Securities and Futures Commission has spun out of control in the Moody’s Red Flags case; China was selected for the first market in which this system would be employed and the results showed a forest of red flags

Securities and Futures Commission has spun out of control

Sunday, 04 January, 2015, 6:53am

Jake van der Kamp

A markets tribunal has overturned a request by Moody’s Investors Services for privacy in its appeal against a Securities and Futures Commission’s decision to fine the ratings agency HK$23 million.

SCMP Business, January 2

I just don’t understand these people at Moody’s. Here they were four years ago still facing awkward questions about whether they foresaw the 2008 financial crisis or were any better than the market itself in rating risk and they decided to come up with a new ratings tool.

They called it the “Red Flags” framework, a way of assessing fixed income risk in emerging markets. Red flags would be posted according to set rules for five critical areas in which corporate affairs could go wrong. Count the number of flags and you get a workable debt rating.China was selected for the first market in which this system would be employed and the results showed a forest of red flags.

“Although we rate China’s sovereign credit at Aa3 with a positive outlook, 80 per cent of rated companies with predominantly Chinese operations fall below investment grade,” the report said.

What is more, these red flags appear to have spoken truth. Since publication in July 2011 a number of the heavily flagged companies have crashed, most notably Kaisa Group Holdings, which was in the news last week with what sounded very like a death rattle. Good job, Moody’s.

But the SFC came to the view that this breached some or other code of conduct. It published a public reprimand and fined Moody’s HK$23 million. Why 23? Hmmm … does anyone have a coin I can flip?

Moody’s appealed to the Securities and Futures Appeal Tribunal and asked for the proceedings to be held in private. The request was turned down on Thursday.

And this is where I just do not understand Moody’s thinking. Whenever I had a good one that panned out in my previous career as an investment analyst, I could never get enough public praise to satisfy me. Lay it on heavy, folks, tell the world what a star I am.

But here is Moody’s with a golden opportunity to get just that kind of publicity and it doesn’t want the world to know. I just don’t get it.

Even more, I don’t understand the SFC’s thinking. Is it out to challenge Article 27 of the Basic Law, which protects freedom of speech? What possible benefit can Hong Kong derive from discouraging discussion of investment prospects?

I could understand an action of this kind if the SFC had solid evidence that Moody’s had deliberately falsified its findings in order to make money from a falling market but in this case the proper course would have been to bring criminal proceedings for fraud.

The route of market misconduct, however, which the SFC actually took, rules out criminal penalties (no jail) but also requires proof only at the standard of probability rather than beyond reasonable doubt. In my view it is a coward’s way of making what are essentially still criminal accusations.

If these red-flagged companies were truly libelled they had several other routes open to them. They could immediately have rebutted the accusations in filings with the stock exchange (in fact, they are now required by law to do so) and have brought libel proceedings against Moody’s.

Even better, they could have bought in bucket loads of their stock on the market when their share prices tanked, in full confidence that prices would soon bounce back. That would have been my way. File your denial and then fill your boots. Thank you, Moody’s, for getting it wrong.

I am not saying Moody’s report could not have contained errors or conclusions that later proved wrong. I am sure that in some areas it did. I have never seen an investment report that later proved incontrovertibly right on every point.

But unless fraud is now alleged, and it has not yet been, what we have here is a serious invasion of civil liberties by a government agency. It can only do our good reputation great harm across the world.

I have said it before and I say it again. Our Securities and Futures Commission has spun out of control.


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