Financial Risk Manager Part 1

Explanation

When Lehman Brothers filed for Chapter 11 bankruptcy in September 2008, the immediate effect was that the repo market froze. This occurred because:

• Collateral concerns: Investors became worried about the value of collateral backing repo agreements, particularly since Lehman was a major player in the repo market
• Counterparty risk: The bankruptcy revealed significant counterparty risk throughout the financial system
• Liquidity crisis: The freezing of the repo market created a severe liquidity crisis, as this market was crucial for short-term funding of financial institutions
• Systemic risk: The event demonstrated how interconnected financial institutions were and how the failure of one major player could threaten the entire system

This aligns with the vulnerabilities mentioned in the text about the repo market being backed by securitized mortgages and the lack of regulation that allowed risky practices to go unchecked.