S.&P. Responds to Mortgage Ratings Case

Standard & Poor’s, accused of inflating its ratings to win business during the boom in mortgage investments, urged a judge on Monday to dismiss the federal government’s civil case against it, saying the Justice Department had built a faulty complaint on “isolated snippets” of conversation rather than evidence of real wrongdoing.

The ratings agency, the United States’ largest, was responding to fraud accusations filed in February in the first significant federal action against the ratings industry since the mortgage bubble burst. The Justice Department’s lawsuit accused S.&P. of knowingly giving complex packages of mortgages higher ratings than they deserved, stoking investor demand for the securities and driving up prices to where they crashed, setting off the global financial crisis.

“From start to finish, the complaint overreaches in targeting S.&P.,” the firm’s lawyers said in a brief filed in United States District Court for the Central District of California, in Los Angeles.

“S.&P.’s inability, together with the Federal Reserve, Treasury, and other market participants, to predict the extent of the most catastrophic meltdown since the Great Depression, reveals a lack of prescience, but not fraud,” the brief said. To have a valid case, the Justice Department would have had to demonstrate that Standard & Poor’s knew what the correct ratings should have been, it said, and it had not done so.

S.&P. is seeking to persuade Judge David O. Carter that the Justice Department does not have a case at all, and is not asking him consider the merits and rule on them. If Judge Carter rules against S.&P., the case will keep moving forward. A hearing is scheduled for May 20.

Separately, S.&P. has been seeking to have more than a dozen similar fraud complaints, filed in state courts by state attorneys general, moved into federal court and combined for pretrial purposes. The states are generally suing under their own state consumer protection statutes. The federal case, accusing fraud, would have a higher standard of proof.

The Justice Department had not yet issued a response.

Much of the Justice Department’s 128-page complaint deals with the fact that S.&P. promoted its ratings as “objective, independent,” and “uninfluenced by any conflicts of interest,” among other desirable qualities. The federal government then describes numerous messages and conversations among ratings analysts that suggest a lack of objectivity or independent thinking. The conversations took place between 2004 and 2006, and the Justice Department uses them to make its argument that Standard & Poor’s knew its ratings were false at the time that it issued them.

In its brief, S.&P. states that these “snippets” of conversation are devoid of meaning under the laws that govern fraud. It says that its many claims of objectivity, independence and “analytic excellence at all times” add up to “classic puffery,” the vague and overblown language that businesses often use to describe themselves as “the best,” even when no one has agreed on which product or service is best. S.&P. cited other cases in which such claims were found to be “non-actionable,” and said puffery was “too general to serve as the basis for a fraud claim.”

If Judge Carter rules in S.&P.’s favor on these boasts, the firm’s lawyers hope that all the damaging conversational snippets will also be thrown out. That would leave the final section of the Justice Department’s complaint, which lists 33 individual securities, called C.D.O.’s, or collateralized debt obligations, which were rated by S.&P. from March to October 2007.

The C.D.O.’s had been created by investment bankers by combining and rearranging other securities, which were composed, in turn, of many residential mortgages, including some that were classified as subprime.

The Justice Department noted that in the spring and summer of 2007, many subprime mortgages from certain years â€" known as vintages â€" had begun to have delinquencies; it also said the 33 C.D.O.’s in question contained mortgages from those vintages. It said S.&P. “deceived financial institutions that invested in these C.D.O.’s into believing that S.&P.’s ratings reflected its true current opinion regarding the credit risks of these C.D.O.’s, when in fact they did not,” Justice said in its complaint. It said the financial institutions lost more than $5 billion on the 33 C.D.O.’s.

But S.&P. argued in its brief that to have a valid claim of fraud, the Justice Department had to show how the particular residential-mortgage securities within the C.D.O.’s should have affected the ratings, and it did not do so.

“This failure is fatal to the government’s fraud claims,” the agency said in its brief.