Credit enhancement

The credit enhancement is a financial transaction in which a financial institution specialized called monoline (or monoline 1 in English) provides guarantees to an organization (public or private) that issues bonds on financial markets .

The advantage of credit enhancement is that the interest rate at which a borrower can raise capital on the markets is directly correlated to its strength as measured by a rating agency . The credit enhancer, who enjoys the highest possible professional rating (AAA) for professional necessity, gives the credit he guarantees his own rating, allowing the borrower to benefit from a lower interest rate.

The disadvantage is that the system is thus biased, the actual solvency of the final borrower being masked, as it appeared during the financial crisis of 2007-2010 [ref. necessary] .

The credit enhancement business in the United States

Credit enhancement activity developed in the United States on behalf of local governments . Unlike Europe, where the latter are financed by bank loan, they are financed in the United States by raised debt on the financial markets (issuance of municipal bonds and others). They therefore traditionally use the services of credit enhancers.

Subsequently, US credit enhancers also provided collateral for securitized products (particularly CDO debt packages ) that proved to be more risky than conventional local governments during the 2007 subprime crisis .

Credit Enhancers ( Monolines ) in the United States

An enhancer of credits is a purely financial company whose mission is to accumulate debts of very diverse quality, and to bring them together in a single portfolio, so that the best ones pull all up, and allow this company to issue loans with the highest credit rating, AAA.

These loans, AAA rating, are then placed with the general public, banks networks, everywhere in the world, via the money market funds , making savings products presented as safe. The fragility of these credit enhancers comes from the fact that part of the loans, the lowest rated, can cause a devaluation of the overall rating of the company. This is what happened during the subprime crisis , when it appeared that the fall in US real estate prices has reduced to almost zero the market value of mortgages ( mortgages ). accepting to purchase these claims because of the total absence of on the situation of the banks that hold them.

In 2007, the eight largest US credit enhancers are 2 :

  • o 1: MBIA
  • o 2: Ambac (created in 1971)
  • FGIC
  • FSA (subsidiary of the Franco-Belgian bank Dexia )
  • XL Capital
  • CIFG (subsidiary of Caisses d’Epargne and Banques Populaires )
  • ACA Financial Guaranty
  • Assured Guaranty Corp.

The crisis of monolines (2007-2008)

The credit enhancers were hit by the subprime crisis 3 . In 2007, the US monoline bring their guarantee payments to more than 2,000 billion of securities 4 , or 2 400 000 000 000 5 . Including an active part in risk: the CDO of ABS, including subprime loans.

In December 2007, rating agencies Standard & Poor’s , Moody’s and Fitch threatened to downgrade the ratings of several large US monolines (MBIA and Ambac in particular) because of the presence of subprime loans in the CDO they ensure, which would mechanically call into question their activity 4 .

In 2007, all American monolines were forced to make heavy asset write-downs. Four of the French banks that hold this kind of activity in the United States have been affected. This is the case of Dexia (subsidiary FSA ), or Natixis(with its former subsidiary CIFG , resold in December 2007 to its shareholders Savings Bank and Banques Populaires ). Crédit Agricole SA, for its part, depreciated amounts guaranteed by ACA Financial Guaranty .

The four French banking groups with credit enhancement subsidiaries are all four mutuals ( Credit Agricole , Caisse d’Epargne , Banques Populaires ) or holding the State to their capital ( Dexia ). In 2007, FSA, a subsidiary of Dexia, was ranked number four in the world of credit enhancers by financial analysts .

Net exposure to monoline US to CDOs of ABS (the structures that carry the risky subprime loans) 6 , in early 2008, is as follows:

  • Ambac : $ 29.2 billion.
  • ACA : 22.4 billion.
  • MBIA : 17.3 billion.
  • XLCA : 16.1 billion.
  • FGIC : 10.3 billion.
  • CIFG : 9.4 billion.
  • FSA : 0.4 billion.
  • Assured Guaranty Corp: 0.6 billion.

In February 2008, the financial rating of all monolines was under negative watch, with only the two least exposed monolines (FSA and Assured) being stable 7 .

At the beginning of 2008, it became apparent that the credit enhancement crisis was directly affecting the entire banking sector. The credit enhancers give their guarantee to assets present in the balance sheets of traditional banks. Fears about their ability to provide this guarantee entail the registration of significant provisions in the balance sheets of conventional banks 8 .

On February 12, 2008, the American billionaire Warren Buffett said he was ready to reinsure the safest part (the municipal bonds, or munibonds in the Anglo-Saxon financial jargon) of the credit enhancers MBIA, Ambac and FGIC 5 , or this The offer was unanimously rejected a few weeks later by the three institutes.

Notes and references

  1. ↑ The term monoline comes from the fact that in 1989 the New York demanded that institutions offer this type of product are solely dedicated to this activity (single-product insurers), as opposed to insurers multiline offering assurances IARD , life insurance , etc.
  2. ↑ Annual results of FSA, slideshow of February 12, 2008, p.  19-20
  3. ↑ Dominique Doise, Subprime: The price of transgressions / Subprime: Price of offenses, International Business Law Journal (IBDA), N ° 4, 2008 [ read online  [ archive ] ]
  4. ↑ a and b Les Echos , December 26, 2007, page 21
  5. ↑ a and b La Tribune , February 13, 2008, page 22
  6. ↑ Citigroup, st February 2008, published by Dexia FSA-12 February 2008
  7. ↑ Annual results of FSA, slideshow of February 12, 2008, page 20
  8. ↑ For example, see the press release of the General Society of 24 January 2008.

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