Ratings Firms provide a "santa claus" story; commercial real estate next to collapse

Dear Mr. Berko: Our investment club has three questions: First, how is it that Standard & Poor's can give Fannie Mae an A rating, and four weeks later it declares bankruptcy? Second, what is the next big concern in the stock market? Could it be a possible rise in the cost of oil, a huge federal deficit, or higher taxes? What do you anticipate? Third, all of us are older than 74, and all of us take a required withdrawal from our independent retirement accounts. In my case, I must withdraw $9,700 this year. But I have huge losses in DuPont, Bank of America and closed-end funds too numerous to mention. One of our members said moving shares to another account could do it, and he thinks his brother did it in 2007. Can you explain this to us, because many of us would like to know how that works. It doesn't make sense to sell so many good stocks that we paid higher prices for years ago when they are so low today. We think that is criminal. We all look forward to hearing from you.

-- S.R., Columbus, Ohio

Dear S.R.: Several months ago, I asked an old college semi-chum, who retired six years ago as a low-level big shot executive at one of the world's influential rating agencies the following question: "How can Standard & Poor's, Moody's or Fitch assign an A or AA rating to a bond or preferred stock and a month later watch it go bankrupt? Are you the guys on the take?"

My retired semi-chum told me that Standard & Poor's, Moody's and other rating services are paid huge, handsome fees by the companies they rate. If they fail to give a paying customer a good rating, the likelihood is that the company will solicit a competitor. I quote: "We are in a very competitive business, and on occasion, when it's necessary, we can inflate a company's rating, just like our school system inflates student grades or appraisers inflate the value of a home."

These rating companies are in business to make money and perform a service for investors. Hopefully, they should be able to do both so the investor prospers, too. However, if it's a choice between making money or performing a good service to investors -- think about today's politicians and corporate officers -- I think they'd chose the former, and make the buck! Some psychologists suggest that lying to hundreds of millions of children every year about Santa Claus to achieve a favorable behavior outcome is a good training ground for children to learn to lie to the public 30 or 40 years later.
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The next stock market concern is the near certain collapse of the commercial real estate bubble. Huge companies like Sears Holdings Corp., Office Depot Inc., Starbucks Corp, The Home Depot Inc., Circuit City Stores Inc., Sprint Nextel Corp., and Chicago Title are vacating their leases and branch banks are closing their windows. Small, neighborhood strip centers are losing tenants and vacancy signs are sprouting like weeds. Commercial vacancy rates in New York City are expected to exceed 18 percent in 2009, Dallas expects 22 percent, Metropolitan Chicago 18 percent, Atlanta expects 20 percent, and Phoenix expects commercial vacancy rates to exceed 21 percent. Foreclosures last year were up 30 percent from 2007, and that number is expected to move higher this year. Huge, debt-laden shopping mall developers like General Growth Properties can't meet their loan obligations and many smaller, well-known developers like Florida's Sembler & Co. are holding a fraying rope.

Many of the large commercial real estate investment trusts are foundering, and others could founder. Banks are reluctant to extend loan agreements because property values are significantly lower than loan amounts. Cash flows cannot meet mortgage payments. The only solution is twofold: The lenders must take equity interests in the properties in lieu of some payments, or borrowers must enter Chapter 11 bankruptcy proceedings.
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The system, which is flawed, hurt you, and there's no recourse. I remember what the late Sen. Daniel Patrick Moynihan, D-N.Y., once told me: "Most members of Congress, most lawyers and most big shots on Wall Street are crooks and liars until proven otherwise."

Please address your financial questions to Malcolm Berko, P.O. Box 1416, Boca Raton, FL 33429 or e-mail him at malber@comcast.net.