Insurance Claims And Issues

Consumers' Credit Takes Step Forward.

   The U.S. Senate protected the Rules already adopted in favor of consumers' voluntary spending in this economy.  In a step forward for consumers' credit, the Senate protected Rules that inhibit Banks and Credit Card Companies from over-charging for debit card use -- surreptitiously or otherwise.  The charges which the Rules are likely to prevent are predicted to save consumers "annual revenue" in the billions of dollars.

   For an alternate viewpoint, see Victoria McGrane and Maya Jackson Randall, "Banks Dealt a Debit Setback" p. C1, col. 6 (Wall Street Journal, Thursday, June 9, 2011)(protecting Rules will cost Banks and Credit Card Companies "billions of dollars in annual revenue.").

  The Banks for one have already made Insurance Claims upon Mortgage Insurance Policies held by defaulting Homeowners.  See Categories, "Foreclosure," "Mortgage Insurance".  Will Insurance Claims now also be made on Credit Insurance Policies?

   If Insurance Claims have already been made, and you know about them, I invite you to post a Comment here describing them.  Thank you.

Please Read The Disclaimer.

The Moral Hazard in Federal Financial Crisis Insurance.

When the Federal Government bailed out Citigroup in 2008, "it did more than reassure troubled markets -- it encouraged high-risk behavior by insulating risk-takers from the consequences of failure."

Report to Congress of Hon. Neil Barofsky, Special Inspector General for the Troubled Asset Relief Program ("TARP"), quoted by Gretchen Morgenson, "Fair Game/A Bank Crisis Whodunit, With Laughs and Tears" p. 1, col. 2 (New York Times Nat'l ed., "SundayBusiness" Section, Sunday, January 30, 2011).   

   Last Thursday, January 27, the Financial Crisis Inquiry Commission released its report on the causes of the financial crisis and how the crisis played out for key regulators, financial institutions, and Federal Taxpayers.  Here is a page from the FCIC's website that will allow you to download all or part of the report.

   Lots of recent loose talk about "moral hazard" may actually be hitting the mark, but perhaps not as the shooters intended.  The players in the financial crisis took huge risks with other people's money, made great amounts of personal profits while doing that, and then walked away and left the Federal Taxpayers to pay for the consequences when it all came apart.

   When Taxpayer-funded Insurance is in place for any financial risk, where is the incentive to follow morality?  Why would a financial institution or a regulatory agency not burn down the financial building if the only consequence to them is a large payout?

   At least one significant cause of the financial crisis, then, truly appears to be "moral hazard":  The Insurance in this instance, in the form of Federal Taxpayer payments, should never have been issued without far more careful underwriting by regulation, in a nutshell.

   In addition to Ms. Gretchen Morgenson's column linked above, here are more newspaper reporters and columnists commenting on the FCIC report's analysis, conclusions, and stunning dissents:  Sewell Chan, "Crisis Panel's Report Parsed Far and Wide" p. B1, col. 5 (New York Times Nat'l ed., "Business Day" Section, Friday, January 28, 2011); Joe Nocera, "Inquiry is Missing Bottom Line" (New York Times Online on Friday, January 28, 2011 and in print on Saturday, January 29, 2011); Jim Puzzanghera, "Financial Crisis Panel Finds Many at Fault" (Los Angeles Times Online, Thursday, January 27, 2011).

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Alleged Credit Fraud Trumps Credit Insurers' Lack of Due Diligence.

   TOTAL lack of due diligence.

   MBIA and Ambac, two large Bond Insurance Companies, reportedly are suing many Banks to which they issued Credit Insurance Coverage.  (Perhaps in the form of "Credit Default Swaps," as they were known at the time, the better to avoid Insurance Regulation by not calling them "Credit Insurance," you see.)  Their admitted lack of due diligence supports their allegations of reliance on the Banks' representations, they argue.  Reportedly, Courts are denying Motions to Dismiss in such cases.  See Floyd Norris, "High & Low Finance/Sticking Banks With the Bill" p. B1, col. 1 (New York Times Nat'l ed., "Business Day" Section, Friday, August 20, 2010).

   At issue is the business model followed by the so-called "monoline insurers" which are the Plaintiffs in these cases.  They argue that they could not sell their Credit Insurance if they had been forced to incur the expense of checking out the securitizations they insured; the cost of their Credit Insurance would have been so high that few if any Insureds would have bought it, they argue.  See id.  

   Parenthetically, this assumes that they should have been allowed almost as a matter of natural right to issue their Credit Insurance Coverage and make money, regardless of the consequences.

   Or to put it another way, when they argue that due Underwriting diligence prior to issuing Credit Insurance Coverage would be expensive:  So what is their point? 

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Credit Default Swaps Continued ... Unregulated, Unreserved, The Uninsurance?

   Credit Default Swaps are Insurance.  For a long time, readers and I have been examining what you might call "the three R's":  Regulation, Reserves, and Insurable Interest.  (Okay, that is really Two R's and Two I's.)  The problem with Credit Default Swaps, at least for you and for me, is that they do not have any of them:  No Regulation, No Reserves, and no Insurable Interest.

   Now, Floyd Norris of the New York Times has written an excellent column in which he points out that these three defects were defective by design, again, at least defective for you and for me:

   Credit-default swaps are, in reality, insurance.  The buyer of the insurance gets paid if the subject of the swap cannot meet its obligations.  The seller of the swap gets a continuing payment from the buyer until the insurance expires.  Sort of like an insurance premium, you might say.

   But the people who dreamed up credit-default swaps did not like the word insurance.  It smacked of regulation and of reserves that insurance companies must set aside in case there were claims.  So they called the new thing a swap.

Floyd Norris, "Naked Truth on Default Swaps" p. B1, col. 1 (New York Times Nat'l ed., "Business Day" Section, Friday, May 21, 2010).  [Emphasis added.]

