WASHINGTON--The Securities and Exchange Commission is investigating insurers, as well as other financial institutions and rating agencies, for their role in securitizing subprime loans, SEC Chairman Christopher Cox said today.

Mr. Cox in testimony today before the Senate Banking Committee also blasted Congress for failure to give any federal regulatory agency the authority to regulate investment bank holding companies like American International Group, saying it was a "costly mistake."

New York-based AIG's holding company is a financial services company regulated by the federal Office of Thrift Supervision, according to the New York Department of Insurance.

Mr. Cox did not identify specific firms that are being probed. "The reason for this aggressive enforcement investigation is the significant opportunities that exist for manipulation in the $58 trillion CDS [credit default swap] market, which is completely lacking in transparency and completely unregulated," Mr. Cox said.

He called this "another regulatory hole," and said Congress must act to close this hole in order "to avoid similar consequences," for example, the problems that brought down AIG and Lehman Bros.

The reason, he said, is that the markets provide speculators with "outsized incentives" to home in on those financial institutions involved in the CDS market.

It was just such speculation that caused AIG's stock price to plunge, thus preventing it from raising new capital and forcing it to turn to the federal government for a huge loan in return for 79.9 percent of its stock.

Mr. Cox was among several government officials who testified before the banking panel as its members continued negotiations with the Treasury Department over creation of a $700 billion fund designed to purchase subprime and other assets from insurers and other financial institutions in order to avoid a financial meltdown.

The legislation sought by Treasury would create the Troubled Asset Relief Program, or TARP.

It was AIG's heavy involvement in the credit default swaps market--a business it conducted since the 1990s through an office in London--that forced the company to seek a federal bailout in order to avoid bankruptcy.

Mr. Cox said the SEC currently has "over 50 pending law enforcement investigations in the subprime area."

He said the agency's subprime enforcement efforts fall primarily into three broad categories: first, subprime lenders; second, investment banks, credit rating agencies, insurers and others involved in the securitization process; and third, banks and broker-dealers who sold mortgage-backed investments to the public.

The reason for the problem is the failure of the Gramm-Leach-Bliley Act, passed in 1999, "to give regulatory authority over investment bank holding companies to any agency of government," he said.

Based on the experience of the last several months, Mr. Cox said, that was a "costly mistake."

Moreover, he said, the $58 trillion notional market in credit default swaps-- double the amount outstanding in 2006--"is regulated by no one" and must be addressed promptly in order to "avoid similar consequences."

The reason, he said, is that "neither the SEC nor any regulator has authority over the CDS market, even to require minimal disclosure to the market."

He said that SEC's Enforcement Division is "focused on using our antifraud authority, even though swaps are not defined as securities, because of concerns that CDS offer outsized incentives to market participants to see an issuer referenced in a CDS default or experience another credit event."

Yesterday, New York Gov. David Paterson and Insurance Superintendent Eric Dinallo said that certain credit default swaps sold to provide protection for buyers of bonds qualify as insurance, which is state regulated, and beginning in January they will implement stiffer regulations.

Gov. Paterson called on the government to implement rules for other forms of CDS that do not qualify as insurance to limit harm to markets from damaging speculation.

Special Reports /

Cox: SEC Probing Insurers' Role In Subprime Loan Crisis

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