n an op-ed about high-frequency trading in Monday’s Wall Street Journal, former hedge-fund manager Andy Kessler suggests that poor pricing of collateralized debt obligations between 2006 and mid-2008 were a significant reason for the crisis that arose just two years later. On the basis of that bad information, he contends, the market continued to buy these toxic instruments until better models appeared two years later. He concludes that the “financial crisis was mainly driven by the drop in value of mortgages from these last two years.”

Some, like the Financial Crisis Inquiry Commission, may quibble with Kessler’s assessment on the importance of this aspect of the failure, but it’s hard to argue with him about the failure of the market to price such instruments in the heady days of 2006 and 2007. And few entities were more responsible for the mis-pricing of collateralized loan obligations, not to mention mortgage-backed securities and other structured instruments popular at the time, than credit rating agencies. The failure of the Big Three — Moody’s Investors Service, Standard & Poor’s Corp., and Fitch Ratings Inc. — to assess the credit quality of the underlying assets, to gauge the magnitude of potential decline in US real estate values, and to evaluate the manner in which these instruments would perform in such an environment helped delude investors into a false sense of security. Hence the over-pricing of the junk traunch of a portfolio of junk traunches of subprime mortgage pools.

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