The spike in delinquencies has affected not only the mortgage holders but also other segments of financial markets, including the market for asset-backed commercial paper. As background, the commercial paper market links investors directly with corporate borrowers without intermediation by banks. About half the current commercial paper market is so-called SIVs that invest in financial assets. Holders of the asset-backed commercial paper obligations of SIVs came to recognize the increased risk and, in many cases, refused to roll over or refinance the short-term debt of these borrowers.
In turn, the securities that included significant amounts of the subprime mortgages became hard to value. The secondary market for these securities shrank dramatically. I would describe this development as a closed loop. Valuation uncertainty reduced secondary market trading. Little or no trading made it even more difficult or impossible to value the securities by market price.
Faced with these valuation difficulties, broader market participants have become wary of classes of structured debt securities beyond subprime. For instance, markets for jumbo prime mortgages also experienced liquidity problems.
Investment funds believed to be heavily exposed to subprime mortgage—backed securities and other structured debt securities have faced some redemptions and cancellation of borrowing facilities used to acquire the securities in the first place. This development forced sales of other classes of securities in their portfolios, and institutional sponsors of these investment funds have been called upon to support their distressed funds.
Many investment funds bought these securities "on margin" (using debt), and this fact is important. By employing leverage, many funds pursued enhanced returns. Efforts by investment funds to improve their liquidity and reduce exposure to risky assets involved reducing the amount of outstanding debt. This process—called deleveraging—appears to be widespread across the financial system.
The recoiling from risk in general is affecting an unrelated market—the leveraged loan market used by private equity deal sponsors. This market has backed up markedly—loan commitments intended to be syndicated have not been able to close because of weak distribution prospects. By some estimates, more than $400 billion of such financings are in backlog.