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By Dimitris N. Chorafas (auth.)

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Extra resources for Financial Boom and Gloom: The Credit and Banking Crisis of 2007–2009 and Beyond

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If the monolines are downgraded, Then the bonds they insure will not only fall in value but also no longer qualify for capital adequacy requirements of the banks who inventoried them. Much will depend, of course, on the position supervisory authorities take. Will they look the other way as they did with the subprimes and irrational boom in derivative financial instruments? Will they act, and therefore end up with the choice to close banks with a weak capital base? 27 On Wall Street, the opinion of several analysts has been that those banks that were writing down their CDO holdings did so under the assumption that the monoline insurers won’t face sharp ratings downgrades.

The silver lining is that according to the Bank for International Settlements monolines have a very small percentage of the CDS business. The bad news is that the market is so vast that this still amounts to $95 billion of protection, most of it sold to big banks. 7. MBIA and Ambac: a case study Investors, John Caouette, the former CEO of MBIA, told me during our meeting, can make more money by taking credit risk than market risk. The trouble is that, in the general case, investors understand market volatility – and, sometimes, risk and return associated with it – somewhat better than credit volatility and its exposure.

Their fault, experts suggest, was that of breaking the narrow confines of protection to municipal bonds, moving into uncharted territory. In fact, they did worse than that by renting their AAA rating to dubious securities, for a fee. As competition for municipals grew, they were seduced by the higher returns of structured finance, particularly what seemed to them to be the infinite market of subprimes. 2 billion in writedowns25 from its 24 Financial Boom and Gloom credit-derivatives portfolio, which includes the subprimes.

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