[NEW YORK] US regulators have largely failed to loosen the grip that the big three credit rating agencies have on the bond rating business, even after reforms put in place in the wake of the last financial crisis.
Moody's Investors Service, S&P Global Ratings and Fitch Ratings dominate the market, and post-crisis legislation aimed at cutting the reliance on them has been ineffective, market participants told International Financing Review (IFR).
Even before the crash, the Securities and Exchange Commission started expanding the list of officially approved rating agencies from the big three in 2003 to 10 at present.
That gave hope to some of the smaller firms - such as DBRS and Kroll Bond Rating Agency - that they would be able to win a bigger chunk of the ratings business.
But by the end of 2014, the big three accounted for roughly 2.3 million of the 2.42 million credit ratings outstanding, according to an SEC report published in December.
They also employed more than 4,000 analysts, the report said, or more than 88 per cent of the total working for all 10 companies.
"As a smaller agency trying to win a share of the business, we don't expect the cavalry to arrive and help us," DBRS chief executive officer Daniel Curry told IFR.
"It is a gradual process of converting people, and it will take a very long time."
One reason, market participants say, is that many investors remain wedded to the idea that a rating from the big three is an assurance of quality.
"A broker calls you up and says: Do you want to buy this bond?" one prominent fixed-income investor told IFR.
"You say: What's the rating? He says: S&P, Double A, you say sure. He says: XYZ firm, Double A - the conversation is different."
That confidence sometimes seems unshakable, even after the agencies come under fire.
Moody's, for example, was widely criticized after stripping 19 energy companies of their investment-grade ratings in February and March as oil prices were collapsing.
The downgrades, some as many as five rating notches, added fuel to a sell-off that caused many investors to suffer big losses in their portfolios.
Many market participants thought the agency was overreacting to the oil price swing without accounting for the ultimate ability of the companies to weather the storm.
The companies' bonds, after declining in price on the downgrade decision, traded back up as oil prices started to recover.
Moreover, Moody's has been reported to be under investigation by the US Department of Justice over its handling of mortgage bonds in the run-up to the last crash.
S&P and its parent company McGraw-Hill Financial settled a similar case with the DoJ last year without admitting allegations that it defrauded investors, paying a whopping US$1.375 billion.
Yet the status of both companies in the ratings business hardly seems to have been dented.
"We still have faith in the starting point of a (rating from) Moody's S&P," one investor said.
S&P and Moody's declined to comment on competition in the ratings market, but both said ratings should be used as only one of many inputs in investor decision-making.
Mark Oline, Fitch's global head of business and relationship management, stressed that his company provided plenty of detail on companies that goes far beyond simple credit ratings.
"If an analyst at a big institutional investor is covering 100 credits, they need someone they can turn to for quick answers," he said. "We want to be those people."
Legislation aimed at reducing reliance on ratings also appears to have had little effect on investor behavior.
Part of the Dodd-Frank Act, enacted following the 2008-2009 financial crisis, ordered federal agencies to remove any requirement for - or even mention of - credit ratings in their rules for investments, such as those governing banks.
The move was intended to "encourage investors to view credit ratings in a more appropriate manner, merely one input in making an investment decision", Michael Piwowar, an SEC commissioner, told an industry conference in March.
But market participants and analysts say this simply has not worked.
"There were two mistakes by the government, in my opinion," said Alex Pollock, a senior fellow at Washington public policy research organization R Street Institute.
"Requiring the use of credit ratings and then moving to the opposite extreme in Dodd-Frank, telling that they can't rely on credit ratings," he told IFR.
"The point should be to achieve a market where you are not forced to use them, but you are also not forbidden to use them."
Many of the smaller agencies say they see signs the tide is starting to turn somewhat, and that they are carving out business with more in-depth research and faster client service.
The companies are in particular making inroads in certain asset classes such as commercial mortgage-backed securities and other sectors of the securitization business.
"Our focus is to fill up gaps left by the big agencies, like having more senior people doing the rating work for us," said Mr Curry at DBRS.