Credit evolution

Global banks and securities dealers have written down more than $180 billion of direct exposures to subprime debt and collateralised debt obligations (CDOs). And a number of major banks reporting their results in February say they've put the matter behind them. But they say so with a caveat - and it's a big one - that this assumes matters won't deteriorate further.

It looks like reverberations of the subprime debacle, along with associated funding issues and the crunch in broader credit markets, are far from over. And some of the squeeze seen in Europe and the US is now being felt more keenly in Asia. Melbourne-based ANZ Bank chief executive Mike Smith says the dislocation in the region is still "understated" and overseas credit markets are "the toughest in 50 years".

The frantic efforts of financial institutions worried about their own exposures, combined with seeming political pressure on Moody's Investors Service and Standard & Poor's to maintain their AAA ratings on the world's two biggest monoline insurers, Ambac and MBIA, demonstrates the level of concern about further credit contagion.

Our cover story assesses some of the challenges faced by the rating agencies and monolines, along with the implications of monoline downgrades on financial institutions in Asia. While Ambac and MBIA had retained their AAA ratings from the two major rating agencies as of press time, Fitch had downgraded Ambac to AA. Fitch has arguably been the most active of the agencies in reviewing its policies and taking rating action. As our article on page 18 says, the agency is considering altering its ratings on corporate CDOs. This could spark more writedowns, although it appears the impact would be less acute in Asia than elsewhere.

Indeed, local banks have started to use the credit crunch to their advantage. For example, there is evidence that some large regional banks are squeezing rivals that have over-relied on the capital markets for funding. Among those that spring to mind are Australian banks and troubled mortgage lender Rams Home Loan Group.

Cash-rich Asian banks are also being asked to help bail out some of the financial institutions and special investment vehicles (SIVs) facing acute problems outside the region. So far, they have resisted investing in the proposed super-SIV and monoline insurers, but they have bought chunks of some of their weakened Western counterparts, which may represent good value. Local banks are also funding leveraged buyouts, where cash-strapped international banks appear uninterested in deals over $1 billion. There should also be some opportunities in using their local knowledge to pick up distressed credit assets that the market may be currently undervaluing.

By Christopher Jeffery.