    Mr. Norris also points out in his column that Credit Default Swaps were designed to be sold without requiring that the buyer have a recognized, Insurable Interest in the credit payment or default, one way or the other.  Except that the buyer of a Credit Default Swap benefits from default on the extended credit in question, and does not profit so much -- if at all --from repayment of the loan.  See id.

   This scheme resulted in many funds and financiers profiting from credit defaults even though they had no interest in the outcome greater than the desire to make money.  Hmmm.  Sounds like an accurate general description of a cause of the Great Collapse through which we are now living.

   For previous posts here on this subject, please see the Category, "Credit Insurance" on this Blog.  In particular, please see the previous posts on March 19, 2010 addressing the issue of requiring Reserves  for Insurance-like financial products, and on March 4, 2010, which addresses other Regulatory requirements of Insurance that might be applicable to Insurance-like financial products in addition to Reserves, and which has many links going back to posts in March, 2009.

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"Who's in Charge, Me or the SEC" Asks Goldman ...

...No Longer Sure of the Answer.

  Except to say that anyone who pays a Premium for Credit Default Swaps, i.e., Unregulated Credit Insurance, 'are sophisticated buyers who know what they are getting into and therefore you cannot defraud them.'  So, that is who is responsible for the Great Collapse through which we are now living, the victims!

   Investment Banks which did not allow for Deposits acted like they were in charge of the economy.  The People and their Government appeared to be helpless.  Regulation and reform seemed to be at the mercy of lobbyists hired by the Investment Banks.  The SEC's answer is a Complaint.  Download SEC v. Goldman Sachs & Fabrice Tourre (S.D.N.Y. Complaint Filed April 16, 2010, Case No. 10 cv 3229).  Here is the SEC's Press Release describing why they filed a Complaint and what the Claims are that are in it:  Download Press Release.041610.SEC Charges Goldman Sachs With Fraud in Structuring and Marketing of CDO Tied to Subprime Mortgages; 2010-59; April 16, 2010.

   The stock of one of the Fraud Defendants in the SEC's Lawsuit, Goldman, dropped almost as soon as the SEC's Complaint was filed.  The stock of other Investment Banks plummeted, too.  Tom Braithwaite, "Goldman Case Likely to Spur Efforts on Reform" (FT.com, Friday, April 16, 2010); Javier C. Hernandez, "Winning Streak For Wall Street Ends at 6 Days" p. B1, col. 6 (New York Times Nat'l ed., "Business Day" Section, Saturday, April 17, 2010);   Since the Complaint was filed, Goldman's stock reportedly has continued to fall.  Whatever else happens, the effects have already begun to be felt.  See Eric Dash, "Goldman Executives are Expected to Testify Before Senate Panel" p. B1, col. 2 (New York Times Nat'l ed., "Business Day" Section, Thursday, April 22, 2010).

   In addition to the effects of the Lawsuit on share prices in Investment Banks, there have also been dramatic effects on the chances of regulation and reform.  As stocks of Investment Banks have fallen, chances of reforming Derivatives -- including the sale and use of the Unregulated Credit Insurance known as Credit Default Swaps -- have risen dramatically.  E.g., Tom Braithwaite, "Goldman Case Likely to Spur Efforts on Reform" (FT.com, Friday, April 16, 2010); Walter Hamilton & Nathaniel Popper, "SEC Targets Goldman Sachs With Fraud Suit" (latimes.com, Saturday, April 17, 2010); Javier C. Hernandez, "Winning Streak For Wall Street Ends at 6 Days" p. B1, col. 6 (New York Times Nat'l ed., "Business Day" Section, Saturday, April 17, 2010); Jim Puzzanghera & Nathaniel Popper, "Goldman Sachs Case Likely to Increase Calls for Wall Street Reform" (latimes.com, Saturday, April 17, 2010);  Louise Story and Gretchen Morgenson, "S.E.C. Files a Fraud Suit Against Goldman Sachs" p. A1, col. 5 (New York Times Nat'l ed., Saturday, April 17, 2010); and Gretchen Morgenson and Landon Thomas, Jr., "A Glare on Goldman, From U.S. and Beyond" p. B1, col. 5 (New York Times Nat'l ed., "Business Day" Section, Monday, April 19, 2010).

Please Read The Disclaimer. 

 

Fiduciary Disclosure: Only You Can Prevent Fraud Lawsuits, Says S.E.C.

   The Securities and Exchange Commission has filed a Civil Suit alleging Fraud against Goldman Sachs and one of its Officers, one Fabrice Tourre.  Download S.E.C. v. Goldman Sachs and Fabrice Tourre (S.D.N.Y. Case No. 10 Civ. 3229 Complaint Filed 04.16.10).  Here is the SEC's Press Release describing its Complaint:  Download Press Release.041610.SEC Charges Goldman, Sachs With Fraud in Connection With the Structuring and Marketing of a Synthetic CDO.

