Fidelity Investments

July 25, 2003

Mr. Jonathan G. Katz
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, DC 20549-0609

Re: Concept Release: Rating Agencies and the Use of Credit Ratings under the Federal Securities Laws (Release Nos.33-8236; 34-47972; IC-26066; File No.S7-12-03)

Dear Mr. Katz:

Fidelity Investments1 ("Fidelity") welcomes this opportunity to comment on the SEC Concept Release concerning rating agencies and the use of credit ratings under the federal securities laws (the "Concept Release"). Prior to formulating our response, we reviewed the statements made by stakeholders participating in the recent SEC and Congressional hearings. We also revisited the history of the NRSROs in the federal securities laws generally, and within Rule 2a-7 specifically. In addition, we evaluated the scenarios enumerated in the Concept Release. Throughout, we considered the possible impact not just upon the shareholders for whom Fidelity is an investment manager, but also on the broader markets and investors at large.2

Summary of Fidelity Position

First, Fidelity opposes the removal of the NRSRO designation from Rule 2a-7. We believe that given current market conditions, allowing the industry to solely rely upon a subjective "minimal credit risk" test for purchases within money market funds would not provide sufficient protection to investors. Such a change could lead to significant risk inequality across money market funds and undermine investor expectations as to the relative safety of their investments. Moreover, such a step would not help to prevent or to detect accounting misconduct issues of the type that led Congress to ask the SEC to study the rating agencies.

Second, Fidelity supports the existing SEC standards for designating NRSROs and additionally recommends the SEC more rigorously monitor and review the existing NRSROs on a regular basis and open up such reviews for public comment. Given their special status, NRSROs should also be required as a condition of continued designation to provide more transparency and better information flow.

The Commission Should Not Eliminate the NRSRO Designation

Fidelity believes that the objective credit quality test in 2a-7 as amended currently provides a very meaningful credit quality floor. The alternative, proposed in the Concept Release, to allow the industry to rely upon the subjective "minimal credit risk" standard is not sufficient. What could likely follow in this competitive interest rate environment would be a reaching for yield at the expense of quality. The credit quality of money market funds managed by different investment advisers could vary widely, leading investors to seek out higher returns without fully understanding the consequences of such a decision.

By restricting purchases within money market funds to Tier One and Tier Two instruments, a safety net has been provided to investors at large. Given that the primary purpose of the SEC is to protect investors, and given the relative success of this rule, removing such a useful investor protection would seem to provide more harm than good. And while we are aware of some of the arguments for removing the NRSRO designation, we believe that none of them outweigh the usefulness of its existence in the rule. Our thoughts on some of these arguments are as follows:

  • Many point to the fact that the rating agencies have in some instances downgraded issuers just days before bankruptcy filings as an argument for deregulation. Enron is often cited as an example. Yet, it is also useful to take those same examples and ask whether the elimination of the designation would have made a positive difference. The answer is no. Without the floor, there could have been wide-scale exposure by money market funds to those issuers.

  • Others contend that the designation should be removed because it provides a false sense of safety, since agency ratings provide no guarantee. While such a statement is true, it is a curious argument to make in support of the subjective test. If the subjective test is in fact strong enough to function on its own, then the current shortcomings should have no impact. To use the imperfection argument is illogical.

  • Another claim is that the designation causes concentration of power in the hands of a few rating agencies. Would removing the designation from the rule change that? It is not clear. It is possible that large institutional investors would insist upon certain objective standards for money market funds in which they invest. This could lead to entrenchment of specific agencies now participating in the market. Moreover, there are other ways to encourage participation by additional agencies by establishing a more clear designation process. Finally, it is the role of the SEC to protect investors. Toward this end, it is reasonable to require standards that may create some level of entry barriers, but which on balance protect the interests of the investing public.


