Moody's (MCO)

Right now, the government is busy rescuing the economy (read: banks), afterwards, they will turn to regulation. There are two sides to this:

(1) The government may find it best to REDUCE competition in the market to promote independence (e.g. no "shopping around" for ratings). This would be a highly favorable outcome for Moody's. The problem is, it doesn't look like punishment. The ratings agencies failed miserably in blocking the foolish financial behavior that got the US and world economies to this point. I don't know that the political will exists for this solution anymore.

(2) The government may do something radical. They may ban the issuer-pays model, forcing Moody's to return to the investor-pays model of the pre-70's period (note: they weren't growing anywhere near as much before 1980 or so). I find it hard to believe that ratings themselves would disappear, but (worst case scenario) the government may choose ban private debt ratings and instead to create a regulatory authority that rates debt -- sending Moody's and S&P to, effectively, zero (a low-probability worst-case scenario).

The question is, are you willing to risk the potential losses of outcome #2 in order to get the potential gains of outcome #1?

Rating agencies have to be "on Wall Street but not of Wall Street." The pressure of the subprime market was to play along with the small cast of investment banks that originated the deals, controlled the data on those deals, and chose the ratings. Recent developments (MER bought by BAC, Lehman and Bear Stearns exiting) make that problem even worse. If that trend continues, it'll be that much harder for agencies to be independent, and ultimately, their value proposition is that they are independent of the investment decision.

While dominant, Moody's faces legislative pressure that seeks to destroy this dominance and foster greater competition, combined with technological changes that lower the barriers to entry into the business while leaving the larger firms with hard-to-reduce cost structures.

Moody's business, in the face of greater complexity, may be unable to consistently provide reliable ratings, and even one major mis-rating could lead to a significant decline in customer trust. Moody's is currently under a bit of fire given the recent subprime mortgage worries and the company's failure to catch a large part of the credit risk of a number of mortgage backed securities; and the previously successful business model of issuer-paid ratings is under significant regulatory, legal and supervisory scrutiny.

Implosion of credit-sensitive markets (RMBS, SIVs, leveraged loans) suggests to many investors, regulators and others that ratings are of low information content.