   The filing of this lawsuit set off a tremendous number of newspaper reports from Coast to Coast, and across the world.  Many reports highlight Goldman's apparently well-founded fear of potential future Criminal charges and "Investor Lawsuits" which may be filed on the same or similar Claims.  There are so many reports that a large sample will be grouped here by publication, in an effort to maintain some sort of order among them:  E.g., Bloomberg:  Joshua Gallu & Christine Harper, "Goldman Sachs Sued by SEC for Fraud Tied to CDOs (Update 4)" (Bloomberg.com, Friday, April 16, 2010); Christine Harper, "Goldman Sachs-First Promise Undercut by SEC Fraud Suit (Update 1)" (Bloomberg.com, Saturday, April 17, 2010); Jody Shenn & Bob Ivry, "Abacus Allowed Goldman to Shuffle Mortgage Risk Like Beads (Update 1)" (Bloomberg.com, Saturday, April 17, 2010); Financial Times:  Tom Braithwaite, "Goldman Case Likely to Spur Efforts on Reform" (FT.com, Friday, April 16, 2010) (pointing out a fact not noted in other reports that Fraud Lawsuits involving alleged Losses on CDO investments have been filed by private parties long before the SEC filed its lawsuit on Friday, April 16, 2010); Aline van Duyn, "Regulator's Move Risks Opening Lawsuit Floodgates" (FT.com, Sunday, April 18, 2010); Los Angeles Times:  Walter Hamilton & Nathaniel Popper, "SEC Targets Goldman Sachs With Fraud Suit" (latimes.com, Saturday, April 17, 2010); Jim Puzzanghera & Nathaniel Popper, "Goldman Sachs Case Likely to Increase Calls for Wall Street Reform" (latimes.com, Saturday, April 17, 2010);  and the New York Times:  Javier C. Hernandez, "Winning Streak For Wall Street Ends at 6 Days" p. B1, col. 6 (New York Times Nat'l ed., "Business Day" Section, Saturday, April 17, 2010); Joe Nocera, "Talking Business/A Wall Street Invention That Let the Crisis Mutate" p. B1, col. 1 (New York Times Nat'l ed., "Business Day" Section, Saturday, April 17, 2010).

   To be clear, the SEC's lawsuit is not based on the inherent characteristics or the very nature of Collateralized Debt Obligations (CDOs).  This Case involved a CDO called Abacus.  Inside the CDO were subprime mortgage securities with Credit Default Swaps (CDSs), or credit insurance policies, taken out on them.  The mortgage securities were selected for their lousy performance by a hedge fund which took out CDSs to bet against the securities it selected.  When the securities failed, the hedge fund people became even wealthier than when they started out.  Goldman allegedly issued the Credit Default Swaps -- for which they were paid hefty Premiums -- and allegedly did not tell investors in Abacus who was selecting the securities in it, or why.  To the contrary, the SEC Complaint contains allegations that Goldman actually told investors in Abacus that the securities inside it were being selected by an impartial third party.  The SEC lawsuit is based on Claims of Fraud.

   The SEC lawsuit may be a loud explosion in the world of financiers.  It is not intended to be a long-term solution, and it is not a long-term solution.  The most effective solution to the problems posed by CDOs is to dismantle them.  If CDOs are not going to be dismantled, then the next best solution may be to disclose all the arrangements made in arriving at them.

   The solution to the problems posed by CDSs is similar.  The first choice would be to dismantle them.  If CDSs are not dismantled, the same sort of crisis through which we are now living is likely to happen again; the next best solution after dismantling Credit Default Swaps is to regulate them as Credit Insurance, or as securities, or both depending on the Credit Default Swaps at issue in any given scheme.

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Postscript of Monday Morning, April 19, 2009:  On the S.E.C. Lawsuit targeting not CDOs as such, but Fraud in the use of a CDO:

"It is one thing to know that there are others betting against you; it is quite another to know that the people betting against you are selecting the bets."

Securities Law Professor Adam Pritchard, University of Michigan Law School, quoted by Gretchen Morgenson and Landon Thomas, Jr., "A Glare on Goldman, From U.S. and Beyond" p. B1, col. 5 (New York Times Nat'l ed., "Business Day" Section, Monday, April 19, 2010).

Again, Please Read The Disclaimer. 

When Banks Act Like Insurers, They Should Reserve, Like Insurers.

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  Not simply issue unfunded indemnity obligations like Credit Default Swaps.

"Unified capital requirements for banks and insurers would be wrong."  Nikolaus von Bomhard, Chief Executive Officer of Munich Re, quoted by Oliver Suess, "Insurers do Need 'Suitable' Supervision, Munich Re Chief Says" (Bloomberg.com, Wednesday, March 3, 2010).

   There are those in the Banking sector who argue forcefully against Regulation including requiring Reserves for Credit Insurance known as Credit Default Swaps.  They may point to comments like those in the above quotation from the CEO of Munich Re to bolster their case that Banks and Insurance Companies are different and should be treated differently.  They miss the mark.

   What the man was saying is that Insurance Companies are better capitalized than Banks.   Id.  A major reason that Insurance Companies are better capitalized than Banks is that Insurance Companies must post Reserves to handle Claims against the Policies they issue.  Whenever Banks act like Insurance Companies, they should be regulated like Insurance Companies.  That includes the requirement that they post Reserves -- or set aside Capital -- to pay their liabilities, such as the otherwise unfunded liabilities of Credit Default Swap obligations.

   The animal may have four legs and a tail, and a sign around its neck that proclaims it to be a "Horse," but if it has an udder it is still a cow.

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Inquiry: Why Was it Good Not to Regulate Credit Default Swaps?

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   Speculation has it that the Financial Crisis Inquiry Commission will require testimony on the question of why it was a good thing to exempt a form of Credit Insurance totally from all Regulation.  And how that helped to cause the Great Recession through which we are now living.

   Mr. Robert Rubin, former Treasury Secretary of the United States and former "adviser" to Citigroup Inc., reportedly will or may be called to testify.  Ian Katz and Jesse Westbrook, "Citigroup Adviser Rubin Said to Face Queries From Crisis Panel" (Bloomberg.com, Saturday, February 27, 2010).  When Mr. Rubin was Treasury Secretary, he was a prime mover in blocking even a study about regulating a form of Credit Insurance called by another name in the world of 'finance,' namely, Credit Default Swaps.  A study about regulating Credit Default Swaps was proposed at the time by then-Chair Brooksley Born, Esquire, of the Commodity Futures Trading Commission.

   Ms. Born is now a Member of the Financial Crisis Inquiry Commission which will or may call Mr. Rubin to testify.  Id.

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Required Reserves for Credit Insurance Considered by European Union.

