A New Twist in the Wall Street Panic

| Wed Jan. 23, 2008 12:35 PM EST

There's another disaster just over the horizon in the panicked financial markets. It concerns monoline insurance companies, which guarantee bonds for municipalities. (In other words, they will pay interest on the bonds if towns or cities default.) At the turn of this century, these companies expanded into providing insurance for certain other types of debt instruments, including CDOs (collateralized debt obligations), which can include subprime mortgages.

"Of the $2.4-trillion worth of insurance coverage these companies provide, approximately $125-billion is tied to the faltering home market, according to industry estimates," reports the Globe and Mail. Since the big banks including Citigroup and Merrill Lynch try to shield themselves against subprime exposure through this type of insurance, the financial community is suddenly beginning to think monolines could turn out to be time bombs. As it stands, the banks themselves have written down $100 billion tied to CDOs. Under this kind of pressure, can the monolines hold up? Financial credit analyst Nigel Myer told the paper that even yesterday's rate cut by the Federal Reserve won't "get us out of the mortgage mess" or "solve the monoline problem." And earlier this week, Jamie Dimon, JPMorgan Chase's chief executive, told the Financial Times: "If one of these entities doesn't make it...the secondary effect...I think could be pretty terrible."

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The subprime suck will have an increasing effect on these debt instruments. The FT ask: "What, for instance, happens to all the outstanding debt the monolines have insured—totaling over $1,000 billion? The majority of it is not subprime but humdrum bonds issued by municipalities, for instance, to fund schools and hospitals and roads. There is much at stake, but so far policymakers and Wall Street bankers—who have their own interests in ensuring the monolines do not go under—have not acted.''