Replies

Of the above named companies, do you know how many CDS contracts have actually settled, and for what amount they settled? The answer may surprise you.

Why don't you educate me?

I think that I already know your answer, and why that answer exists.

Remember, give me hard data.

While I am not privy to every individual fund's CDS holdings - which are closely guarded - I can tell you with accuracy that the bonds of most of the above named companies that are still outstanding are trading well above zero.

I have witnessed these transactions on TRACE.

This is due to the following factors:

(1) If you want to collect on an individual CDS contract you need to be in possession of defaulted bonds to deliver to your counterparty. If there are more CDS holders than bondholders, then the demand for the bonds rises well above zero.

(2) Many of the sellers of CDS contracts are naturally long the underlying bonds they sell CDS to finance their inventory - therefore a CDS contract holder will often find themselves trying to buy bonds from the person who sold them the CDS contract in order to satisfy the CDS contract.

(3) Most holders of CDS contracts do not hold individual CDS contracts, but have bought index contracts. For index contracts you do not have to deliver bonds, but you only get a certain number of index points for each default - not par on your index contract.

(4) For the riskier paper, CDS contracts trade in the secondary market at higher and higher prices as they change hands - the original CDS on AIG may have been purchased for 150 basis points. By the time default was near, people were buying them for 40 full points.

In sum, there turns out to be no free lunch - the notional amount of CDS out there, and the actual amount due on any given day is probably in the neighborhood of 10000:1.

Not to mention that many CDS contracts stretch out to a period of as long as 30 years.