Downgrades May Cost Billions

In a follow up to yesterday’s post regarding bond insurers. CNN Money reports that any downgrades may cost banks billions in increased reserves:

Downgrades of bond insurers could require banks and securities firms to increase reserves by between $7 billion and $10 billion, rating agency Moody’s Investors Service estimated on Tuesday.

If trouble in the so-called monoline business gets even worse, banks may have to set aside $20 billion to $30 billion to boost reserves covering counterparty risks, the agency added.

Several banks hedged holdings of complex mortgage-related securities known as collateralized debt obligations (CDOs) by buying guarantees from bond insurers such as Ambac Financial (ABK), MBIA Inc. (MBI) and FGIC.

But FGIC has lost its crucial AAA rating and its two larger rivals are in danger of losing theirs too. If that happens, the guarantees they sold to banks will probably be worth less and these counterparties may have to write down the value of their hedges.

About 20 banks and securities firms have roughly $120 billion worth of hedges with financial guarantors on CDOs that contain asset-backed securities, Moody’s said on Tuesday.

“We are currently evaluating these individual exposures to assess how institutions can absorb the additional counterparty reserves that might be required if one or more financial guarantors were downgraded,” the agency said in a statement.

Hmm, that last paragraph made me think about the responsibility ratings agencies have towards the public. Should they not act strictly on facts as the basis for downgrades rather than assessing what the impact might be and how institutions might be financially equipped to handle it?

This would be like saying that a real estate appraiser should consider the adverse impact on a seller’s finances if the appraisal comes in low. In my view, an honest “call it like it is” approach is preferable no matter what the consequences. Otherwise, where’s the integrity?

About Ulli Niemann

Ulli Niemann is the publisher of "The ETF Bully" and is a Registered Investment Advisor. Learn more
This entry was posted in Uncategorized. Bookmark the permalink.

Comments are closed.