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   Credit Default Swaps, or "CDS's," are a form of Credit Insurance.  They have been the subject of many posts here including on February 18, 2010, "Credit Default Swaps:  Unregulated, Certainly.  Insurance?  You Bet," and March 18, 2009,  "New York Times Concurs:  Credit Default Swaps Are Unregulated Credit Insurance," and related posts here in the Category of "Credit Insurance".  See also the posts of December 24, 2009 and February 10, 2010 on Insurance Claims Bad Faith Law Blog.

  Recognizing that all regulated Insurance requires Reserves to be held by the Insurer to pay Claims on the Insurance, the European Union is responding to the impending default of Greece.  That entire nation is finding it hard to obtain credit to pay its debts because Credit Default Swaps have been issued by Banks to many "counterparties" who have bet that they will make money if and when Greece defaults on its obligations.

   One measure under consideration in the European Union is "'strengthening the capital requirements for counterparty credit-risk exposures.'"  Michel Barnier, Financial Services Commissioner of the European Union, quoted by Ben Moshinsky, "Banks Face Tighter Capital Rules for Credit Derivatives in EU" (Bloomberg.com, Friday, February 26, 2010).

   In a word:  Reserves.

   In the Insurance Industry, when Reserves are not set high enough to pay Claims, then Reserves are supplemented with money from earnings.  Mary Williams Walsh, "A.I.G. Posts Loss of $11 Billion on Higher Claims" p. B1, col. 5 (New York Times Nat'l ed., "Business Day " Section, Saturday, February 27, 2010).  That is exactly what the EU seems to be saying is what should be done about the current Claims on the heretofore Unregulated Credit Insurance known as Credit Default Swaps.

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Unregulated, "Contentious Derivatives Trades for Greece" Attract U.S. Regulator Scrutiny.

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   The type of Credit Insurance known as largely unregulated Credit Default Swaps, has attracted the attention of Regulators.  Finally.  The Federal Reserve is reportedly looking at "contentious derivatives trades for Greece".  Alan Rappeport, Tom Braithwaite and David Oakley, "Goldman Role in Greek Crisis Probed" (Financial Times Online at FT.com, Thursday, February 25, 2010).  So is the Financial Crisis Inquiry Commission, the body set up by Congress to investigate the causes of the Great Recession through which we are now living.  Id.

   Finally, at this time, there have also been calls for the U.S. Congress to investigate the role that U.S. Banks played in "contentious derivatives trades for Greece".  James Politi, "Call For Probe on Banks' Role in Greek Crisis" (Financial Times Online at FT.com, Friday, February 26, 2010).  The U.S. House Financial Services Committee has been asked to investigate the use of Credit Default Swaps in particular because Credit Default Swaps were among the "activities that brought down American International Group" and caused the massive injection of U.S. Taxpayer Money into AIG to avoid its imminent collapse.  Rep. Carolyn Maloney quoted in id.

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Credit Default Swaps: Unregulated, Certainly. Insurance? You Bet.

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   Credit Default Swaps, or "CDS's," are a form of derivatives contracts.  They offer "insurance, for example, on trading positions".  Louis Uchitelle, "Elders of Wall St. Favor Tight Rein" p. B1, col. 2 (New York Times Nat'l ed., "Business Day" Section, Wednesday, February 17, 2009).

   As readers of this space know well, CDS's are unregulated Credit Insurance, unregulated until recently.  Last year, the New York State Insurance Commissioner announced that a form of CDS's that functions like Credit Insurance will from now on be regulated as Insurance in New York.  See for example the previous post here on March 18, 2009,  "New York Times Concurs:  Credit Default Swaps Are Unregulated Credit Insurance," and related posts here in the Category of "Credit Insurance".  See also the posts of December 24, 2009 and February 10, 2010 on Insurance Claims Bad Faith Law Blog.

   A stray phrase has recently surfaced that Credit Default Swaps "in essence, work like bond insurance ...."  Mary Williams Walsh, "Risky Trading Wasn't Just on the Fringe at A.I.G." (New York Times Online, February 1, 2010).  No, they don't.  They not only act like unregulated Credit Insurance, but to lawyers and regulators -- and investors/Policyholders -- they are Credit Insurance.  The differences can be material.  But not in regard to what counts right now.

   Everyone agrees that CDS's have gone unregulated and that they are Insurance.  Had CDS's been regulated properly, perhaps we would not still be living through the Great Recession but we would instead be looking back at it.

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Credit Default Swaps a/k/a Credit Insurance Target of Antitrust Investigation.

     Markit Group Holdings provides information about Credit Default Swaps and other Derivatives to approximately 300 firms trading in them.  These firms are sellers of such Derivatives.  "Markit collects pricing information from the largest players in the derivatives industry, and then provides it to more than 300 financial firms that use it to determine the prices of similar contracts in their own books."  Eric Dash, "Derivatives Are Focus of Antitrust Investigators" p. B1, col. 6 (New York Times Nat'l ed., "Business Day" Section, Wed., July 15, 2009).   The majority owners of Markit are Bank of America, Goldman Sachs, JP Morgan Chase, and the Royal Bank of Scotland.  Id.

    The purchasers of CDS's and other Derivatives are apparently not provided this information, however.  The financial firms which sell them object to providing information about them.  Thus, the Antitrust investigation.  See id.  See also Rob Cox, Antony Currie and Dwight Cass, "Derivatives Inquiry," Breakingviews.com, published on p. B2, col. 1, New York Times Nat'l ed., "Business Day" Section, Wed., July 15, 2009.  Disclosure of at least some CDS's is among the provisions of the current Administration's proposals for regulating Derivatives.  See generally Edmund L. Andrews, "Unresolved Questions After Hearing With Geithner" p. B3, col. 1 (New York Times Nat'l ed., "Business Day" Section, Saturday, July 11, 2009).

    Parenthetically, without proposing anything like an outright ban on Derivatives which is urged by many economists, the current Administration has proposed greater Reserves in order to handle the kinds of claims that may be made upon them -- and which are at the heart of the current Great Recession.  Id.

