Bond Outlook February 27th
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Bond Outlook February 27th

If you thought that banks had already recuperated off-balance sheet vehicles, think again. Variable Interest Entities, an Enron device, have yet to play out with the downgrading of monolines.

Bond Outlook [by bridport & cie, February 27th 2008]

The scenario we spelt out last week of the splitting of the monoline insurers into two, with the municipal side maintaining its AAA rating and the corporate and asset-backed side being downgraded, is gradually unfolding. The implications for the corporate bonds remain as dire as we described last week, and there is a little more detail on how the vicious circle will develop.

Just when we thought that the banks had done the right thing in bringing onto their balance sheets the special investment vehicles using CDOs to back commercial paper issued on behalf of corporate customers, a new three-letter abbreviation has raised its ugly head: the VIE or Variable Interest Entity. VIEs sell short-term debt backed by securities and often insured against default. Actually VIEs are not so new. For corporate accountants the term entered general usage in January 2003 with the post-Enron issuance of Financial Accounting Standards Board (FASB) “Interpretation No. 46, Consolidation of Variable Interest Entities”. This rules that, regardless of the absence of a formal equity participation, the majority bearer of the loss or beneficiary of the profit of a VIE must consolidate the performance of the VIE into its financial statements.

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