 57967 (June 16, 2008), 73 FR 36212 (June 25, 2008) (“June 16, 2008 Proposing Release”). The existing NRSRO rules were adopted by the Commission in 2007.See Oversight of Credit Rating Agencies Registered as Nationally Recognized Statistical Rating Organizations,Exchange Act Release No. 55857 (June 5, 2007), 72 FR 33564 (June 18, 2007) (“June 5, 2007 Adopting Release”). The second action taken by the Commission (also on June 16, 2008) was to propose a new rule that would require NRSROs to distinguish their ratings for structured finance products from other classes of credit ratings by publishing a report with the rating or using a different rating symbol.See June 16, 2008 Proposing Release.The third action taken by the Commission was to propose a series of amendments to rules under the Exchange Act, Securities Act of 1933 (“Securities Act”), and Investment Company Act of 1940 (“Investment Company Act”) that would end the use of NRSRO credit ratings in the rules.See References to Ratings of Nationally Recognized Statistical Rating Organizations,Exchange Act Release No. 58070 (July 1, 2008), 73 FR 40088 (July 11, 2008);Securities Ratings,Securities Act Release No. 8940 (July 1, 2008), 73 FR40106 (July 11, 2008);References to Ratings of Nationally Recognized Statistical Rating Organizations,Investment Company Act Release No. 28327 (July 1, 2008), 73 FR 40124 (July 11, 2008). The second and third actions are not being finalized in this release.

2The term “structured finance product” as used throughout this release refers broadly to any security or money market instrument issued by an asset pool or as part of any asset-backed or mortgage-backed securities transaction. This broad category of financial instrument includes, but is not limited to, asset-backed securities such as residential mortgage-backed securities (“RMBS”) and to other types of structured debt instruments such as collateralized debt obligations (“CDOs”), including synthetic and hybrid CDOs.

3TheJune 16, 2008 Proposing Releaseincluded amendments to paragraphs (a) and (b) of Rule 17g-5 that are not being adopted today. Instead, in part, in response to the many comments received on these proposed amendments identifying substantial issues as to how they would operate in practice, the Commission today is re-proposing these amendments in a separate release. In addition, the Commission is also proposing potential additional requirements to the final amendment to paragraph (d) of Rule 17g-2 being adopted today.

4 See June 16, 2008 Proposing Release,73 FR at 36213;Summary Report of Issues Identified in the Staff's Examinations of Select Credit Rating Agencies(July 2008). The report can be accessed athttp://www.sec.gov/news/studies/2008/craexamination070808.pdf.

5TheJune 16, 2008 Proposing Releasecontains a detailed discussion of concerns the final rules are intended to address, particularly with respect to the NRSROs' role in the credit market turmoil.See June 16, 2008 Proposing Release,73 FR at 36213-36218.

