Posted on 10/20/2008 12:18:15 PM PDT by reaganaut1
Cannot excerpt, article at http://www.portfolio.com/views/columns/wall-street/2008/10/15/Credit-Derivatives-Role-in-Crash
ping
http://www.portfolio.com/views/columns/wall-street/2008/10/15/Credit-Derivatives-Role-in-Crash
Working link.
http://www.portfolio.com/views/columns/wall-street/2008/10/15/Credit-Derivatives-Role-in-Crash
What about the 5-year ARMs that mature next spring? Should be good for another summer of discontent.
Can somebody explain to me the underlying CDS value of 56 Trillion dollars? 100 Trillion? Or 1 Trillion?
Cause it ain't getting any clearer. And if these derivatives are out there lingering, this economy will not get better until the fountain is capped and the debt is written off or paid off.
“Can somebody explain to me the underlying CDS value of 56 Trillion dollars? 100 Trillion? Or 1 Trillion?
Cause it ain’t getting any clearer.”
A CDS is an insurance policy on debt that pays off if the borrower fails to make a payment. A CDS that insures against $1 billion of defaults of debt payments by company XYZ would have “notional value” of $1 billion. The CDS might be sold for only $10 million if the seller thought the risk of a default was only 1%. If suddenly the market thinks company XYZ has a 10% chance of defaulting, the seller has to put up much more collateral to prove it can make the debt payments if the underlier does not. AIG went bust because it could not post the collateral it was obliged to for the CDS it had sold.
Wall Street too.
They should have managed risk better.....isn’t that what MBA degrees are for????
They did. That is why your grandkids will be paying this off. They managed the risk right into everyone's lap. Profits are long gone though.
Okay... so the world is up for about 5-10 trillion dollars of real asset loss b/c of these? I understand that nobody has any clear idea of how much the world is on the hook for these. Further, I also have read they are being regulated now and they are not being regulated now. I also, in my gut, believe they will linger until the system collapses.
“J.P. Morgan continues to dominate the world of derivatives. It has derivatives contracts tied to $90 trillion of underlying securities. Of that, $10.2 trillion are credit-derivatives contracts. Those mind-boggling totals are somewhat misleading. They reflect what is called the “notional” amount in the world of derivatives, based on the underlying amount of the contract, not its current value. When offsetting contracts are taken into account, that figure is whittled down to a much smaller—though still enormous—$109 billion of derivatives, of which $26 billion are credit derivatives. That’s the amount the bank could lose if all its trading partners went out of business, an extremely remote event. But the exposure is climbing, up 17.4 percent from the end of 2007. That’s equal to 20 percent of the bank’s net worth.”
The $10.2 Trillion Credit Derivative Contracts total in the market is the result of multiple re-insurance contracts on the same debts. Bundles of Debt have been passed from one re=insurance contract to another, with each successive insurer taking a smaller percent risk and a smaller slice of the insurance premium. Looking at the numbers the average credit derivative must have been reinsured 500 times. (10.2 Trillion divided by 26 Billion)
thanks
“Okay... so the world is up for about 5-10 trillion dollars of real asset loss b/c of these?”
No, because the vast majority of these transactions are offset by other transactions. Banker A sold insurance to B, but he bought the same insurance from C, who in turn bought it from D, ... . If there was a central clearinghouse, as there is for S&P 500 index futures, the amounts outstanding would be much smaller. The next Congress will probably require that such a clearinghouse be created and that CDS use it.
In theory, I would say that OTC derivatives should not be regulated, because only institutional investors are playing, and they should be able to manage their own risks. It appears that in reality, the bankers cannot be trusted to act responsibly and not create “systemic risk”. Thus their freedom is going to be reduced.
At last, an explantion in plain English
If there is 56 trillion dollars worth of CDS- what is the underlying value? Nobody has any answer.
If the same ratios apply, then take the total Market value of all CDS and divide by 500, thendivide by 100 to give the total loss that would be applicable if 1 percent of the underlying corporations went bust. Not a very large number.
The danger is that speculators can short sell a corporations CDS, and at the same time short them in the Equity Market, triggering all sorts of things that will atificially force the underlying debt to become due. If speculators have enough money they can pick off all the underlying Companies one by one, and then go after the Banks and Insurers who will then be exposed to a new kind of Toxic CDI, and see a replay of the Mortgage derived Toxic Debt crisis.
In effect what we are seeing is a financial Putsch (a plotted revolt or attempt to overthrow a government, esp. one that depends upon suddenness and speed). If it can be shown that foreign Governments were co-ordinating this, it would be an Act of War. People like Soros may in fact be Agents of a Foreign Power.
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