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"Stress Test" Results and Credit Default Swaps.Credit Insurance Policies.

    "Stress test" results have been released by the Federal Reserve Board in 37 pages of text, charts and graphics, plus 1 cover page:  Download Stress Test Results.050709.

    In a continuous revelation of a secret hidden in plain view, the results are clear that Credit Default Swaps (CDS's) and other "derivatives" offer intolerable risk to the larger economy.  See  Floyd Norris, "High & Low Finance / Findings, But No Final Word" p. B1, col. 1 (New York Times Nat'l Ed., "Business Day" Section, Friday, May 8, 2009):  "We know that there could be further losses on mortgage-backed securities -- despite claims by many banks that the securities have already been marked down to absurdly low levels."  See also Louise Story and Eric Dash, "The Great Divide/Results of Bank Stress Tests Split the Financial Landscape" p. B1, col. 2 (New York Times Nat'l Ed., "Business Day" Section, Friday, May 8, 2009).

    CDS's are now widely recognized as unregulated Credit Insurance unbacked by Capital-Reserves.  E.g., post here of March 18, 2009 and previous posts listed in it.  See also related posts on April 1, 2009 and on April 16, 2009.

    The intolerable risk of CDS's to the larger economy is that Federal Taxpayers will pay the freight for the ride taken by a few, who immediately cashed in the checks they were paid for selling the unregulated, uncapitalized CDS's.  See Mary Williams Walsh, "A.I.G. Cuts Loss Sharply to $4.35 Billion in First Quarter" p. B5, col. 1 (New York Times Nat'l Ed., "Business Day" Section, Friday, May 8, 2009).

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Hartford Changes Accounting, Announces Transformed Financials.

    Before The Hartford and other corporations changed their mark-to-market accounting values, The Hartford in particular was headed for a huge loss.  The large loss would have followed these recent developments:

    1.  The National Association of Insurance Commissioners repealed a requirement that certain Insurance Companies maintain a high level of Reserves sufficient to meet claims.  The repeal of the Reserves requirement was particularly sought by Life Insurance Companies.  The Hartford got about $1,000,000,000.00 or $1 Billion "of regulatory relief from capital and reserve requirements meant to protect policyholders" in this way.  See David S. Hilzenrath, "Accounting Changes Boost Hartford's Books" (Washington Post Online, Friday, May 1, 2009).  

   2.  The Hartford reportedly is looking at corporations within its group which it can sell to raise capital.  Id.

  3.  In addition, The Hartford recently announced that it will not issue new business either in Japan or in the U.K.  Id.

  After many large corporations changed to mark-to-management accounting values instead, they were able to release rosier reports on their financial condition.  See Joe Nocera, "Talking Business/Same Data, Conflicting Forecasts" (New York Times Online, Saturday, May 2, 2009).  This included The Hartford, which reported "a pre-tax gain of $550 million" partly due to the change in accounting values.  Even with these changes, it reported a loss for 1Q 2009 of $1.2 Billion.  David S. Hilzenrath, supra. 

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Bond Insurance Company Sues Insured it Issued Credit Default Swaps.

    MBIA issued a press release dated April 30, 2009 announcing a lawsuit which it and its subsidiary, LaCrosse Financial Products, LLC filed against their insured.  The defendant is Merrill Lynch, their Insured-Counterparty.  See also Jody Shenn, "MBIA Sues Merrill Lynch Over Sub-Prime Debt Protection (Update 2)" (Bloomberg.com, Thursday, April 30, 2009).

    Although MBIA posted that the Complaint itself was available on its web site, it was not yet located there the last time I personally tried to find it there.  A search this date on the "SCROLL" or "Supreme Court Records On-Line Library" site provided by the New York State Supreme Court, where the suit was filed, reveals that "no documents have been scanned" on this case as yet.

    The alleged claims or causes of action identified in the press release are Misrepresentation and Breach of Contract.  MBIA and LaCrosse allege that they were fraudulently induced to issue Credit Default Swaps and other Insurance Policies to Merrill.  The Bond Insurance Company seeks the remedy of Rescission for all CDS's and Insurance Policies which were issued to Merrill, and Damages "where the CDS Contracts and related policies were issued to third party counterparties [insureds] other than Merrill Lynch."

Please Read The Disclaimer.

Mr. Warren Buffett, Economic Pearl Harbor Passed, But Derivatives Tick.

    Mr. Warren Buffett earlier in 2009 described the Great Recession of 2007 - 2009 as an "economic Pearl Harbor".  Before the annual convention of his chief corporation, Berkshire Hathaway, Inc., began on Saturday, May 2, 2009 he advised that the economic Pearl Harbor has passed but the war is not over.  "Buffett:  'Economic Pearl Harbor' Has Passed" (MSNBC.com, updated Friday, May 1, 2009 before the Berkshire Hathaway annual convention began).

    Perhaps indicative of the war that rages still, Berkshire is exposed to "derivative contracts, many of which are long-term bets that stock market indexes will rise and junk bond defaults will not go sky-high."  Id.  Derivatives contracts which are not tied to any insurable interest are hardly anything more than wagering contracts, it is clear.

    Reportedly, if the markets reached the same levels at which they stood even as late as December, 2008,Berkshire's derivatives contracts exposure would reach $13,000,000,000.00 or $13 Billion.  See id.

    For additional information on the business results reported by Berkshire Hathway for 2008, see its 2008 Annual Report here.

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"Insurance Companies, CDS's, Prove States Should Not Regulate," CEO Writes.

    Arguments in favor of a Federal regulator of Insurance Companies are presented by Tom Wilson, "Regulate Me, Please" p. A23, col. 2 (New York Times Nat'l Ed., Thursday, April 16, 2009).  Mr. Wilson is identified as the chief executive of Allstate Insurance Company.  Insurance Companies are regulated by the States.