6Letter dated June 10, 2008 from Deborah A. Cunningham and Boyce I. Greer, Co-Chairs Company, Co-Chairs, SIFMA Credit Rating Agency Task Force (“First SIFMA Letter”); letter dated June 12, 2008 from G. Brooks Euler (“Euler Letter”); letter dated June 19, 2008 from Rupert Schoder, Financial Engineer, Socit Gnrale, France (“SGF Letter”); letter dated July 8, 2008 from William Morris, Principal, The Morris Group (“Morris Letter”); letter dated July 8, 2008 from Elaine Wieche (“Wieche Letter”); letter dated July 13, 2008 from Walter C. Hamscher, Member, XBRL International Board of Directors (“Hamscher Letter”); letter dated July 14, 2008 from Robert Dobilas, President, CEO, Realpoint LLC (“Realpoint Letter”); letter dated July 21, 2008 from Dottie Cunningham, Chief Executive Officer, Commercial Mortgage Securities Association (“CMSA Letter”); letter dated July 21, 2008 from Bruce Goldstein, SunTrust Robinson Humphrey (“STRH Letter”); letter dated July 21, 2008 from Raymond E. Petersen, President, Inland Mortgage Capital Corporation (“Inland Letter”); letter dated July 21, 2008 from Leonard W. Cotton, Vice Chairman, Centerline Capital Group (“Centerline Letter”); letter dated July 21, 2008 from Gregg Rademacher, Chief Executive Officer, Los Angeles County Employees Retirement Association (“LACERA Letter”); letter dated July 22, 2008 from Kevin Kohler, VP—Levered Finance, Capmark Investments LP (“Capmark Letter”); letter dated July 22, 2008 from Richard Metcalf, Director, Corporate Affairs Department, Laborers' International Union of North America (“LIUNA Letter”); letter dated July 22, 2008 from Mary A. Downing, Director—Surveillance and Due Diligence, Hillenbrand Partners (“Hillenbrand Letter”); letter dated July 23, 2008 from Kent Wideman, Group Managing Director, Policy Rating Committee and Mary Keogh, Managing Director, Policy Regulatory Affairs, DBRS (“DBRS Letter”); letter dated July 24, 2008 from Takefumi Emori, Managing Director, Japan Credit Rating Agency, Ltd. (“JCR Letter”); letter dated July 24, 2008 from J. Douglas Adamson, Executive Vice President, Technical Services, American Bankers Association (“ABA Letter”); letter dated July 24, 2008 from Amy Borrus, Deputy Director, Council of Institutional Investors (“Council Letter”); letter dated July 24, 2008 from Joseph A. Hall and Michael Kaplan, Davis Polk, and Wardwell (“DPW Letter”); letter dated July 24, 2008 from Vickie A. Tillman, Executive Vice President, Standard Poor's Ratings Services (“SP Letter”); letter dated July 24, 2008 from Deborah A. Cunningham and Boyce I. Greer, Co-Chairs Company, Co-Chairs, SIFMA Credit Rating Agency Task Force (“Second SIFMA Letter”); letter dated July 24, 2008 from Alex J. Pollock, Resident Fellow, American Enterprise Institute (“Pollock Letter”); letter dated July 25, 2008 from Sally Scutt, Managing Director, and Pierre de Lauzun, Chairman, Financial Markets Working Group, International Banking Federation (“IBFED Letter”); letter dated July 25, 2008 from Eric Sanitas, President, Association federative internationale des porteurs d'emprunts russe (“AFIPER Letter”); letter dated July 25, 2008 from Denise L. Nappier, Treasurer, State of Connecticut (“Nappier Letter”); letter dated July 25, 2008 from Suzanne C. Hutchinson, Mortgage Insurance Companies of America (“MICA Letter”); letter dated July 25, 2008 from Kieran P. Quinn, Chairman, Mortgage Bankers Association (“MBA Letter”); letter dated July 25, 2008 from Sean J. Egan, President, Egan-Jones Ratings Co. (“Egan-Jones Letter”); letter dated July 25, 2008 from Frank Chin, Chairman, Municipal Securities Rulemaking Board (“MSRB Letter”); letter dated July 25, 2008 from Charles D. Brown, General Counsel, Fitch Ratings (“Fitch Letter”); letter dated July 25, 2008 from Bill Lockyer, State Treasurer, California (“Lockyer Letter”); letter dated July 25, 2008 from Jeremy Reifsnyder and Richard Johns, Co-Chairs, American Securitization Forum Credit Rating Agency Task Force (“ASF Letter”); letter dated July 25, 2008 from Annemarie G. DiCola, Chief Executive Officer, Trepp, LLC (“Trepp Letter”); letter dated July 25, 2008 from Francisco Paez, Metropolitan Life Insurance Company (“MetLife Letter”); letter dated July 25, 2008 from Cate Long, Multiple-Markets(“Multiple-Markets Letter”); letter dated July 25, 2008 from Kurt N. Schacht, Executive Director and Linda L. Rittenhouse, Senior Policy Analyst, CFA Institute Centre for Financial Market Integrity (“CFA Institute Letter”); letter dated July 25, 2008 from Lawrence J. White, Professor of Economics, Stern School of Business, New York University (“White Letter”); letter dated July 25, 2008 from Jack Davis, Head of Fixed Income Research, Schroder Investment Management North America Inc. (“Schroders Letter”); letter dated July 25, 2008 from Karrie McMillan, General Counsel, Investment Company Institute (“ICI Letter”); letter dated July 25, 2008 from Michael Decker, Co-Chief Executive Officer and Mike Nicholas, Co-Chief Executive Officer, Regional Bond Dealers Association (“RBDA Letter”); letter dated July 25, 2008 from Richard M. Whiting, Executive Director and General Counsel, Financial Services Roundtable (“Roundtable Letter”); letter dated July 25, 2008 from James H. Gellert, Chairman and CEO and Dr. Patrick J. Caragata, Founder and Executive Vice Chairman, Rapid Ratings International Inc. (”Rapid Ratings Letter”); letter dated July 25, 2008 from Alan P. Kress, Counsel, Principal Global Investors, LLC (“Principal Global Letter”); letter dated July 25, 2008 from James A. Kaitz, President and CEO, Association for Financial Professionals (“AFP Letter”); letter dated July 25, 2008 from Gregory W. Smith, General Counsel, Colorado Public Employees' Retirement Association (“Colorado PERA Letter”); letter dated July 25, 2008 from Cleary Gottlieb Steen Hamilton LLP, “CGSH Letter”); letter dated July 25, 2008 from Keith A. Styrcula, Chairman, Structured Products Association (“SPA Letter”); letter dated July 25, 2008 from Yasuhiro Harada, Chairman and Co-CEO, Rating and Investment Information, Inc. (“RI Letter”); letter dated July 28, 2008 from Michel Madelain, Chief Operating Officer, Moody's Investors Service (“Moody's Letter”); letter dated July 28, 2008 from Keith F. Higgins, Chair, Committee on Federal Regulation of Securities and Vicki O. Tucker, Chair, Committee on Securitization and Structured Finance, American Bar Association (“ABA Business Law Committees Letter”); letter dated July 28, 2008 from Morris C. Foutch (“Foutch Letter”); letter dated July 29, 2008 from Glenn Reynolds, CEO and Peter Petas, President CreditSights, Inc. (“CreditSights Letter”); letter dated July 31, 2008 from Robert S. Khuzami Managing Director and General Counsel, Deutsche Bank Americas (“DBA Letter”); letter dated August 5, 2008 from John Taylor, President and CEO, National Community Reinvestment Coalition (“NCRC Letter”); letter dated August 8, 2008 from Jeffrey A. Perlowitz, Managing Director and Co-Head of Global Securitized Markets, and Myongsu Kong, Director and Counsel, Citigroup Global Markets Inc. (“Citi Letter”); letter dated August 12, 2008 from John J. Niebuhr, Managing Director, Lehman Brothers, Inc. (“Lehman Letter”); letter dated August 15, 2008 from Steve Linehan, Executive Vice-President and Treasurer, Capital One Financial Corporation (“Capital One Letter”); letter dated August 17, 2008 from Olivier Raingeard, Ph.D (“Raingeard Letter”); letter dated August 22, 2008 from Robert Dobilas, CEO and President, Realpoint LLC (“Second Realpoint Letter”); letter dated August 27, 2008 from Larry G. Mayewski, Executive Vice President Chief Rating Officer, A.M. Best Company (“A.M. Best Letter”).

7 See, e.g., LACERA Letter; LIUNA Letter; Council Letter; Second SIFMA Letter; Nappier Letter; RBDA Letter; Colorado PERA Letter; CGSH Letter; SPA Letter; RI Letter; Moody's Letter; CreditSights Letter; DBA Letter; NCRC Letter; Lehman Letter; Capital One Letter.

