From the FT: [CPDO rating error] CPDOs’ triple A failure The FT’s investigation into Moody’s rating of CPDO has shown that: * Moodys made an error in its mathematical code used to assign a rating to CPDOs. The error was discovered in early 2007, but it appears that investors in the bonds and clients were not informed. * Several CPDOs produced by ABN Amro had already been rated, and many more - from a whole range of other banks - were in the pipeline. Moody’s put the rating of these nascent CPDOs on hold. * Discussions on what to do about the error were led by some of the most senior staff in Moody’s European structured finance business. Although the CPDO rating committee, comprising senior staff and analysts, discussed the coding error, it does not appear to have discussed whether the issue should be - or was - disclosed to clients or investors. * The committee did discuss “methodological changes” which were implemented simultaneously with the code correction. * Documents show that three methodological changes were proposed, but only two were adopted. The third was ditched because it “did not help the rating.” Of the two changes which were made, the document states: “the impact of our code issue after those improvements is then reduced.” * After the changes were made, Moody’s resumed the rating of CPDOs, and continued to award triple A ratings to CPDOs. ________________ Full story here: http://ftalphaville.ft.com/blog/2008/05/21/13198/ft-alphaville-exclusive-moodys-error-gavetopratings-todebtproducts/ ___________________ Litigation?
CPDO’s were a debacle all along. If you were buying CPDO’s, you were buying modelling risk. Modelling risk not only includes the risk that the model is wrong but that the model is implemented wrong. I think litigation that said “well we believed your stochastic interest rate model, believed your calibration of it from past data, believed your assumptions about [everything] going forward, but we are really honked off that you made a programming error in deriving all that” is really silly. Now not telling people when you discovered the error is another issue. I always tell people when I correct a bug. Even if the effect is huge, people almost always just shrug and say thanks.
JoeyDVivre Wrote: ------------------------------------------------------- > Now not telling people when you discovered the > error is another issue. I always tell people when > I correct a bug. Even if the effect is huge, > people almost always just shrug and say thanks. That’s where the litigation comes in. People will say “When you discovered you used daily rather than monthly volatility [I think this was the issue], instead of coming clean, you changed your methodology [putting a vol cap in the model] to maintain the AAA rating and prayed. Your gamble didn’t pay off - now you pay.” Edit: Further thoughts. Seeing as S&P also rated these AAA, do you think that Fitch just hired the bloke who designed the model from S&P, and he brought the spreadsheet with him? Is this a justification for CFAI standards that say you shouldn’t take anything from your old employer, you have to start from scratch?
chrismaths Wrote: ------------------------------------------------------- > JoeyDVivre Wrote: > -------------------------------------------------- > ----- > > > Now not telling people when you discovered the > > error is another issue. I always tell people > when > > I correct a bug. Even if the effect is huge, > > people almost always just shrug and say thanks. > > That’s where the litigation comes in. People will > say “When you discovered you used daily rather > than monthly volatility , instead of coming clean, > you changed your methodology to maintain the AAA > rating and prayed. Your gamble didn’t pay off - > now you pay.” > > Edit: Further thoughts. Seeing as S&P also rated > these AAA, do you think that Fitch just hired the > bloke who designed the model from S&P, and he > brought the spreadsheet with him? That would be a Uniform Trade Secrets Act violation (adopted by most states) as well as potentially a Federal issue. S&P would be all over Fitch. > Is this a justification for CFAI standards that > say you shouldn’t take anything from your old > employer, you have to start from scratch? Not really because it’s covered under 1a.
So if Moody’s did incorrectly rate these securities as ‘Aaa’ becuase of a computer bug, then what is S&P and Fitch’s excuse for rating these same securities ‘AAA’?
Their models are more robust to issues like volatility and credit spread issues.
People should stop listening to those dumbarses at S&P and Moodys. What a joke.
OK, I always had an issue with the idea that “well, the credit is AAA because those guys all say it is.” Except that I don’t want to be bothered to build my own model and come up with the data on $4T worth of debt securities. So, yeah, we should stop listening to those dumbarses at S&P and Moodys, but what do we do instead? Not everyone is going to come up with their own proprietary model.
No one puts a gun to your head and says you have to own CPDOs or whatever they’re called. There’s no need to model $4T worth of debt unless you’re selling it (Which happens to be what they do!!!). I’ve been buying bonds from my broker without any models. I just look at the yield, the prospectus, then I look at municipality’s finances and I make a decision. If it’s too complicated then I put it in the “too complicated bin” (aka trash) just like Warren Buffett and the other zillionaires who made it through this debacle completely unscathed. BTW, i just added up my returns for this year and I’m at +7.2%. That’s including the cashpile that has been earning next to nothing. If you separate cash then the return would be double. Last year when this whole thing started something happened to my daughter’s account that was quite remarkable (statistically!). She owned only 2 stocks. Both had mounds of cash and no debt. They had just raised it through an equity offering. Both were in unrelated businesses (as unrelated as you can possible conceive). BOTH had their cashpiles frozen because they were holding it in a money market security product that was statistically as good as cash. I read some reports from the Canadian bond rating agency that blessed this debt as “cash-like”… they were clueless as to what the debt was! They simply relied on market pricing models. All the models inputs were was the history of the price of the security. THAT IS A JOKE… and that’s the kind of stuff that passes accountants’ audits and sells on wall street. It is unbelievable but true.
bchadwick Wrote: ------------------------------------------------------- > > So, yeah, we should stop listening to those > dumbarses at S&P and Moodys, but what do we do > instead? It’s very simple. You should listen to Joey who on 5/21/2007 posted on AF: " these CPDO’s are really scary. The AAA thing is absolute hog-wash. These things violate Joey’s #1 rule of risk management - if the portfolio is losing money it needs to be delevering. These products are just gaming the ratings agencies - I can come up with all kinds of scenarios in which AAA CPDO’s go bust. They are mostly bizarre scenarios but the problem is that all these CPDO’s go bust when the scenario happens. The situation in which a AAA corporate goes to default quickly is roughly as bizarre but nothing happens to the rest of the world. These things have gotten AAA ratings in a very devious way. If CFAI spent its time doing something productive, it would come out with a position that lots of CPDO’s would be very dangerous and there is no AAA structure that can give you +100 bp or more better than some AAA bond index without taking on some kind of risk. In this case, the risk is something like structural change risk that takes down all of them. Amazing that CFAI spends so much time worrying about the “integrity of capital markets” and then lets this run"
Good job Joey. Nice call. You should’ve banged the table and told us how to short them.
Nice call Joey… You’ll be getting more questions from me then! You’ll be my new moody guy! I guess the other golden investing rule is “don’t invest in something you don’t understand.” I would have stayed away from CPDOs just for that reason… though I admit, this stuff can get into other things that you think you understand, like a regular company’s balance sheet.