    The arguments include the assertion that States "lack the expertise" to regulate complex securitized financial instruments.  See id.  So does everyone else, as we can see with our own eyes.  The Credit Collapse of 2007 - 2009 could not have happened without them.

    This is really an argument for no regulation at all.  If responsibility for regulation is shifted from those with experience at regulating Insurance Companies to those who have none, then there cannot be any regulation in any meaningful sense of the word, "regulation".

    As for financial creatures developed since 1980 or so, like Credit Default Swaps, if no-one can understand complex securitized financial instruments enough to regulate them, why would a Federal regulator be desired?  Why, especially, would this argument be made by an Insurance Company whose CEO writes that it did not trade in complex securitized financial instruments?

    To say again, this is really an argument for no regulation at all.  Business as usual benefitted some people very much, and most people not at all.  Business as usual is done.

    Parenthetically, this linked newspaper release contains a surprising admission.  The admission is that Credit Default Swaps were really Insurance after all, all these years.  Id.  The Insurance industry was among the crowd of once-supposedly smart people who used to say that Credit Default Swaps should not be regulated.  And that they were not "Insurance".  Certainly that CDS's should not be regulated by Insurance Commissioners.  Here is how many times the Insurance industry asked anyone to regulate Credit Default Swaps as Insurance:  _________.

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Goldman Returning Federal Funds?

    Newspapers report that Goldman Sachs wants to return the Federal Funds it received to bail it out in down times.  After it spent the Federal Taxpayers' money, now Goldman Sachs reportedly perceives itself as enjoying "up" times.  Also it does not want to be restricted from pursuing again the lines of success, bonuses and rewards it became used to.  See Louise Story, "Goldman Profit Tops Forecast, and a Share Sale is Planned" p. B1, col. 1 (New York Times Nat'l Ed., "Business Day" Section, Tuesday, April 14, 2009, published online under the headline, "Goldman Using Share Sale to Return Bailout Funds".

    The Treasury Department and the Federal Reserve are reportedly considering this request.  Their permission is required for Goldman Sachs and any other bailout patient, reportedly, to pay the Federal Taxpayer Funds back early.

    The payback demanded should include a good part of the $12,900,000,000.00 or $12.9 Billion which Goldman Sacked from AIG.  That amount was 100% of the face value of Credit Default Swaps or Credit Insurance Policy Limits by another name, which the Federal Government foolishly paid to Goldman through AIG.  See the post here on March 24, 2009, "Goldman Sacks Federal Treasury".  Now is the time to negotiate what before was not negotiated, but should have been.

    Further, Goldman's payback should also include its agreement to accept the market value or less of the remaining Credit Default Swaps it was issued by AIG, the face value of which was some $6 Billion.  See id.

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"Mark-to-Management" Change: Bankers' Credit Insurance Profit, Taxpayers' Expense.

   Current accounting rules binding investment houses including banks require so-called "assets" to be marked at current market value.  A lot of "assets" are insured by Credit Default Swaps, an unregulated form of Credit Insurance favored by large institutions like AIG. Presumably, even Credit Default Swaps will not pay more than an insured asset is worth. 

    Right now, and for awhile in the past, the market value of many of these toxic assets is just not as great as the people holding them purchased them for.  These people thought that they were so smart because they made so much money.  If they did not make as much money as they once thought they did, they would have to admit to themselves and to us that they were never so smart as all that.  That is an admission they cannot or will not make.

    The investment banks want to change current accounting rules accordingly.  The changes they want are known as "mark-to-management" accounting.  They want to value their "assets" at whatever price they put on the assets, regardless of what the market will bear.  See Floyd Norris, "Marketplace/Making Bank Losses Vanish" p. B1, col. 1 (New York Times Nat'l Ed., Business Day Section, Wed., April 1, 2009), published online with the headline, "Banks Are Set to Receive More Leeway on Asset Values".

    This change is obviously anti-capitalist.  They bargained for the market valuing their assets at the time that they laid out money for those assets.  Now they want to artificially inflate the value of those so-called assets.

    There is more than ego at work here.  The investment bankers want to be paid for their "assets" at a value equal to what they paid, or as close to that amount as they can get.  They want Credit Insurance to do this for them.  To say again, presumably not even Credit Default Swaps will pay a price greater than the "value" of the asset -- and these people want to change the rules to continue to overvalue their assets in the judgment of many.  At whose expense, it might well be asked?  The Federal Taxpayers have paid large amounts of money on account of AIG's Credit Default Swap insurance obligations -- even though there was no insured "loss" and at 100% of the "value" of those obligations as priced by the people who claimed them.  See "Goldman Sacks Federal Treasury," posted here on March 24, 2009.  These are the same people who insist on changing the accounting rules to keep their control over the "value" of these assets.  Marking down those assets may mark down the value or price which they are paid by Federal Taxpayers. 

    This is now how regulated Credit Insurance works.  It is not how even unregulated Credit Insurance ought to be allowed to work.

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N.Y. Times Concurs: Credit Default Swaps Are Unregulated "Credit Insurance".

    In an insightful piece of reporting by Gretchen Morgenson, "A.I.G.'s Bailout Priorities Are in Critics' Cross Hairs/Covering Foreign Institutions Further Upsets Some in U.S." p. B1, col. 2 (New York Times Nat'l Ed., Wed., March 18, 2009), the venerable New York Times and its highly respected Business Day columnist, Ms. Gretchen Morgenson, describe AIG's Credit Default Swaps.  The New York Times article never uses that term, however.  Instead, AIG's failed CDS's are described exactly as what they are:  Credit Insurance.  (One exception:  The CDS terminology is used in a box of "Credit Default Swap" information provided by AIG.)

    In previous posts here, I have carefully reviewed the evidence for and against Credit Default Swaps and they are clearly Unregulated Credit Insurance by another name.  For example, under the Category of "Credit Insurance" see posts on 12.15.08, 12.24.08, 01.07.09, 01.26.09, and 02.20.09.  (One or more of these posts may no longer be available in the typepad archives.)