8 See, e.g., White Letter; Roundtable Letter; Rapid Ratings Letter; ABA Business Law Committees Letter; Raingeard Letter.

9These comments are available on the Commission's Internet Web site, located athttp://www.sec.gov/comments/s7-13-08/s71308.shtml,and in the Commission's Public Reference Room in its Washington DC headquarters.

10 See Report of the Senate Committee on Banking, Housing, and Urban Affairs to Accompany S. 3850, Credit Rating Agency Reform Act of 2006,S. Report No. 109-326, 109th Cong., 2d Sess. (Sept. 6, 2006) (“Senate Report”), p. 2.

In summary, the rule amendments require: (1) An NRSRO to provide enhanced disclosure of performance measurements statistics and the procedures and methodologies used by the NRSRO in determining credit ratings for structured finance products and other debt securities on Form NRSRO;11 (2) an NRSRO to make, keep and preserve additional records under Rule 17g-2;12 (3) an NRSRO to make publicly available on its Internet Web site in XBRL format a random sample of 10% of the ratings histories of credit ratings paid for by the obligor being rated or by the issuer, underwriter, or sponsor of the security being rated (“issuer-paid credit ratings”) in each class of credit ratings for which it is registered and has issued 500 or more issuer-paid credit ratings, with each new ratings action to be reflected in such histories no later than six months after they are taken;13 and (4) an NRSRO to furnish the Commission with an additional annual report.14

11 Seeamendments to Form NRSRO.

1217 CFR 240.17g-2.

13 SeeRule 17g-2(a)(8) and (d).

14 SeeRule 17g-3(a)(6).

II. The Final Rule Amendments A. Amendments to the Instructions for Form NRSRO

Form NRSRO contains 8 line items and requires 13 Exhibits. The line items elicit information about the applicant credit rating agency or NRSRO such as: its address; corporate form; credit rating affiliates that would be, or are, a part of its registration; the classes of credit ratings for which it is seeking, or is, registered as an NRSRO; the number of credit ratings it has issued in each class and the date it began issuing credit ratings in each class; and whether it or a person associated with it has committed or omitted any act, been convicted of any crime, or is subject to any order identified in Section 15(d) of the Exchange Act. The 13 Exhibits to Form NRSRO elicit the information required under Sections 15E(a)(1)(B)(i) through (ix) of the Exchange Act and additional information the Commission prescribed under authority in Section 15E(a)(1)(B)(x) of the Exchange Act.15

15

15 U.S.C. 78o-7(a)(1)(B)(i)-(x).

The Commission proposed amending the instructions to Form NRSRO to enhance the disclosures NRSROs make in Exhibits 1 and 2. As discussed below, the Commission is adopting the changes with certain modifications that respond, in part, to points raised by commenters.

1. Enhanced Ratings Performance Measurement Statistics on Form NRSRO

Exhibit 1 to Form NRSRO elicits the information required by Section 15E(a)(1)(B)(i) of the Exchange Act: credit ratings performance measurement statistics over short-term, mid-term, and long-term periods (as applicable) of the credit rating agency.16 The instructions for the Exhibit provide that an applicant and NRSRO must include in the Exhibit definitions of the credit ratings (i.e., an explanation of each category and notch) and explanations of the performance measurement statistics, including the metrics used to derive the statistics.

1615 U.S.C. 78o-7(a)(1)(B)(i).

The first proposed amendment to the Exhibit 1 instructions would enhance the disclosure by requiring separate sets of default and transition statistics for different classes of credit ratings. Specifically, as proposed, the instructions would require separate sets of statistics for each class of credit rating for which an applicant is seeking registration as an NRSRO or an NRSRO is registered as well as for any other broad class of credit ratings issued by the NRSRO.

The Commission received eight comment letters on this amendment.17 One commenter noted that separating performance measurements by classes of credit ratings would help market participants make informed decisions.18 Commenters suggested that the Commission refine the classes of credit ratings and raised concerns about how to interpret the catchall phrase in the rule “any other broad class of creditrating.” For example, one commenter argued that such a category “would capture a variety of operational and qualitative scales, such as servicer and bank support ratings, for which default and/or transition studies are of limited or no value.”19 The same commenter suggested that the single category encompassing government securities, municipal securities and foreign government securities be divided into three separate classes (sovereigns, United States public finance, and international public finance) to account for the different types of investors each such class of securities attracts as well as the potential for the much greater amount of data on public finance issuance in the United States to overwhelm the sovereign and international public finance data, thus making the statistics less useful to investors.20

17 SeeSecond SIFMA Letter; Fitch Letter; Lockyer Letter; Multiple-Markets Letter; ICI Letter; AFP Letter; ABA Business Law Committees Letter; Raingeard Letter.

18 SeeAFP Letter.

19 SeeFitch Letter.

20 Id.

In response to commenters' concerns, the Commission is adopting the proposed amendments to the instructions but not adopting the “catchall” requirement to which commenters objected. Eliminating the catchall will remove ambiguity in the rule. In addition, the Commission is adding language to the instructions as amended that divide government securities into three classes: sovereigns, United States public finance, and international public finance. This will make the performance statistics for these classes of credit ratings more meaningful, since the types of rated obligors and instruments in each class will be more similar.

As proposed, the first amendment to the Exhibit 1 instructions also would require an NRSRO registered in the class of credit ratings described in Section 3(a)(62)(B)(iv) of the Rating Agency Act21 (or an applicant seeking registration in that class) when generating the performance statistics for that class to include credit ratings of any security or money market instrument issued by an asset pool or as part of any asset-backed or mortgage-backed securities transaction. This was designed to include ratings actions for credit ratings of structured finance products that do not meet the narrower statutory definition of “issuers of asset-backed securities (as that term is defined is section 1101(c) of part 229 of title 17, Code of Federal Regulations).”22 The Commission received no comment on this aspect of the amendment and is adopting it as proposed.

