Warren Buffett's comments on Moody's

The following is an excerpt from Hedgeye e-mail, titled "EARLY LOOK: TRIPLE-A USA".

Never before has the US portfolio patriarch, Warren Buffett, been forced to answer questions about his market positioning against his own will.

If any of us Buffett fans thought the man was going to be forthright and transparent about what it is that the ratings agencies actually do, we should think again. I felt like I was listening to a professional politician when Buffett excused Moody's by suggesting that they simply "made a mistake that 300 million other Americans made."

We get what Buffett gets - politicians created and perpetuated a ratings system that could be gamed. What Buffett is really doing is playing the game that's in front of him. Current conflicts, compromises, and constrains aside, his mandate is to make money - not to make you believe how he is making money is "right."

To contextualize Buffett's aforementioned quote about whether or not the states of America should be rated AAA, let's take a quick step back and understand where this designated ratings system of Perceived Wisdom comes from.

In 1909 a gentleman by the name of John Moody (who is currently rolling in his grave) started selling independent research like Hedgeye's (he was paid by subscription, not by the issuers of bonds he was rating). Over the course of time, independent research became a profitable business and it, predictably, found competition with firms like Poor's Publishing.

By the time the 1970s rolled around and the USA was newly minted with its endowment of the world's reserve currency (1971), the SEC "decided to penalize brokers for holding bonds that were less than investment grade. The SEC then faced the question of investment grade according to whom? The agency decided to create a new category of officially designated ratings agencies and grandfathered the big three - S&P, Moody's, and Fitch." (Roger Lowenstein, The End of Wall Street, page 39).

This, of course, created the kind of business that I, the Saudis, and Warren Buffett love - cartels who have a lock on supply and pricing via government mandate. All you needed to make this the "bubble that none of us saw coming" (Buffett) was more and more government intervention and price supports. Enter Greenspan and some moneys from the heavens and you can all of a sudden see how, from 2002 to 2006, that a conflicted firm like Moody's saw profits triple and MCO stock go to $74/share.

"Given the agencies profits were soaring it paid for them to stay on good terms with Wall Street. Moreover, when Lehman took a mortgage pool to Moody's, it paid the fee only if it was pleased with the rating." (Lowenstein, The End of Wall Street, page 41).

Sure, even though some of us actually did see this coming... Mr. Buffett, with all due respect, maybe it was because we weren't being paid to be willfully blind to the problems, in principle, that are obvious here...

So, after another great low-volume rally to lower-highs in the US stock market yesterday - fully trusting in the good faith of the USA's Triple-A rating, we should chase stocks higher here on the open, right? C'mon. Let's get serious here folks. This time there will be no finger pointing at 300 million Americans. No one will be allowed to say they didn't see this US Sovereign Debt crisis coming with a straight face.