Sunday, October 21, 2007

Worthless Overnight

Gee, this could be a problem:

For all the pain in the mortgage market, investors who hold bonds backed by risky home loans have continued to receive their monthly interest payments — until now.

Collateralized debt obligations — made up of bonds backed by thousands of subprime home loans — are starting to shut off cash payments to investors in lower-rated bonds as credit-rating agencies downgrade the securities they own, according to analysts and industry executives.

Cutting off the cash flow, which is governed by rules and mathematical formulas that vary by security, is expected to accelerate in the months ahead.

Such a cutoff would be the latest blow to financial markets as investors try to anticipate the next problem that might shake confidence.

The stock market, which ended down sharply on Friday across the board, in a week that the Standard & Poor’s 500-stock index dropped 3.92 percent, has been battered by renewed concerns over the credit crisis and about some weak earnings reports.

With such a re-evaluation, owners of collateralized debt obligations — investment banks, hedge funds, insurance companies and public pension funds — may be forced to write down mortgage investments beyond the billions they have already written off. Some bonds, for example, may go from being valued at, say, 70 cents on the dollar to becoming largely worthless overnight, bankers and analysts say.

Don't worry, Uncle Ben will lower interest rates to -2% and make sure everything works out.

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