2115 U.S.C. 78c(a)(62)(B)(iv).

22 See id.

This first amendment to the Exhibit 1 instructions, modified as described above, will result in the generation of performance statistics that will make it easier for users of credit ratings to compare the accuracy of NRSRO credit ratings on a class-by-class basis. For the reasons discussed, the Commission is adopting the amendment to the instructions with the modifications described above.

As proposed, the second amendment to the Exhibit 1 instructions would require that the class-by-class disclosures be broken out over 1, 3 and 10-year periods. Section 15E(a)(1)(B)(i) of the Exchange Act requires that the performance statistics be over short, mid, and long-term periods, which is also the language currently used in Form NRSRO.23 The purpose of this amendment was to prescribe periods in specific years so that the performance statistics generated by the NRSROs are more easily comparable.

2315 U.S.C. 78o-7(a)(1)(B)(i).

The Commission received 12 comments on the amendment.24 Most of the commenters supported the amendment, including the 1, 3, and 10 year time frames. These comments supported the Commission's view that 1, 3, and 10 year periods are reasonable definitions of the terms “short-term, mid-term, and long-term periods” as used in Section 15E(a)(1)(B)(i) of the Exchange Act.25 Commenters believed the proposed statistics would provide investors additional information to make informed investment decisions.26 Several commenters asked that the Commission clarify whether the default rates were for the most recent 1, 3, and 10 year periods or the average over multiple 1, 3, and 10 year periods.27 The Commission intended the default statistics to be for the most recent 1, 3, and 10 year periods. The Commission is adopting the amendment to the instructions as proposed.

24 SeeLIUNA Letter; JCR Letter; Council Letter; SP Letter; Second SIFMA Letter; Fitch Letter; Multiple-Markets Letter; AFP Letter; Colorado PERA Letter; ABA Business Law Committees Letter; NCRC Letter; Raingeard Letter.

2515 U.S.C. 78o-7(a)(1)(B)(i).

26 SeeLIUNA Letter; AFP Letter.

27 SeeJCR Letter; SP Letter.

As proposed, the third amendment to the Exhibit 1 instructions would clarify the type of ratings actions that are required to be included in these performance measurement statistics. Specifically, it would change the instruction requiring that the performance statistics show “down-grade and default rates” with an instruction that they show “ratings transition and default rates.” The switch to “ratings transition” rates from “downgrade” rates was designed to clarify that upgrades (as well as downgrades) should be included when generating the statistics. The Commission did not receive any comments on this amendment to the instructions and is adopting it as proposed.

Finally, the Commission proposed an amendment to the instructions of Exhibit 1 that would specify that the default statistics required under the exhibit must show defaults relative to the initial rating and incorporate defaults that occur after a credit rating is withdrawn. The proposed amendment was designed to prevent an NRSRO from manipulating the performance statistics by not including defaults when generating statistics for a category of credit ratings (e.g., AA) because the defaults occur after the rating is downgraded to a lower category (e.g., CC) or withdrawn.

Commenters raised a number of concerns about how this proposal would operate in practice.28 Several commenters expressed concern that the requirement to include defaults occurring after a rating is withdrawn could obligate an NRSRO to monitor ratings for an indefinite period of time after the NRSRO stops rating such instruments, and that an NRSRO may not be able to provide such statistics after a rating is withdrawn.29 Two NRSROs noted that the ability to monitor ratings depends on the ability of the NRSRO to obtain information that an event of default has occurred and that this may be impractical given limited access to information once a rating is withdrawn.30 Another NRSRO believed that the proposal was overbroad and outside the scope of the Commission's authority, asserting that it intrudes upon the substance of the NRSRO's rating procedures.31 The Commission agrees that, given the limited information available to NRSROs following the withdrawal of a rating, requiring the inclusion in these statistics of defaults occurring after a rating is withdrawn may be problematic. Therefore, the Commission is not adopting this provision at this time. While the instructions to Exhibit 1 will continue to require default statistics that are relative to initial rating on a class-by-class basis, for the reasons discussedabove, the amendment as adopted does not require the inclusion of defaults that occur after a credit rating is withdrawn in those statistics. As an alternative means of achieving the Commission's goals in proposing this amendment, the Commission notes that, as discussed below, ratings withdrawals must be included among the ratings actions to be disclosed under the Commission's amendment to Rule 17g-3,32 which requires an annual report of all ratings actions taken during the year within a class of credit ratings. This information will be useful in determining whether the number of ratings actions in a given class is unusually large and, if so, the need for a review of the causes of any significant changes to that number—including, potentially, a disproportionate amount of ratings withdrawals.

28 SeeDBRS Letter; SP Letter; Fitch Letter; Moody's Letter.

29 SeeDBRS Letter; SP Letter.

30 SeeSP Letter; Fitch Letter.

31 SeeMoody's Letter.

3217 CFR 240.17g-3.

2. Enhanced Disclosure of Ratings Methodologies

Exhibit 2 to Form NRSRO elicits the information required by Section 15E(a)(1)(B)(ii) of the Exchange Act: information regarding the procedures and methodologies used by the credit rating agency to determine credit ratings.33 The instructions for the Exhibit require a description of the procedures and methodologies (not the submission and disclosure of each actual procedure and methodology). The instructions further provide that the description must be sufficiently detailed to provide users of credit ratings with an understanding of the processes the applicant or NRSRO employs to determine credit ratings. The instructions also identify a number of areas that must be addressed in the description to the extent they are applicable.34

3315 U.S.C. 78o-7(a)(1)(B)(ii).

34Specifically, the instructions require an NRSRO to provide descriptions of the following areas (as applicable): “policies for determining whether to initiate a credit rating; a description of the public and non-public sources of information used in determining credit ratings, including information and analysis provided by third-party vendors; the quantitative and qualitative models and metrics used to determine credit ratings; the methodologies by which credit ratings of other credit rating agencies are treated to determine credit ratings for securities or money market instruments issued by an asset pool or as part of any asset-backed or mortgaged-backed securities transaction; the procedures for interacting with the management of a rated obligor or issuer of rated securities or money market instruments; the structure and voting process of committees that review or approve credit ratings; procedures for informing rated obligors or issuers of rated securities or money market instruments about credit rating decisions and for appeals of final or pending credit rating decisions; procedures for monitoring, reviewing, and updating credit ratings; and procedures to withdraw, or suspend the maintenance of, a credit rating.”SeeForm NRSRO Instructions for Exhibit 2.