    This makes a huge impact.  Credit Insurance is or should be regulated by the State Insurance Commissioners.  For example, the New York Insurance Superintendent was poised to regulate CDS's in New York that perform like Credit Insurance, as of the first of 2009.  If CDS's could have been regulated as Insurance, but were not and are still not regulated as Insurance, why not?  Good question.

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Fed Purchase Terms Revealed for AIG's Credit Default Instruments.

    The terms of the Fed's purchases of Collateralized Debt Obligations undertaken by AIG, and of Credit Default Swaps issued and guaranteed by AIG, have now been revealed.  The Fed apparently paid 100% of the declared value of these 'instruments'.  The parties that declared the value of these instruments were the parties that held them, called "counterparties" on Wall Street and called Policyholders under these unregulated, unreserved Credit Insurance Policies,  See Henny Sender, "AIG Saga Shows Dangers of Credit Default Swaps" (Financial Times.com, Friday, March 6, 2009).

    Since the "counterparties" were fully paid off, "the process was reasonably harmonious."  (Why would it not be, at least from the point of view of the parties receiving 100% of the money they claimed?)  It is also reported that the Fed, AIG and the holders were able to avoid "valuation disputes."  Id.  (I will bet I guess they were harmonious, since they apparently avoided anything resembling a negotiation.)

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Credit Default Swaps: Who Will Survive Them?

    AIG continues to lead.  They are the fastest-falling "Insurance Company" in the current world of finance.

    Reportedly, AIG faces a deadline of February 28, 2009 or thereabouts -- tomorrow.  The reason for the deadline is left unstated.  Mary Williams Walsh and Michael J. de la Merced, "As A.I.G.'s Losses Grow, Its Survival Options Shrink" p. B5, col. 1 (New York Times Nat'l Ed., Business Day Section, Wed., February 25, 2009).

    Among AIG's alternative choices before tomorrow's deadline are to continue trying to raise capital by selling some of its subsidiaries, or to continue trying to raise capital by asking for more Federal Taxpayer Money in exchange for a Federal Taxpayer share of its business.

    The first alternative, to continue to try to raise capital by selling some of the AIG subsidiaries, is not going as well as AIG might have hoped.  AIG is reportedly not receiving the size of bids that it anticipated.  Its subsidiary, American Life Insurance Company or "Alico," for example, would seem to be an attractive investment in untapped markets of consumers who have not yet been exposed to Life Insurance products.  Alico has operations in some 55 countries.  However, the bids that AIG has received to date, including from MetLife and AXA, are so small in AIG's estimation that AIG reportedly may take the "for sale" sign down from Alico. 

    That would leave the alternative of asking for more Federal Taxpayer Money.

    The unannounced reason, touched upon in the linked newspaper report, for these hard choices for AIG?  AIG issued many Credit Default Swaps.  As a standard part of all CDS arrangements, the issuer agrees to uphold a certain Credit Rating.  If AIG, for example, fails to maintain the specified Credit Rating, it will face a collateral call under these CDS's to immediately post the full amount of each of these CDS's.  (The people indemnified by these guarantees are among the few who still find any credibility in what Credit Ratings Companies have to report.)  That is more money than AIG probably ever had, and it is certainly more money than AIG has on hand now.

    Credit Default Swaps.  Unregulated at the Federal level, unregulated at the State level.  How are they going?

Postscript on Saturday, February 28, 2009:

See generally Lauren Silva Laughlin and Richard Beales, "BreakingViews.com, Spreading Pain In A.I.G.'s Bailout" p. B2, col. 1 (New York Times Nat'l Ed., Business Day Section, Friday, February 27, 2009).

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Securitization Unregulated (including "Insurance"), Behind Credit Collapse.

    In a speech to the National Press Club in Washington, D.C. on Wed., February 18, 2009, Mr. Ben Bernanke pointed out that securitization is the major default behind the Credit Collapse.  The current Chair of the Federal Reserve System said that securitization is the real culprit behind the lack of lending at this time, not so much the fact that banks are not extending loans.  See the National Press Club site (the Club requires membership before it will provide anyone a transcript of Mr. Bernanke's remarks). 

    Securitization involves the so-called 'bundling' and sale of instruments that theoretically have a value because they embody a legal obligation to pay money.  In the process of securitization, debt instruments of this kind are made into new securities which some people purchase.  If the new securities cannot be valued, i.e., if an agreed value cannot be put on them which is generally acceptable to the people who extend credit and otherwise make loans, then there is a Credit Collapse.  We are living through that situation right now.

    Among the new securities are Collateralized Debt Obligations and Credit Default Swaps.  Some of these function like Insurance.  However, they have not been regulated for decades.  Some of the persons who argued against regulating them, whether as Insurance or at all, reportedly include former senator Phil Gramm and Messrs. Alan Greenspan, Robert Rubin, and Lawrence Summers.

    How is that going?

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Credit Default Swaps Without Capital Reserves: Making Money Without Money.

    The profiteers from Credit Default Swaps never wanted them regulated.  In particular, they did not want the issuance of CDS's to be regulated like Insurance was regulated.  Even when the CDS's were the moral equivalent of Insurance and cried out for Regulation.  "The most critical role for regulation is to make sure that the sellers of risk have the capital to support thier bets."  Michael Lewis and David Einhorn, "The End of the Financial World As We Know It" p. 9, col. 1 (Sunday New York Times, "Week in Review" Section, January 4, 2009). 

    The results are clear.  The profiteers from Credit Default Swaps did not have the capital, the Reserves, to support their bets.

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Commercial Real Estate Financing and Insurance Bind, Too.

The Credit Collapse Continues.    