Fidelity supports the standards currently used by the SEC, in the no-action letter process, to assess whether a credit rating agency should be deemed an NRSRO. The SEC articulated these standards in its report to Congress in January of this year:

    "The single most important factor in the Commission staff's assessment of NRSRO status is whether the rating agency is 'nationally recognized' in the United States as an issuer of credible and reliable ratings by the predominant users of securities ratings. The staff also reviews the operational capability and reliability of each rating organization. Including within this assessment are: (1) the organizational structure of the rating organization; (2) the rating organization's financial resources (to determine, among other things, whether it is able to operate independently of economic pressures or control from the companies it rates); (3) the size and quality of the rating organization's staff (to determine if the entity is capable of thoroughly and competently evaluating an issuer's credit); (4) the rating organization's independence from the companies it rates; (5) the rating organization's rating procedures (to determine whether it has systematic procedures designed to produce credible and accurate ratings; and (6) whether the rating organization has internal procedures to prevent the misuse of nonpublic information and whether those procedures are followed." 3

While we see little need to change the standards themselves, we do believe there is a great need to improve the method by which the SEC enforces them. The SEC has indicated that it does not "formally evaluate the ongoing performance of NRSROs".

Rather, the SEC [has] "regular informal meetings with each NRSRO to discuss business, industry and regulatory developments."4

We believe more rigor and formality is needed. Indeed, the SEC should condition maintenance of the NRSRO status upon a biennial or triennial examination and re-certification. Additionally, the SEC should establish a clearly defined recognition process for obtaining the NRSRO designation. Such process should replace the current no-action letter method and require Commission action. We express no opinion as to whether the SEC chooses to require registration as Investment Advisers by NRSROs or relies upon another pathway to obtaining oversight.

Specifically, as part of the re-certification process (and the initial designation), we recommend that each NRSRO:

  • Comply with standards based on existing no-action letter recognition criteria (as listed above);

  • File an application attesting to compliance with all then-current SEC standards,

  • Be subject to a periodic on-site examination process in order to maintain certification;

  • Be subject to public scrutiny through a comment process in which the SEC would seek the views of investors;

  • Be recognized by the market to have a proven track record of quality analysis and clear communications;

  • Demonstrate access to issuer senior management;

  • Publish (and keep current) their methodology for assigning and reviewing ratings, including specifics by industry, asset classes and structure types;

  • Publish ratings that contain a "freshness stamp" identifying the date of the most recent meeting with issuer management, whether such meeting was at the issuer's headquarters or elsewhere, and the date that the rating was most recently reviewed by a rating committee. Given the potential for market reaction around this information it may need to be disclosed at the end of each quarter; and

  • Disclose those lines of business that could potentially create bias. With numerous recent lessons about the undesirable outcomes of conflicts of interests within the accounting and investment banking professions, if rating agencies seek out additional business opportunities from issuers that they are meant to evaluate without bias, this should be disclosed to those who rely upon their credit ratings.


We recognize the challenge before the SEC as it attempts to fulfill the Congressional mandate and make a decision along a spectrum of choices from abandonment of the NRSRO designation to wide-scale regulatory overhaul. However, we believe that the best decision can be made if the questions about where to go from here are viewed from where we actually stand at this time.

Rule 2a-7, as amended, works. As such, we oppose the removal of the NRSRO designation from Rule 2a-7. To remove the credit quality floor protection of the NRSRO rating framework would be to reverse the positive steps taken to protect investors. In addition, with regard to regulating the NRSROs, the SEC has already announced reasonable standards of designation for NRSROs. What is needed from here is a more rigorous and frequent examination process by the SEC with the opportunity for public comment as to whether the NRSROs are complying with the standards set forth above. Additional requirements include more transparency, better information flow and limitations on ancillary business activities.

We appreciate the opportunity to comment on the Concept Release. Please contact me at (603) 791-7748 should you have any questions concerning the Fidelity position.

Sincerely yours,

Steven C. Nelson
Director of Taxable Money Market Research
Fidelity Investments Money Management, Inc.


1 Through its fixed income division, Fidelity manages approximately $370 billion in bond, money market and other fixed income accounts, of which approximately $200 billion is invested in money market mutual funds.

2 More than $3.3 trillion is invested in fixed income mutual funds, with approximately $2 trillion of that amount invested in money market mutual funds according to a 2003 Investment Company Institute study. As of 2002, approximately 46 million individuals in the United States owned money market funds according to an Investment Company Institute study.

3 See the Report on the Role and Function of Credit Rating Agencies in the Operation of the Securities Markets, As Required by Section 702(b) of the Sarbanes-Oxley Act of 2002, U.S. Securities and Exchange Commission, January 2003, page 9.

4 See Memorandum from Annette L. Nazareth, Director, Division of Market Regulation, SEC, to William H. Donaldson, Chairman SEC (June 4, 2003), p. 11.