The Commission proposed amending the instructions to Exhibit 2 to add three additional areas that an applicant and a registered NRSRO would need to address in the descriptions of its procedures and methodologies in Exhibit 2 to the extent they are applicable. The three proposed areas that would need to be addressed by an applicant and NRSRO were:

• Whether and, if so, how information about verification performed on assets underlying or referenced by a security or money market instrument issued by an asset pool or as part of any asset-backed or mortgage-backed securities transaction is relied on in determining credit ratings;

• Whether and, if so, how assessments of the quality of originators of assets underlying or referenced by a security or money market instrument issued by an asset pool or as part of any asset-backed or mortgage-backed securities transaction play a part in the determination of credit ratings; and

• How frequently credit ratings are reviewed, whether different models or criteria are used for ratings surveillance than for determining initial ratings, whether changes made to models and criteria for determining initial ratings are applied retroactively to existing ratings, and whether changes made to models and criteria for performing ratings surveillance are incorporated into the models and criteria for determining initial ratings.

The comments submitted on the first proposed amendment to the instructions to Exhibit 2 were supportive of the proposal.35 Commenters generally supported the second proposed amendment as well.36 Likewise, commenters were supportive of the third proposed amendment. They stated that it would be particularly helpful to retail investors and that all investors would benefit from knowing what ratings have undergone surveillance by the NRSRO.37

35 SeeNCRC Letter; Second SIFMA Letter; MICA Letter; ASF Letter.

36 SeeSecond SIFMA Letter; ASF Letter.

37 SeeASF Letter; Multiple-Markets Letter; NCRC Letter.

The Commission is adopting the first amendment to the instructions to Exhibit 2 as proposed. This amendment requires an NRSRO to disclose whether and, if so, how information about verification performed on the assets is relied on in determining credit ratings for structured finance products. The Commission believes this disclosure will benefit users of credit ratings by providing information about the potential accuracy of an NRSRO's credit ratings. NRSROs determine credit ratings for structured finance products based on assumptions in their models as to how the assets underlying the instruments will perform under varying levels of stress. These assumptions are based on the characteristics of the assets (e.g., value of the property, income of the borrower) as reported by the arranger of the structured finance product. If this information is inaccurate, the capacity of the model to predict the potential future performance of the assets may be significantly impaired. Consequently, information about whether an NRSRO requires that some level of verification be performed or takes other steps to account for the lack of verification or a low level of verification will be useful to users of credit ratings in assessing the potential for an NRSRO's credit ratings to be adversely impacted by inaccurate information about the assets underlying a rated structured finance product.

The Commission is adopting the second amendment to the instructions to Exhibit 2 as proposed. This amendment requires an NRSRO to disclose whether it considers qualitative assessments of the originator of assets underlying a structured finance product in the rating process for such products. The Commission believes that certain qualities of an asset originator, such as its experience and underwriting standards, may impact the quality of the loans it originates and the accuracy of the associated loan documentation. This, in turn, could influence how the assets ultimately perform and the ability of the NRSRO's models to predict their performance. Consequently, the failure to perform any assessment of the loan originators could increase the risk that an NRSRO's credit ratings may not be accurate. Therefore, disclosures as to whether the NRSRO performs any qualitative assessments of the originators would be useful in comparing the efficacy of the NRSROs' procedures and methodologies.

The Commission is adopting the third amendment to the instructions to Exhibit 2 as proposed. This amendment requires an NRSRO to disclose the frequency of its surveillance efforts and how changes to its quantitative and qualitative ratings models are incorporated into the surveillance process. The Commission believes that users of credit ratings will find information about these matters useful in comparing the ratings methodologies of different NRSROs. For example, how often and with what models an NRSRO monitors its credit ratings would berelevant to assessing the accuracy of the ratings inasmuch as ratings based on stale information and outdated models may not be as accurate as ratings of like products using newer data and models. Moreover, with respect to new types of rated obligors and debt securities, the NRSROs refine their models as more information about the performance of these obligors and debt securities is observed and incorporated into their assumptions. Consequently, as the models evolve based on more robust performance data, credit ratings of obligors or debt securities determined using older models may be at greater risk for being inaccurate than the newer ratings. Therefore, whether the NRSRO verifies the older ratings using the newer methodologies would be useful to users of credit ratings in assessing the accuracy of the credit ratings.

The Commission notes that, unlike the prior two changes, this new instruction applies to all classes of credit ratings for which the NRSRO determines credit ratings (not solely to structured products). For the reasons noted above, the Commission is adopting this amendment as proposed.

The Commission is adopting these amendments to the instructions to Exhibit 2 to Form NRSRO, in part, under authority to require such additional information in the application as it finds necessary or appropriate in the public interest or for the protection of investors.38 The Commission believes the new disclosure requirements are necessary and appropriate and in the public interest or for the protection of investors. Specifically, they are designed to provide greater clarity around three areas of the NRSROs' rating processes where questions have been raised, particularly for structured finance products, in the context of the credit market turmoil: Namely, the verification performed on information provided in loan documents; the quality of loan originators; and the surveillance of existing ratings and how changes to models are applied to existing ratings. The amendments are designed to enhance the disclosures NRSROs make in these areas and, thereby, allow users of credit ratings to better evaluate the quality of their ratings processes.

