Analysts at Morningstar Credit Ratings, a subsidiary of the research and analytics company Morningstar Inc., violated conflict of interest rules by simultaneously marketing products or services for the ratings agency, according to an order filed by the Securities and Exchange Commission. To settle the charges, Morningstar agreed to pay $3.5 million in penalties.
Between the middle of 2015 through September of the following year, the credit rating agency’s director of business development for asset-backed securities encouraged analysts to arrange marketing calls and meetings with potential clients, offer indicative ratings and follow up on these communications in order to entice clients to hire the company to rate their securities. But the SEC’s 2015 Exchange Act Rule outlawed employees involved in determining credit ratings from helping to market products and services for clients.
According to the order, Morningstar also failed to update its policies and procedures to ensure conflicts didn’t arise between analysts and marketing efforts until late 2016.
“Credit rating agencies must be vigilant to prevent potential conflicts of interest between their ratings functions and their sales and marketing activities,” Daniel Michael, chief at the SEC Enforcement Division’s Complex Financial Instruments Unit, said. “As the SEC’s order finds, Morningstar sometimes enlisted its analysts in business development efforts, introducing the exact conflict of interest that the rule is intended to eliminate.”
The credit ratings agency cooperated with the SEC’s investigation and believed the settlement was in the company’s “best interest,”, according to a Morningstar release concerning the settlement.
“There are no allegations that any credit ratings issued by the MCR were affected by the conduct described in the settlement,” the statement read. “MCR takes its regulatory obligations seriously, and the integrity of its credit ratings is of paramount importance.”
Morningstar Credit Ratings, which was formerly known as Realpoint, registered with the SEC as a nationally recognized statistical rating organization in 2008. In addition to asset-backed securities, the company’s business also covers commercial and residential mortgage-backed securities, as well as corporate and financial institution ratings and real estate investment trusts. It’s wholly owned by Chicago-based Morningstar, which offers data and research insight for clients as well as investment management services with about $220 billion in assets under advisement and management.
According to the SEC’s order, Morningstar Credit Ratings’ failure to put policies into place to separate its analytics from marketing led to situations like that in July 2015, when the company’s asset-based securities business development director sent an analyst to an event in a potential client’s office. Subsequently, the director encouraged the analyst to follow up with an email pursuing a meeting to pitch products and services to the company in the hopes of signing them on as a client.
Additionally, analysts understood the directive from the business development director was to entice potential clients, effectively making them salespeople for the credit rating agency’s services while being the people to monitor and assess clients’ credit ratings, according to the commission.
“Senior MCR managers and the ABS analytical staff received regular reports on the status of MCR’s client recruitment efforts, including sales and marketing by ABS analysts,” the SEC order read. “In self-evaluations, ABS analysts touted their business development efforts.”
Morningstar did not agree or deny the charges in the order, but was censured and agreed to update its policies and conduct training in order to avoid instances like those described in the order, according to the commission.
