Subprime crisis - Comments
It is always instructive to watch what a smart & successful company like General Electric* does and try to work out why they are doing it.
Several years ago GE spun off their insurance businesses and this divestment was of interest to me at the time because GE was removing a number of capital intensive operations from their business while retaining an equity interest. By this move GE no longer had to maintain tier-1 capital for these insurance businesses but instead retained a dividend stream from their equity, they also substantially reduced their own risk in those operations. By 2006 GE had sold their remaining equity in these operations, noting in their 2006 annual accounts that:
This deal by GE really got me thinking about the problems associated with insurance products in the globalised markets where risk is interlinked between geographies and products. With the sub prime mortgages problem in the US lenders have loaned money to people who cannot repay their mortgages. The lenders don't really care because all the mortgages are insured, but the insurers are probably very worried right now. And, if the mortgage insurers have been following the lead of the lenders you can bet that they also relaxed their underwriting rules to write those policies.
The credit crunch is going to be worse for the insurers because often they not only insured the mortgages, but also provided the deposit bonds. Also the ratings agencies are really going to come under some scrutiny - the real question is do they have any clue as to the underlying risk of the products they are rating? I suspect the answer is about to be revealed as a resounding not really.
The sub prime mortgage problem exists because lenders ignored prudent credit policy on the optimistic basis of a rising property market. We are now seeing the almost inevitable consequence of these poor credit policies. GE had the foresight to reduce their exposure to these insurance businesses, a pity some of the other players were not so prudent.
via Aide-mémoire
