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

Which development is most closely associated with the loss of confidence in ratings of structured products when the crisis began, leading to a sudden fall in market liquidity for these securities?

Mass downgrades of AAA-rated mortgage-related securities exposed that ratings had understated risk. Investors who had relied on ratings instead of their own analysis withdrew, could not value the assets, and liquidity in structured product markets dried up.

  1. ARating agencies announced that all structured products would be rated by regulators
  2. BMass downgrades of AAA-rated mortgage-related securities revealed that ratings had understated risk, and investors who relied on ratings stopped buying and could not value the assetsCorrect
  3. CCentral banks began purchasing all CDOs at par
  4. DCorporate bond ratings were upgraded in large numbers

Explanation

Large-scale downgrades of AAA mortgage-related securities showed the ratings had not reflected true risk. Investors who had relied on ratings rather than their own analysis stopped buying and could not value the assets, so market liquidity collapsed. The other options describe events that did not occur or would not reduce confidence.

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