Thursday, 14 May 2009

Monoline death watch, day 1000

(The fate of the monolines was sealed by the risk they wrote in 2005-2007, so day 1000 is if anything conservative - it takes insurers a long time to die thanks to their accounting and the pay as you go nature of the claims against them.)

In a move so predictable it hardly raises a yawn, Bank of America, Citigroup, JPMorgan and 15 other large financial institutions filed suit on Wednesday against MBIA, claiming the bond insurer reduced its ability to pay policyholders by splitting its business in two.

It is difficult to think of how a monoline could split without generating lawsuits. If x of capital and y of investments support z of risk, and you split z into to pieces, how do you divide x and y? There is not widely agreed answer, so someone is going to think that the credit quality of the piece they end up with a claim against is lower that it should be - and they will sue. Moreover since there are clearly diversification benefits between risks, even if the split is entirely fair, the capital needed for the two pieces is larger than that for the original whole.

The lesson? Agree collateral upfront, based on your marks.

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