We’ve joked here at HW in the past about rating agencies downgrading each other, in light of the wide swath of downgrades that have hit RMBS and CDO deals over the past 12 months — but sometimes, truth really is stranger than fiction. Case in point: on Thursday, Standard & Poor’s Rating Services said that it had put its ‘A-1’ commercial paper rating for Moody’s Corp. (MCO) on negative ratings watch. The move by S&P comes in response to revelations earlier in the week that Moody’s allegedly incorrectly awarded Aaa-level ratings to billions of dollars’ worth of so-called constant-proportion debt obligations, or CPDOs, due to a data coding glitch. Moody’s has taken the allegations seriously, and retained the law firm Sullivan & Cromwell and initiated an external review of their European CPDO ratings process. “While the specific potential business and financial impact to Moody’s is currently uncertain,” S&P said in a press statement, “this comes at a time when expected declines in revenue and cash flow at Moody’s in 2008 are expected to meaningfully reduce flexibility in the company’s leverage profile.” Despite the potential for a downgrade, S&P did say that it wasn’t concerned about the company’s liquidity, given cash and short-term investments of $350 million at March 2008 and the company’s $1 billion revolving credit facility, which provides back-up for its $1 billion commercial paper program. While the news of rating agency-on-rating agency seems strange enough, Bloomberg ran the quote of day, courtesy of Janet Tavakoli:

“They’re starting to feed on each other,” said Janet Tavakoli, president of Chicago-based Tavakoli Structured Finance Inc., which advises banks and hedge funds.

Ratings cannibalism, anyone? Disclosure: The author held no positions in MCO when this story was originally published. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.