type ofswapdesigned to transfer thecredit exposureoffixed incomeproducts between two ormore parties. The buyer of the swap makes payments to the swap’ssellerup until thematuritydateof a contract. In return, the seller agrees that, in the event that thedebt issuerdefaultsorexperiences anothercredit event, the seller will pay the buyer the security’spremiumas wellallinterestpayments that would have been paid between that time and thesecurity’smaturitydate3.A covered CDS is wherein the protection buyer owns instruments issued by the reference entity.Thus it helps the owner of the asset / instrument to manage the risk associated with theinvestment which is similar to the insurance contract. In case the protection buyer does not ownparticular reference obligation, the covered CDS engulfs the shape and form of a ‘naked’ CDSthus divulging from the motive of insurance onto speculation4. If an insurer acts as a protectionseller, then it is exposed to a negative impact due to an increase in credit risk. Huge CDS lossesare inevitable against a fall in the value of a portfolio of mortgage-backed securities. Followingthe subprime crisis, AIG’s credit portfolio depreciated by USD 11 billion in Q4 2008 with a lossof USD 5.3 billion5. Numerous U.S. insurers have already begun to set up reserves for potentialclaims following the financial crisis.III. Impact on specific insurance sector segments and companiesa. US mortgage insurance companies:The crisis began with the US residential mortgage market and these entities survivalhinged on mortgages retaining or increasing in value. Thus the US mortgage insurancecompanies witnessed the brunt of the financial crisis, 2007. These insurance companies3 Investopedia, 20154 New York State Insurance Department Circular Letter , 20085 Sjostrom, 20094 | P a g e

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Investment, PMI, and Insurance Companies in the Financial Crisis

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