38 SeeSection 15E(a)(1)(B)(x) of the Exchange Act (15 U.S.C. 78o-7(a)(1)(B)(x)).

B. Amendments to Rule 17g-2

Rule 17g-2 requires an NRSRO to make and retain certain records relating to its business and to retain certain other business records made in the normal course of business operations.39 The rule also prescribes the time periods and manner in which these records are required to be retained. The Commission is adopting amendments to Rule 17g-2 to require NRSROs to make and retain certain additional records and to require that a portion of these new records be made publicly available.

39 See17 CFR 240.17g-2.

1. A Record of Rating Actions and the Requirement That They Be Made Publicly Available

The Commission proposed an amendment that would require an NRSRO to make and retain a record of the ratings history of each outstanding credit rating as well as an amendment that would require the NRSRO to make the ratings histories contained in the record publicly available on its corporate Web site in eXtensible Business Reporting Language (“XBRL”) electronic format, with each new ratings action to be made public no later than six months after the date of the rating action. The Commission is adopting the amendment with substantial changes in part to address concerns raised by commenters.

As adopted, paragraph (a)(8) to Rule 17g-2 requires an NRSRO to make and retain a record for each outstanding credit rating it maintains showing all rating actions (initial rating, upgrades, downgrades, placements on watch for upgrade or downgrade, and withdrawals) and the date of such actions identified by the name of the security or obligor rated and, if applicable, the CUSIP for the rated security or the Central Index Key (CIK) number for the rated obligor. This full record of credit rating histories will be maintained by the NRSRO as part of its internal records that are available to Commission staff.

In addition, paragraph (d) to Rule 17g-2, as amended, requires that an NRSRO make publicly available, on a six-month delayed basis, a random sample of 10% of the issuer-paid credit ratings and their histories documented pursuant to paragraph (a)(8) for each class of credit rating for which the NRSRO is registered and has issued 500 or more ratings paid for by the obligor being rated or by the issuer, underwriter, or sponsor of the security being rated. Consequently, the final rule only requires the disclosure of ratings histories for a limited number of outstanding credit ratings and only if they are issuer-paid credit ratings. Generally, NRSROs make their issuer-paid credit ratings publicly available for free.

NRSROs also obtain revenues by selling subscriptions to their credit ratings. Certain NRSROs derive their credit rating revenues solely or predominantly from selling subscriptions to their credit ratings. These NRSROs determine credit ratings that are not paid for by the obligor being rated or by the issuer, underwriter, or sponsor of the security being rated (“subscriber-paid credit ratings”). Generally, NRSROs do not make their subscriber-paid credit ratings publicly available for free.

The Commission believes it is appropriate at this time to adopt a rule that will accomplish much of what the Commission sought to achieve in the proposal, mindful of the many comments about the proposal's potential impact. In addition, in a companion release,40 the Commission is proposing additional means of accomplishing even more of the Commission's objective of providing information to the marketplace in order to gauge the accuracy of ratings over time. Both the rule adopted today and the re-proposal are designed to foster accountability and comparability—and hence, competition—among NRSROs.

40 See Re-proposed Rules for Nationally Recognized Statistical Rating Organizations,Exchange Act Release No. 59343 (February 2, 2009) (“Companion Proposing Release”).

As noted above, NRSROs generally make their issuer-paid credit ratings publicly available for free. Currently, while these rating actions are made public free of charge, it may be difficult to compile the actions and compare them across NRSROs. Therefore, the Commission expects that making this information more accessible will advance the Commission's goal of fostering accountability and comparability among NRSROs with respect to their issuer-paid credit ratings. Furthermore, the Commission notes that issuer-paid credit ratings account for over 98% of the outstanding credit ratings issued by NRSROs, according to information furnished by NRSROs in Form NRSRO. Moreover, seven of the ten registered NRSROs currently maintain 500 or more issuer-paid credit ratings in at least one class of credit ratings for which they are registered. Consequently, applying this rule to issuer-paid ratings should result in a substantial amount of new information for users of credit ratings. It also will allow market observers to begin analyzing the information and developing performance metrics based on it.

The Commission is mindful of the potential impact on NRSROs thatdetermine issuer-paid credit ratings. Therefore, the Commission has taken a number of steps to minimize the impact on NRSROs and enable them to be able to continue to sell downloads and data feeds of their current credit ratings. For example, an NRSRO subject to the disclosure requirement would not be required to disclose a rating action taken with respect to an outstanding credit rating until six months after the action occurs.

In addition, by requiring NRSROs to publicly disclose ratings action histories for a limited percentage of their outstanding issuer-paid credit ratings, market participants, academics and others should still be able to use the information to perform analysis comparing how the NRSROs subject to the disclosure rule perform in the classes of credit ratings for which they are registered. This process will be facilitated by the requirement that the ratings actions data be provided in XBRL format, which will provide a uniform standard format for presenting the information and allow users to dynamically search and analyze the information. This should facilitate the processing of the information and enhance the ability of users to compare information across different NRSROs subject to the disclosure by ratings classes. The Commission believes the random 10% of ratings histories and 500 ratings per class thresholds will result in the disclosure of a sample suitable for performing statistical analyses of NRSRO performance generally with respect to issuer-paid credit ratings.

