Securities Regulation Daily Wrap Up, CREDIT RATING AGENCIES—SEC staff monitoring CMBS ratings market, (Feb 20, 2024)
Ratings for commercial properties may be more prominently on regulators’ radar screens as office occupancy rates remain at low levels due to the delayed return to office for many workers following the COVD 19 pandemic.
The SEC’s Office of Credit Ratings recently published its annual Staff Report to Congress in which the office tracks trends in the credit rating market for some of the largest Nationally Recognized Statistical Rating Organizations (NRSROs). From the many data points collected in the report it appears that SEC staff are monitoring commercial real estate markets in light of NRSROs’ large share of ratings on related CMBS. The combination of low office occupancy rates following the COVID 19 pandemic and a more challenging intertest rate environment are factors that could impact CMBS ratings.
“To protect investors, our examinations focus on specific activities of the credit rating agencies to assess whether or not they are compliant with applicable rules and regulations,” said Lori Price, Director of the Office of Credit Ratings, via press release.
According to the report, SEC staff routinely monitor communications with NRSROs while also monitoring news reports, academic research, and government reports on these same entities. One finding by SEC staff, for example, was that “NRSROs reported that they are actively monitoring the potential credit impacts of higher interest rates and soft commercial real estate demand across their rated portfolios, including with regard to CMBS and REITs.”
Elsewhere in the report, SEC staff noted that DBRS observed that CMBS-backed loans had in some instances “suffered” due to the slow return to office. KBRA indicated that it had found that the rising interest rate environment had prompted some CMBS loan delinquencies. Fitch also had noted that a number of factors, including that offices were “located in high vacancy submarkets” influenced whether CMBS received negative ratings actions.
According to data presented in the SEC report, “2021, 2022, and the first half of 2023 the large NRSROs generally held a large percentage of the market shares in rating U.S. CMBS rated transactions.” However, over this same period, smaller firms, such as DBRS and KBRA also had significant market shares.
Whether rising market share or other factors influenced SEC enforcement actions, the report noted several SEC enforcement actions against DBRS and KBRA, although not always for CMBS-specific matters, with the exception of DBRS. Both DBRS and KBRA were the subject of enforcement proceedings announced on the same day in the Fall of 2023.
In the enforcement action against DBRS, the SEC had alleged in settled administrative and cease-and-desist proceedings that the firm adjusted credit enhancement levels in a manner that was inconsistent with its published procedures and methodologies, primarily due to an ineffective internal control structure regarding its published procedures and methodologies. DBRS agreed to a censure and paid a civil money penalty of $2 million for violations of the Exchange Act and related regulations.
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