AAA Downgrades!!!

This is big. Personally this may be the biggest piece of news that I have seen in several weeks. It was on calculated risk blogspot but I wanted to editorialize a moment so included it here as well.

http://www.housingwire.com/2008/04/22/stick-a-fork-in-it/

Moody’s Investors Service has decided that it’s finally time to downgrade investment grade subprime RMBS — you know, the Aaa-rated stuff? Between Monday and Tuesday, calculations by Housing Wire show that the rating agency has slashed ratings on 1,923 tranches from 232 separate subprime RMBS deals from 2005-2007 vintages.

The downgrades surely tally into the multiple of billions worth of subprime debt, and portend additional earnings pain for many market participants — write-downs on the value of RMBS in a portfolio usually aren’t marked up until a downgrade takes place.

I think I posted the link below awhile back but everything has been getting downgraded except the AAA rated stuff. It looks like this may be changing. This is very important for many reasons. The first is that the Level 2 and Level 3 assets on investment banks books are typically marked to model which is based on these ratings. A security may not ever get traded and have a bid of 85 and ask of 98 and it gets marked on the investment banks book at 98 because it is still AAA. Now that these downgraded have started that probably means more writedowns. More importantly is the fact that this could limit the collateral the banks can bring to the FED. The FED only accepts AAA mortgage paper so as that disappears that could cause another wave of liquidity issues. The market reaction to all this may not be seen for weeks or months but fundamentally I think this is a very big story.

The Bloomberg piece awhile back talking about the AAA rated paper not getting downgraded.

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aRLWzHsF16lY