Michael Shulman

   

A consortium of 10 large banks and investment banks that announced a $70 billion fund that will theoretically provide liquidity to participating banks that can't get funding from the Fed or other sources doesn't seem to think so. I'm with them.

AIG UNDER SCRUTINY

I've been calling for Dow 10,600 for months now -- and for the drop to be driven by the combined and intertwined problems of the housing and financial industries -- and I'm more certain than ever that we'll hit that, and for those very reasons.

Going forward, we can also expect two more legs down in the financial sector. There's going to be more than a few headaches in the days to come. Most eyes are on the fate of one Dow component in particular, American Insurance Group (AIG).

AIG is connected to nearly all of the players in the financial markets -- if it goes under or becomes insolvent, it will impact the financial system in a big, bad way.

The company is asking the Fed for money, and the cost of insuring its bonds doubled overnight. Stock futures have the stock down 50% or so.

AIG is raising money in hopes of avoiding downgrades that will (further) rock the company to its core. But even with the help of the Fed and the dramatic unwinding of several of the company's businesses to raise money, it still may not be enough.

The company's losses -- $18.5 billion in the last three quarters -- have been widely attributed to a decrease in the value of credit default swaps tied to subprime mortgages, which it sold to protect its debt investors.

Lehman was also a big player in the credit-default swap game, and you see where it ended up.

'SWAPPING' ONE PROBLEM FOR ANOTHER?

Credit default swaps are under the "derivatives" umbrella and are basically insurance on bonds issued by these parties. A bankruptcy or ownership change activates these swaps. If the insured bond is at the same value, or near the same value, when purchased, it's not a big deal.

But what happens if they are not?

Then whoever issues these swaps must make the buyers whole. This can create all sorts of problems for hedge funds.

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