NRSROs that sell subscriber-paid credit ratings have suggested that requiring all the histories of these ratings to be publicly disclosed could reduce competition by putting them out of business or adversely impacting their business.41 They stated that this would be the case even with a substantial time lag between the date a rating action is taken and the date the action must be publicly disclosed. An NRSRO that determines issuer-paid credit ratings stated that ratings history data has substantial commercial value even after 6 months.42 The Commission wants further input on this issue before deciding on whether the rule should also apply to subscriber-paid credit ratings. As noted above, the Commission, in a separate release, is seeking comment on whether to impose additional means of increasing the amount of information publicly available with respect to the ratings histories of subscriber-paid credit ratings. The Commission wants to carefully balance the commercial and competitive concerns expressed by NRSROs that determine subscriber-paid credit ratings with the Commission's objective of fostering accountability and comparability among all NRSROs. Therefore, in that release, the Commission asks detailed questions about the potential impact of applying the rule to subscriber-paid credit ratings. The responses to those questions will inform the Commission's deliberations as to whether this rule ultimately should be expanded to cover subscriber-paid credit ratings.

41 SeeRealpoint Letter; Rapid Ratings Letter.

42 SeeSP Letter.

The amended rule further provides that the information must be made public on the NRSRO's corporate Internet Web site in XBRL format. The rule provides that in preparing the XBRL disclosure, an NRSRO must use the List of XBRL Tags for NRSROs as specified on the Commission's Web site. In order to allow NRSROs subject to this requirement sufficient time to implement this new disclosure requirement and the Commission time to develop the List of XBRL Tags for NRSROs, the compliance date of the amendment to paragraph (d) is delayed until 180 days after publication in theFederal Register.43

43The Commission notes that the ability of NRSROs to comply with the amended rule depends on the availability of the List of XBRL Tags for NRSROs on the Commission's Web page. If the publication of those materials is delayed, the Commission will consider delaying compliance with the rule.

The Commission is adopting these amendments, in part, under authority to require NRSROs to make and keep for specified periods such records as the Commission prescribes as necessary or appropriate in the public interest, for the protection of investors, or otherwise in furtherance of the purposes of the Exchange Act.44 The Commission believes the new recordkeeping and disclosure requirements are necessary and appropriate in the public interest and for the protection of investors, or otherwise in furtherance of the purposes of the Exchange Act. The internal record of the complete ratings histories of each outstanding credit rating required under new paragraph (a)(8) of Rule 17g-2 will be useful to the Commission in performing its examination and oversight functions. The data could be analyzed to determine if NRSROs are following their own methodologies in their ratings actions and whether additional disclosure is necessary. This could provide valuable information that could be indicative of problems in the ratings process unrelated to the analytical process, such as conflicts of interest. The Commission notes that this recordkeeping requirement applies to all credit ratings regardless of whether they are issuer-paid or subscriber-paid. The disclosure requirements will assist users of credit ratings to compare the relative performance of NRSROs that determine issuer-paid credit ratings. This could enhance competition by making it easier for smaller NRSROs to develop proven track records of determining accurate credit ratings.

44 SeeSection 17(a)(1) of the Exchange Act (15 U.S.C. 78q(a)(1)).

The Commission received numerous comments on the proposed amendments to paragraphs (a)(8) and (d) to Rule 17g-2 as proposed.45 Many commenters expressed support for the proposal, stating that the proposed rule would be a meaningful step in furthering competition in the credit rating industry and could benefit the investor community.46 One commenter suggested that the proposed rule should require the sorting of records by classes of credit ratings and that the six month time lag should be reduced.47 Other commenters suggested either reducing48 or lengthening49 the proposed six month time lag.

45 SeeNappier Letter; ICI Letter; RBDA Letter; RI Letter; Moody's Letter; ABA Business Law Committee Letter; Realpoint Letter; CMSA Letter; DBRS Letter; ABA Letter; Council Letter; SP Letter; Second SIFMA Letter; Pollock Letter; IBFED Letter; Egan Jones Letter; Fitch Letter; ASF Letter; Multiple-Markets Letter; CFA Institute Letter; Rapid Ratings Letter; AFP Letter; Colorado PERA Letter; RI Letter; DBA Letter; NCRC Letter; Citi Letter; Raingeard Letter.

46 See, e.g., AFP Letter; Colorado PERA Letter.

47 SeeSecond SIFMA Letter.

48 SeeMultiple-Markets Letter; CFA Institute Letter; ICI Letter; RBDA Letter; NCRC Letter.

49 SeeRealpoint Letter; SP Letter; Pollock Letter; Multiple-Markets Letter.

One NRSRO supported the proposal but believed the record of ratings histories should be limited to 10 years.50 The Commission notes that in order to make the information more meaningful, users seeking to analyze NRSRO performance should be able to review the entire history of a given rating. Imposing a time limit—and therefore eliminating the ability to compare a current rating against the initial rating—would curtail the usefulness of this information.

50 SeeDBRS Letter.

A number of commenters raised substantial concerns with the proposal.51 For example, NRSROs and others noted that NRSROs that determine subscriber-paid credit ratingsmake the ratings available for a fee.52 These commenters argued that requiring them to make all the ratings publicly available for free—even with a six month time lag—could cause them to lose subscribers.

51 SeeRI Letter; ABA Business Law Committee Letter; DBRS Letter; SP Letter; Fitch Letter; ASF Letter; Multiple-Markets Letter; AFP Letter; Moody's Letter.

52 SeeABA Business Law Committee Letter; Realpoint Letter; Pollock Letter; Egan-Jones Letter; Multiple-Markets Letter; Rapid Ratings Letter; AFP Letter; RI Letter; Moody's Letter.

Commenters also raised concerns that requiring an NRSRO that determines issuer-paid credit ratings to make all ratings actions available free of charge in a machine readable format would cause them to lose revenues they derive from selling downloadable packages of their credit ratings.53 These commenters also questioned whether the requirement would be permitted under the U.S. Constitution, arguing that it could be considered a taking of private property without compensation.54

53 SeeSP Letter; Moody's Letter.

54 SeeSP Letter; Egan-Jones Letter; Fitch Letter; RI Letter;

The Commission is adopting paragraph (a)(8) to Rule 17g-2, the recordkeeping provision, substantially as proposed, but, as noted above, has made substantial changes to paragraph (d), the public disclosure provision. Specifically, rather than disclose the ratings history for each outstanding credit rating, an NRSRO must disclose, in XBRL format and on a six-month delay, ratings action histories for a randomly selected sample of 10% of the outstanding credit ratings for each rating class for which the NRSRO has issued 500 or more ratings paid for by the obligor being rated or by the issuer, underwriter, or sponsor of the security being rated.

