U.S. insurers may be at risk of costly payouts spawned from the European financial crisis

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Euopean Financial CrisisMany U.S. banks have upped their insurance sales in Greece, Portugal, Ireland, Spain and Italy during the first half of 2011. The growth in sales is the result of the European financial crisis that threatens to plummet several nations into economic catastrophe. Banks have been selling insurance against credit losses in the nations more affected by the financial crisis, but the practice may be putting insurers at higher risk of costly payouts. As the crisis worsens, insurers are now looking for ways to mitigate the impact of defaults.

According to the Banks for International Settlements, the debt in the countries impacted most by the crisis rose by $80 billion this year. The debt in these nations now stands at a staggering $518 billion. These nations are now relying on the success of an ambitious insurance plan being constructed by the European Union to maintain a semblance of financial solvency. If the plan fails, however, U.S. insurers could be burdened with insurance payouts they may not be able to afford.

Insurers like JPMorgan Chase & Co., Morgan Stanley and Goldman Sachs have begun trading high-risk policies with other, smaller insurance companies as a way to reduce the risk of monumental payouts. Smaller insurers generally have fewer policies, meaning they will be able to handle to payouts of singular, high-risk events. Yet, the risk of major payouts does not disappear once the policies are traded, says Frederick Cannon, director of research at Keefe, Bruyette & Woods, an investment bank based in New York. Cannon says that once policies are traded, insurers will have to worry about counterparty risk, which makes ultimate responsibility for policies vague and may worsen the financial impacts of defaults.

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