    According to the mounting evidence, Commercial Real Estate will present the next rush of financing failures.  The financial failures continued to be tied to the inability to obtain appropriate Credit Insurance, among other things, in particular the difficulty in obtaining willing lenders in exchange for Commercial Real Estate Mortgages which in the past have been  securitized and the values for which are now in doubt.  See generally Dana Hedgpeth and Dan Keating, "Property Owners' Predicament/Investors Face Struggle to Refinance Loans for Local Commercial Real Estate" (Washington Post.com, Thursday, January 29, 2009).

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If Insurance Trades Like a Security, Regulate Like a Security?

        Apparently the new Administration in Washington has made a decision that the Federal Government should have the power to regulate Credit Default Swaps as securities.  This means that the States would perhaps completely lose any power to regulate CDS's that act like Insurance, as the Credit Insurance they really are.

    One option is frequently found in Federal Statutes:   Provide an exemption in favor of State Regulation where State Regulation exists; otherwise, Federal Regulation will occupy the vacuum.  In this instance, whenever CDS's function like Insurance and are regulated by the States, which after all have been regulating Insurance of various kinds long enough to be fully experienced at it, then the Regulation of those particular kinds of CDS's can and should be "exempted" from Federal Regulation in favor of the existing State Regulation.  In an earlier post here, it was reported that New York State for one example will begin regulating Insurance-like Credit Default Swaps this month.   See also posts of December 24, 2008 and January 7, 2009 archived in the Categories of Credit Insurance, Market Performance, Regulation, Reserves, and Risk Management. 

    "Tradeability" seems to be the determinative test used by the Obama Administration for Federal Regulation of CDS's at this early date.  If a CDS cannot be traded "on exchanges or through clearinghouses" then the Obama Adminstration reportedly will not try to regulate them.  If on the other hand a CDS can be traded, then regardless of other characteristics -- such as the distinction between Insurance in which the purchasing party has an Insurable Interest should a nonparty "default," vs. wagers or bets in which the purchasing party has no dog in the fight but instead is only placing a bet or wager that the nonparty will (or will not) default -- then the fact that the given CDS can be traded like a security is all that will count in the Federal Government attempting to regulate it like a security, rather than treating a qualifying CDS like Insurance.  (Insurance has for many years been regulated by the States.)  See generally Stephen Labaton, "Obama Plans Fast Action to Tighten Financial Rules/New Scrutiny for Hedge Funds, Derivatives Market and Credit Rating Agencies" p. 1, col. 5 (New York Times Nat'l Ed., Sunday, January 25, 2009).

    Happily, the Obama Administration reportedly would or "could" include new requirements for Reserves in its attempts to fashion regulatory schemes for Credit Default Swaps:  "The new trading procedures for derivatives could also enable regulators to impose capital and collateral requirements on companies that issue credit default swaps that would make them safer investments."  Id.

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Derivatives and Despair: Insurance Companies (and Others) Beware

    Derivatives include Collateralized Debt Obligations and Credit-Default Swaps.  Their role in the current credit chaos is deadly.   Credit-Default Swaps, in particular, are an unregulated form of Credit Insurance issued by Companies without sufficient capital to pay them off.  See generally Gretchen Morgenson, "How the Thundering Herd Faltered and Fell/Merrill Lynch Couldn't Escape the Housing Crash" p. 1, col. 1 (New York Times Nat'l Ed., SundayBusiness Section, Sunday, November 9, 2008).

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A Tarp, or an Umbrella?

    There seem to be differing perceptions over the purposes of the Troubled Assets Relief Program ("TARP").  Congress and the Federal Taxpayers, whose Tax money is being used to fund the program, understood Congress to provide for the purchase of troubled assets from banks.  This program would clear the way on the basis of strengthened credit for banks to make loans to start-ups and growing businesses, which would in turn would hire employees, who in their turn would have money to spend, all to the good for the national economy.

    On the other side of the perception divide stand not a few bankers.  They for their part think of TARP as Insurance, a hedge against bad times, and not an incentive to make loans they otherwise would not have made (and before TARP, they were not making many loans):

We see TARP as an insurance policy.  That when all this stuff is finally over, no matter how bad it gets, we're gong to be one of the remainng banks.

John C. Hope, III, Chair, Whitney National Bank of New Orleans, speaking at the Palm Beach Ritz-Carlton in November, 2008,  quoted by Mike McIntire, "Bailout is a No-Strings Windfall to Bankers, if Not to Borrowers" p. 1, col. 2 (New York Times Nat'l Ed., Sunday, January 18, 2009).

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CDS Unregulated "Insurance": Regulation and Risk Management Mean Capital Reserves.

    A previous post exposed the little-known fact that there are several different kinds of Credit Default Securities or CDSs.  See "CDS Unregulated 'Insurance':  How the AK-47 Chewed Up Wall Street," December 24, 2008.  See also "CDS Unregulated 'Insurance':  The AK-47 Loose on Wall Street," December 15, 2008.

    Some CDSs function like Insurance.  Other CDSs function like wagers or bets.  Few CDSs are regulated.

    There is general agreement that the lack of regulation of CDSs must change.  There is disagreement, though, over many specifics of how the different types of CDSs can most efficiently be regulated.  There is no disagreement, however, that CDSs require Reserves:

The most critical role for regulation is to make sure that the sellers of risk have the capital to support their bets.

Michael Lewis and David Einhorn, "The End Of The Financial World As We Know It" p. 9, col. 1 (New York Times Nat'l Ed., Week in Review Section, Sunday, January 4, 2009).

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AIG "a systemically important company"--New Deal, Old Company, Again.

    A post here on November 10, 2008 explored new deals for AIG from the current Treasury Department.  The post addressed raising capital, with Federal Taxpayer Funds or with private funds.  After receiving Federal Taxpayer Funds, AIG is reportedly asking for new deals on paying them back.  See Francesco Guerrera, "AIG Seeks Easing of Rules on Disposals" (Financial Times.com, Tuesday, December 30, 2008).

HAPPY HOLIDAYS and HAPPY NEW YEAR to ALL!

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