Credit-Default Swap Risk Bomb Is Wired to Explode: Mark Buchanan

[dipsydoodle]

The European sovereign debt crisis stands as the latest in a long line of similar crises. Argentina in 2001. Russia in 1998. Mexico in 1994. The list goes back into history. Debt crises are about as natural as earthquakes, but this time there is something different -- and possibly more dangerous.

The European nations are linked in a network of debts, as Bill Marsh recently illustrated in the New York Times with a beautiful piece of graphic art. Greece and Italy are prominent; Ireland, Portugal and Spain lurk ominously nearby. France and Germany seem exposed, too, as does the U.S.

The image is like a complex wiring diagram for a ticking debt bomb. Yet what it shows may be less important than what it leaves out: a largely invisible network of ties among institutions around the world, which could ultimately cause global financial chaos.

This hidden network has been created by institutions that buy and sell unregulated credit-default swaps. These are essentially insurance contracts on bonds; in the event of a default on the bond, the seller of the swap promises to pay the buyer the bond’s value.

http://www.bloomberg.com/news/2011-10-30/credit-default-swap-risk-bomb-is-wired-to-explode-mark-buchanan.html

[bemildred]

1. Dangerous to Whom? That is the question.

I have never owned any CDS. I don't see how having them shown to be the worthless crap that they are is bad for me, or bad for the public in general.

[Katashi_itto]

2. It's easy, look at it this way.

Currently with the bank bail outs we took over those "toxic assets" If we consider them real, which currently we do. The U.S. is in hock for 18 times it's current GDP.

China had the right ideas it simply declared them illegal.

@.5 weeks ago. BOA did it to us again for 72 trillion dollars.

Now the EU banks want 100 trillion to "recapitalize"

There are still more CDOs out there.

At a certain point (which many believe we have already passed) Fiat money simply "evaporates". Becomes meaningless.

Think of Monopoly money. Because thats what Fiat money really is. The only thing it has value is your belief that it will buy something. That it has "value" Wads of it tossed are being into the system (like whats happening) till it effectively chokes with it.

The reason is to satisfy debts that cannot be satisfied.

If we add up the potential CDO debts we hit several brace your self....Quadrillion dollars (ridiculous number isnt it?), with the compounding interest, you could hock the entire planet for centuries and never repay it.

Hence it is a ticking time bomb.

Dealing with it in a normal way you have a Global Greece

The interest rates compounding like a cancer increasing the debt with more CDO cominng due all the time.

The Powers that be, trying to build a road (i.e. maintain the Status Quo) draining everything through austerity measures to build this road, as the avalanche pours down behind...

[bemildred]

4. Right. But those are sunk costs, already in the can.

Not going to be fixed, ever. Stalling just makes it worse.

[Katashi_itto]

6. Absolutely right, but the Powers that be don't want to fix the problem.

[Katashi_itto]

7. Look up "Sunk Loss Fallacy". Thats whats happening here

They arent prepared to declare it a "Sunk Loss" yet. Some of the key players honestly think it can all be swept under the rug. Hence the current "strategy"

Besides why fix anything? The bankers keep getting rewarded. The politicians are bought whores, and will not fix anything.

In creating this delay, not dealing with anything, we effectively are riding the Titanic.

[bemildred]

11. It's all about control. You lose power, you become accountable.

The government does not have a problem with sunk costs as such, look at all the crap we are leaving in Iraq, the endless funds that are wasted on stupid efforts like the drug war or harassing disobedient foreign countries, the economic debacle that is our "health care" system. It is the accountablility for what they have done that will make them cling to any fig leaf that comes along.

But this is too big, too ridiculous, and there will not be time for it to fade away as they wish.

[Katashi_itto]

12. Your right on target. This is choking the current system.

The system could deal with a % of sunk loss, fraud, etc. But this is overwhelming it.

We could have real famine in the U.S. One day in the near future. we could wake up and it suddenly takes thousands to fill up your car.

[bossy22]

17. CDO is not the same as a CDS

infact they are two completely seperate forms of financial products

CDO- Collatoralized Debt Obligations
CDS- Credit Default Swaps

CDOs are essentially structured asset backed securities that can be tailored to a group or large markets need. Essentially its a portfolio of fixed income securities- Bonds, Loans, Mortgage backed pass through securities...etc.

CDS are essentially a tool for transfering credit risk- a form of insurance. One party pays the other party a premium and in return gets debt default protection

You can have a hybrid instrument- what is called a Synthetic CDO which is a just a portfolio of many CDS. This allows investors to get exposure to a market without actually owning such securities.

[dmallind]

3. In doomer theory, the problem is not the worthless ones but the valuable ones

Bookies don't worry about losing slips - they worry about winning ones where the default swap (which remember pays out when the underlying bond fails) needs to be paid. In that scenario the money to pay out the bets collapses the bank, its depositors and its employees (some doubtless customers of yours/your employer or who pay into your benefits - hence risk to you)

Where doomer theory ignores reality of course (and where the stupid numbers like the 600T they sometimes throw around come from) is that all the bets out there in large part cancel each other out. Just like a bookie couldn't care less whether he holds $100 or $1M in bets equally split for and against a 50:50 proposition, the banks cancel out if they hold $100B in worthless bonds and $100B in default swaps betting they fail. The silly number peddlers count that as $200B of risk.

[bemildred]

8. It really calls into question the whole discourse about "rational markets", does it not? nt

[Katashi_itto]

9. No such thing as a rational market. Just the "illusion" of one. :)

[banned from Kos]

13. You're right - Doomer Theory is seriously flawed.

Banks are like bookies on CDS - they collect the vig. They lay off the CDS bettors against each other.

I wonder why MF didn't have protection for their Euro-bonds? (not necessarily CDS though)

[Turbineguy]

10. You have to pay

because you don't own them. That's how it works.

[xchrom]

5. recommend for the conversation. nt

[Old and In the Way]

14. Why not a system-wide reset?

All assets and liabilities relating to these bogus securities become worthless. As part of this deal, re-institute strong regulation and the Casey-Steagall...separate investments and speculation from traditional banking. Obviously, there will be winners and losers, but until this gets unwound and cleaned up, the world economy is not going to recover and the system will remain frozen in a sea of illiquidity and strucural insolvency.

[Katashi_itto]

15. That effectively what the Chinese and the Icelanders did.

Iceland is doing fine..China is still highly exposed due to it's intertwining of markets with the rest of the world.

[Katashi_itto]

16. Also we need a resurgence of "Economic Nationalism"

for lack of a better term.