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Last Updated: Friday, 21 December 2007, 02:34 GMT
Credit crisis grips bond insurer
Dollar notes
Analysts warn that more than $2 trillion of insured securities could be at risk
US bond insurer MBIA has disclosed it guarantees $30.6bn in complex debt investments linked to the US housing slump, shocking investors.

The firm's shares sunk, falling by a fifth to 20-year lows on the news.

A large portion of MBIA's business is to provide insurance for investors holding public debt, like in utilities.

The fear is that it could buckle under the scale of potential losses from the insured securities, putting billions of dollars of pension fund money at risk.

"We are shocked that management withheld this information for as long as it did," said analysts at Morgan Stanley.

Analysts say MBIA is most vulnerable to guarantees on $8.1bn of collateralised debt obligations - packages of debt that include risky US home loans that have seen record defaults this year.

Shares in the world's largest bond insurer slumped 26% to $19.95 at the end of New York trade.

Wider crisis looms

The fall-out in global credit markets prompted dramatic action from central banks around the world last week.

The US Federal Reserve joined forces with the Bank of England, the European Central Bank (ECB), and the national banks of Canada and Switzerland to outline a plan to offer more than $100bn in loans to commercial banks to bring calm to the shaken money markets.

Earlier this week, the US Fed made $20bn (9.9bn) available to major banks, while the ECB pumped $500bn and the Bank of England 10bn into the money markets in an attempt to bring down the rate at which banks lend to each other.

Inter-bank lending rates have soared recently as banks have become increasingly nervous about lending money because of heavy losses linked to problems in the US mortgage market and they have horded cash to shore up their own balance sheets.

A 'Foreclosure' sign is posted in front of a townhouse in a suburb in Virginia
The credit problems are rooted in the US housing slump

The central bank moves helped to improve sentiment in the run-up to Christmas but tensions have remained high.

There is the lingering fear that a prolonged credit freeze will eventually effect consumers in the form of higher credit card charges which could tip the fragile US economy into a recession.

Any problems in MBIA or its rival bond insurers could put more than $2 trillion of insured securities held by mainstream investors, such as pension funds and local governments, at risk, analysts warn.

Central position

MBIA had already been in the firing line from ratings agencies and Fitch has threatened to cut its top-notch AAA-rating on fears that its capital base was not sufficient to cover its liabilities.

Its AAA-rating is core to its business model and a downgrade would have deep implications for all the securities it insures, which would also lose their value.

It is thought by some analysts that in such a situation, the US government would have no choice but to intervene with a lender bail-out, which it so far it has refused to do.

MBIA and its counterparts were originally set up in the early 1970s to offer investors insurance on municipal bonds and enable less credit-worthy county or state governments to raise money.

Subsequently, they have expanded into more complex debt structures, including that linked to risky US sub-prime loans.

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