ESMA has fined Scope Ratings €640,000 for having failed to apply its covered bond rating methodology systematically in 2015 and failed to conduct an update appropriately in 2016. Scope said it has remedied the relevant issues and that its ratings were neither queried nor affected.

The bulk of the fine (€550,000) relates to covered bond ratings assigned in September and November 2015 that did not take into account cover pool analyses, which the European Securities & Markets Authority (ESMA) – which supervises EU credit rating agencies (CRA) – found was inconsistent with the methodology Scope had adopted earlier that year.

For example, when Scope on 23 September 2015 assigned its first covered bond ratings, awarding AAA ratings to the covered bond programmes of 12 issuers (covering 340 issues totalling €220bn) it did not factor in cover pool analyses, but based these on issuer ratings and legal and resolution frameworks. The ratings were unsolicited, based on public information, and the issuers did not participate in the rating process, Scope said at the time.

ESMA said today (Thursday) that Scope’s actions meant that 559 covered bond ratings out of 622 issued under the 2015 publicly-disclosed methodology were not conducted according to the rating agency’s methodology, which made reference to cover pool analysis.

The supervisory authority said Scope’s actions constituted a breach of the Credit Rating Agencies Regulation (CRAR).

“Methodologies must be systematic by design and applied systematically in producing ratings so that investors are protected from arbitrary decisions by a CRA to depart from its public methodology without an objective reason for doing so,” it said. “This is a key condition for ratings to remain sound and reliable.”

The remaining €90,000 of the fine relates to an update to Scope’s methodology involving “material changes” in 2016 where, according to ESMA, the rating agency did not inform it of its plans or consult with stakeholders, which it was obliged to under CRAR.

Furthermore, ESMA found that in relation to both issues Scope did not meet “the special care expected from a CRA as a professional firm in the financial services sector” and hence that the rating agency had committed the infringement negligently and was liable to a fine.

The issues first came to light when ESMA’s supervision department, in 2015, as part of its ongoing supervision of CRAs, started an assessment, among others, of Scope’s rating process and procedures for the review and validation of methodologies, involving requests for information and on-site inspections. ESMA also in 2015 received a complaint from an external stakeholder relating to Scope’s covered bond ratings. Following preliminary investigations, in 2018 the supervisory department concluded infringements may have occurred and referred the matter for further investigation, with ESMA’s board of supervisors making the ultimate finding.

Scope said today that it acknowledges ESMA’s decision and had made provisions for such a fine. It said it has entirely remedied the issues identified by ESMA and reinforced its internal controls regarding the application of the relevant regulations, and that none of its covered bond ratings have been affected as a result.

“ESMA’s decision in no way challenges the accuracy, independence and robustness of Scope’s covered bond ratings that were issued at the time,” said the rating agency. “The fine imposed by ESMA relates to Scope’s actions taken five years ago.

“At the time, Scope had inadvertently taken a different interpretation of relevant parts of EU legislation on credit rating agencies which turned out to be different from ESMA’s. Scope’s interpretation was undertaken in good faith.”

In its response to the fine, Scope said its early recognition of the lesser importance of cover pool quality for highly rated banks under the new EU bail-in regime is now standard across credit rating agencies in Europe.

According to the rating agency, it had the fourth largest European ratings coverage as of December 2019, covering over 100 banks and 39 covered bond programmes.

Around the time Scope assigned the ratings cited by ESMA, some market participants said the rating agency appeared to be seeking critical mass as it made a push in the covered bond market and sought greater recognition, notably from the European Supervisory Authorities (ESAs – the European Banking Authority (EBA), the European Insurance & Occupational Pensions Authority (Eiopa) and ESMA) and the European Central Bank.

Although Scope ratings have gained in this regard, it is not yet accepted by the ECB as an external credit assessment institution (ECAI) – only DBRS Morningstar, Fitch, Moody’s and S&P Global are.

Photo: Scope offices, Berlin