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FRM Part I · FRM Exam Part I · Anatomy of the Great Financial Crisis of 2007-2009

Before the 2007-2009 crisis, many structured investment vehicles (SIVs) and asset-backed commercial paper conduits funded long-term securities by issuing short-term commercial paper. What was the principal vulnerability created by this funding structure?

The key vulnerability was maturity mismatch. Long-term securities were funded with short-term commercial paper that needed constant rollover. When investors stopped buying new paper in 2007, the vehicles could not refinance and had to sell assets or draw on sponsor support, which triggered distress.

  1. AMaturity mismatch that exposed them to rollover risk when investors stopped buying new paperCorrect
  2. BExposure to foreign exchange risk from issuing paper in several currencies
  3. CExcessive regulatory capital charges that forced asset sales
  4. DInability to diversify because they could hold only government securities

Explanation

SIVs and conduits held long-dated assets financed by short-term paper that had to be rolled over frequently. When investors refused to roll over paper in 2007, the vehicles faced funding shortfalls and forced asset sales. They were not subject to heavy capital charges and held mostly structured credit, not only government securities.

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