Posted on 08/10/2009 12:04:53 PM PDT by h20skier66
If I told you that an investment in California was riskier than Russia, would that surprise you?
Well according to the current prices for 10-year credit default swaps, Russia is less likely to default on its debt than the state of California.
Credit default swaps are basically credit insurance. As the likelihood that a debtor will default on its debt narrows, so does the cost to insure that debt.
As the chart below shows, it costs 278 basis points of the principal amount to insure State of California debt and 268 basis points to insure sovereign Russian Federation debt.
(Excerpt) Read more at commoditynewscenter.com ...
Wow, that's a mouthful.
I don't think I can bear to see where the swaps on US debt are.
Last I paid attention, they were down to about 25 bps. At one point, they were up to over 80bps.
I would add that it is pointless to worry about default swaps on US debt. If the US ever defaults on a single debt issue, you and I will have much larger issues to worry about than what the swap spreads are.
Perhaps. But I'd never ignore what the market is saying about anything.
I've just been out of the loop for a while.
The idea that the market anticipates a default would portend some very interesting events in finance and government, affecting pretty much everyone, everywhere.
That’s true, but the CDS market has “said” some pretty irrational things of late.
For example, the CA vs. Russia thing. California is as loopy as liberal come, and their finances are a mess, but they must service their debt. It is in their constitution. They have no choice; if they try to default, debtors can take them to court and say “You have enough to pay your education expenses, and you have more than enough to pay us!” and a whole lot of loony projects get canned while the two topmost fiscal priorities are paid for.
In Russia, go ahead and try taking anything into a court. Russia isn’t a market for those who don’t use force of arms to enforce their contracts.
Well, hopefully we can avoid that set of circumstances.
And your point is understood. But the market is voting on a multitude of relevant variables, including, for example the likelihood of a deterioration in the rule of law for any period of time.
The final point being that understanding the terms of these contracts, which I gather are pretty sublime, is a real edge.
Oh, absolutely! The fine print of what constitutes a “default” action for the terms of the swap is where you really, really want to dig in and understand things. Some of these contracts toss in a bunch of actions which, while material and valid concerns, do not constitute a “default” on the debt in the literal sense.
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