Replies

also think that your scenario is only true when the rate of “default” is extremely out of wack with the discounted risk of default that was built into the cost/price of the derivative at origination and such defaults were occurring on a volume/scale among a whole class of those derivatives AT THE SAME TIME; that an entire class was in question.

That was the point which I was trying to make. Derivitives have been around for over 20 years. You and I have known little or nothing about them. That is because, like Options, or Insurance, they usually expire worthless. But the notional values are so staggering that if even one large entity is triggered (ie.Lehmans) it begins to destabilize IMMEDIATELY other buisnesses associated with the company who sold the derivitive (ie. AIG). AIG has its buisness in EVERY LARGE BANK IN THE WORLD!!!!!!!! To stop the flames Bernanke broke the law and gave AIG $85 billion IMMEDIATELY. If he had not done this, the entire banking world would have immedialtely destabilized. As it was only the 4th largest US Bank on Sept.16 failed. Think....The CEO of Lehman got up that morning, not knowning of impending doom of his company. By 1PM Lehman was no more. Billions of dollars in assets disappeared. DISAPPEARED. Common stockholders, preferred stockholders...not sure about the Bondholders....up in smoke. So now, the Fed got in the buisness on Sept 16 of underwriting insurance for banks by buying 79.9% of AIG. That is the story of which books will be writtten. PhDs will write their dissertations on Sept.16. Movies will be made about what happened in those few hours. This will be remembered as distinctly as 9-11 or Black Tuesday October 29, 1929. It is that remarkable.

I am not so sure how the Feds role with AIG will play out in the long run.

Separated from the one AIG unit that wrote most of its derivatives, the overwhelming rest of AIG, including its underwriting business, is very sound, and very profitable.

I don’t think the Fed is going to, directly, manage or direct any of AIGs units, but they will give a large dose of high-level financial direction; but, I think that too will not be permanent and will change whenever any “bailout” is finalized. Eventually, and that means as soon as possible, AIG needs to rejoin the fully private business world.

"The CEO of Lehman got up that morning, not knowing of impending doom of his company."

I find that hard to believe. If true, the CEO of Lehman must beincredibly stupid. The fact is these folks knew it was coming. They have depended on their contacts and behind the scenes machinations with the Congress and the Fed. Reserve to save them. Now they have found looting $700 billion from the American People isn't that easy.