The Commission believes that by limiting the ratings actions histories that need to be disclosed to a random selection of 10% of outstanding credit ratings, applying the requirement to issuer-paid credit ratings only, and allowing for a six-month delay before a ratings action is required to be disclosed, the amendment as adopted addresses the concerns among commenters that the rule would cause them to lose revenue. With respect to NRSROs that earn revenues from issuer-paid credit ratings but sell access to packages of the ratings as well, the Commission believes that customers that are willing to pay for full and immediate access to downloadable information for all of an NRSRO's ratings actions are unlikely to reconsider their purchase of that product due to the ability to access ratings histories for 10% of the NRSRO's outstanding issuer-paid credit ratings selected on a random basis and disclosed with a six-month time lag. The 500 ratings threshold and random selection are designed to provide a sufficient sample of data upon which to draw reasonable inferences about the quality of ratings generally issued by NRSROs. The random 10% sample of issuer-paid credit ratings and six month time lag are designed to make it less likely that current purchasers of data about issuer-paid credit ratings could reliably find the information they want, and so NRSROs could continue to sell downloads and data feeds of the credit ratings. As such, the Commission believes that the changes made to the amendment address the commenters' concerns while still facilitating greater accountability for issuer-paid NRSROs, enhanced third-party development of performance measurement statistics for issuer-paid credit ratings, and increased competition among all NRSROs.

The Commission has decided not to impose the same disclosure obligation on subscriber-paid credit ratings at this time out of competitive concerns raised, but is still considering how to make more information publicly available and accessible about the performance of these ratings. The Commission believes that the rule as adopted will address the concerns expressed by commenters and at the same time foster greater accountability of NRSROs with respect to their issuer-paid credit ratings as well as increase competition among NRSROs by making it easier for persons to analyze the actual performance of their credit ratings.

The amendment as adopted also will require that the data be made available in XBRL format, using the List of XBRL Tags for NRSROs as specified on the Commission's Web site. Several NRSROs provided information arguing that an XBRL format could be particularly costly and that the burden on smaller NRSROs could be particularly acute.55 They suggested that if the Commission adopted the rule as proposed, that the Commission allow NRSROs sufficient time to develop the necessary systems to implement the XBRL format or, in the alternative, to implement this required disclosure as a pilot program.56

55 See, e.g., DBRS Letter, Moody's Letter.

56 SeeFitch Letter; DBRS Letter; Multiple-Markers Letter; CFA Institute Letter; ICI Letter; RI Letter; Moody's Letter.

The Commission believes, however, that the XBRL format will benefit market participants seeking to develop their own performance statistics using the ratings history data to be made public by the NRSROs. Requiring NRSROs to make histories of ratings actions for issuer-paid credit ratings publicly available using the interactive data format rather than using other machine readable format will enable market participants, academics and others to analyze this information more quickly, more accurately, and at a lower cost. The Commission believes that this will enhance the ability of end-users to compare the rating performance of different NRSROs, which will foster NRSRO competition.

For purposes of the internal records required by new paragraph (a)(8), the NRSRO will be required to keep its records up to date to reflect the complete ratings history of each outstanding credit rating (including the current rating). However, for purposes of the requirement to make publicly available ratings action histories for a random sample of 10% of outstanding issuer-paid credit ratings in each class of credit rating for which the NRSRO is registered and has 500 or more such credit ratings outstanding, the NRSRO will be permitted to delay disclosure of a rating action for six months. As noted above, this limited disclosure and the six month time lag is expected to mitigate the concerns regarding the loss of revenues that NRSROs derive from selling data feeds and downloadable packages of their current outstanding issuer-paid credit ratings and histories of the ratings.

Because NRSROs withdraw ratings and rated instruments mature, the number of ratings made public in a particular class may fall below the 10% threshold. In order to continue to make a large sample of information publicly available, the Commission is requiring NRSROs to replenish the sample when it falls below 10%. Consequently, paragraph (d) of Rule 17g-2 provides that the NRSRO must replace a rating that rolls off for these reasons with a new randomly selected rating from the impacted class of credit ratings. In order to protect against the possibility of “cherry picking” ratings that may make the performance of the NRSRO more favorable, the Commission believes it is important that both the initial selection and any replenishment of ratings be randomly selected. The Commission is not specifying how the NRSROs must randomly select the initial ratings disclosed under paragraph (d) of Rule 17g-2 or how they must randomly select ratings going forward to maintain the 10% sample. The Commission believes the NRSROs should develop a selection process that they can demonstrate to be random.

Finally, the Commission is adopting amendments to the instructions to Exhibit 1 of Form NRSRO to require thatNRSROs subject to the new requirements of Rule 17g-2(d) as amended disclose the Web address where the XBRL Interactive Data File with the required information can be accessed. The Commission did not receive any comments on this aspect of the proposal and is adopting the requirement with modifications to reflect the modifications to the final rule discussed above. This rule amendment is designed to inform persons who use credit ratings where the sample of ratings histories for each class of issuer-paid credit ratings for which the NRSRO is registered can be obtained.

2. A Record of Material Deviation From Model Output

The Commission proposed amending paragraph (a)(2) of Rule 17g-2 to require NRSROs to make a record documenting the rationale when a final credit rating materially deviates from the rating implied by a quantitative model used in the rating process if the model was a substantial component of the rating process. Under this paragraph, as amended, if a quantitative model was a substantial component in the process of determining the credit rating of a security or money market instrument issued by an