David Einhorn, founder of $5 billion-under-management New
York hedge fund firm Greenlight Capital, has become a familiar
and provocative if often prickly speaker at the
annual Ira W. Sohn Investment Research Conference. The fabled
gathering brings together some of the best investment managers
to support a foundation, named for a Wall Street trader who
died of cancer at 29, that funds treatment for kids with the
In a prescient speech delivered at the conference last year,
Einhorn warned that Lehman Brothers Holdings was overexposed to
toxic assets and urged regulators to force it to recognize
losses and raise capital. They did not. Less than four months
later, Lehman collapsed.
At this years event, in late May, the 40-year-old
Einhorn called on regulators to dismember the
"government-created oligopoly" of credit rating agencies, whose
inflated grades for risky variable- and fixed-rate bonds and
other fixed-rate instruments helped fuel the crisis by allowing
businesses to borrow excessive capital. He bluntly announced
that his firm was shorting Moodys Investors Service,
explaining, "If your product is a stamp of approval where your
highest rating is a curse to those who receive it and shunned
by those who are supposed to use it, you have a problem."
Einhorn recently spoke to Institutional Investor
London Bureau Chief Loch Adamson about the ratings agencies and
their power to stifle any attempt at reform.
1 Why target Moodys?
Einhorn: I felt that talking about a
pure-play American rating firm would be more interesting to the
audience, but I dont believe Moodys ratings are
worse than those of Standard & Poors or Fitch
2 Do you buy Moodys claims that it is taking
steps to manage conflicts of interest and improve the quality
of its ratings?
What else can it say? Rating agencies misbehavior is
at the center of the financial problem, and the Securities and
Exchange Commission showed last year that this was not the
result of innocent mistakes. That said, the basic problems are
structural to the credit rating oligopoly and the issuer-pays
system and cannot be fixed through symbolic internal steps.
3 If triple-A ratings were apportioned more
judiciously, wouldnt the U.S. government be due for a
When giving a triple-A-rated entity too much cheap credit,
there is a risk to lender and borrower alike. Sovereign issuers
are certainly not exempt from that hazard.
4 Given the enormous political interest in
maintaining the status quo, how can regulators fix the rating
Elimination of the rating agency oligopoly and issuer-pays
system is one of the crucial distinctions between claiming a
reform agenda and actually reforming the system. But the
administrations proposal announced on June 17
doesnt eliminate the rating agencies or the issuer-pays
system or break the oligopoly. So it is probably not a good,
5 How would you deal with the problem?
We dont need rating agencies as part of the official
process. The market evaluates credit every day and often
ignores what the rating agencies say, so we could do fine
without them. The situation is analogous to equity research; it
should become an investor-driven process. I can go to Bank of
America today and ask its analysts their opinions about certain
stocks, and theyll either tell me or I can read their
research. If people want to hire rating agencies to help them
assess credit, they can and they should. But I dont think
agencies are needed.