The SEC is Investigating S&P for Insider Trading on the Downgrade

If leaks are found, the credit agency could lose its license

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The SEC is investigating whether there was any insider trading done by employees of Standard & Poor’s ahead of its credit downgrade of the U.S., the Financial Times reported late last week. The SEC’s examination staff, which oversees credit raters, has asked S&P to disclose who within the company knew about the downgrade before it happened. The commision indicated to FT that it is not aware of a leak from someone within the credit agency or an unusual trade. However, Market Watch reports that regulatory observers were calling for an investigation last week because of heavy trading volumes before the downgrade:

Regulatory observers are focusing, partly, on a heavy trading volume and a major sell off of equity securities at one point on Friday, responding to speculation rampant in the markets that S&P was going to downgrade the U.S. debt later that day. S&P did, in fact, lower the U.S. government’s top-tier credit rating late that day a notch to AA+.

The Wall Street Journal also notes that:

Remember, rumors of a post-bell downgrade were rampant on Wall Street very early on Friday, rumors that turned out to be true. It sure sounded like a leak, though the leak could have come from either S&P or Treasury. It seemed inevitable there would be an investigation, though it could be hard to find anything.

What they are looking for, securities law professor John Coffee tells Market Watch, is "significant trading activity such as attempts to short Treasury securities, in the period immediately before the downgrade." But this information would be hard to hard to tie to illegal activity by the S&P. John Jay, analyst at the Aite Group in Boston, told Market Watch that, “When a rumor starts it doesn’t have to begin with a person explicitly whispering somewhere saying this is what we’re doing... Some can argue that S&P had been signaling their thought process a couple weeks prior to the downgrade.” Nonetheless, if any concrete evidence is found against the S&P, unlikely though that may be, based on a 2006 statute -- the Credit Rating Agency Reform Act -- the credit agency could have its license registration revoked if it leaked information before making the downgrade information public.

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