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THE CDO MACHINE 

In late , Moody’s would throw out its key CDO assumptions and replace them
with an asset correlation assumption two to three times higher than used before
the crisis. 
In retrospect, it is clear that the agencies’ CDO models made two key mistakes.
First, they assumed that securitizers could create safer financial products by diversi-
fying among many mortgage-backed securities, when in fact these securities weren’t
that different to begin with. “There were a lot of things [the credit rating agencies]
did wrong,” Federal Reserve Chairman Ben Bernanke told the FCIC. “They did not
take into account the appropriate correlation between [and] across the categories of
mortgages.” 
Second, the agencies based their CDO ratings on ratings they themselves had as-
signed on the underlying collateral. “The danger with CDOs is when they are based
on structured finance ratings,” Ann Rutledge, a structured finance expert, told the
FCIC. “Ratings are not predictive of future defaults; they only describe a ratings man-
agement process, and a mean and static expectation of security loss.” 
Of course, rating CDOs was a profitable business for the rating agencies. Includ-
ing all types of CDOs—not just those that were mortgage-related—Moody’s rated
 deals in ,  in ,  in , and  in ; the value of those deals
rose from  billion in  to  billion in ,  billion in , and 
billion in .  The reported revenues of Moody’s Investors Service from struc-
tured products—which included mortgage-backed securities and CDOs—grew from
 million in , or  of Moody’s Corporation’s revenues, to  million in
 or  of overall corporate revenue. The rating of asset-backed CDOs alone
contributed more than  of the revenue from structured finance.  The boom
years of structured finance coincided with a company-wide surge in revenue and
profits. From  to , the corporation’s revenues surged from  million to
 billion and its profit margin climbed from  to .
Yet the increase in the CDO group’s workload and revenue was not paralleled by a
staffing increase. “We were under-resourced, you know, we were always playing
catch-up,” Witt said.  Moody’s “penny-pinching” and “stingy” management was re-
luctant to pay up for experienced employees. “The problem of recruiting and retain-
ing good staff was insoluble. Investment banks often hired away our best people. As
far as I can remember, we were never allocated funds to make counter offers,” Witt
said. “We had almost no ability to do meaningful research.”  Eric Kolchinsky, a for-
mer team managing director at Moody’s, told the FCIC that from  to , the
increase in the number of deals rated was “huge . . . but our personnel did not go up
accordingly.” By , Kolchinsky recalled, “My role as a team leader was crisis man-
agement. Each deal was a crisis.”  When personnel worked to create a new method-
ology, Witt said, “We had to kind of do it in our spare time.” 
The agencies worked closely with CDO underwriters and managers as each new
CDO was devised. And the rating agencies now relied for a substantial amount of
their revenues on a small number of players. Citigroup and Merrill alone accounted
for more than  billion of CDO deals between  and . 
The ratings agencies’ correlation assumptions had a direct and critical impact on