Thump553
Lifer
- Jun 2, 2000
- 12,837
- 2,622
- 136
From the dribs and drabs I know of insurance law and regulation, I'm absolutely astonished that anyone in the government could ever permit CDS to exist in their current format. They violate many of the basic rules of prudent insurance regulation, such as:
-no regulatory overview at all,
-no reserve requirements,
-no requirement that the purchaser have an insurable interest in what the CDS covers (opens the door wide open to fraud, or as we have seen in the last year, bear attacks destroying good companies).
I know the dollar is king and deregulation has been the holy mantra for the past decade plus, but looking back at this I feel like the kid in the emperor wears no clothes story.
For those who know more about CDS, I have a couple of questions:
1) Obviously better regulation is needed. What harm would be caused by an immeidate moritorium on no new CDS of any kind by any regulated institution (or at least those on life support by the feds).
2) Do CDS provide any real value other than a false sense of security? Would we be better off just barring them in the future and instead having investors rely on their own due diligence and risk tolerance? Would this be a reasonable first step towards avoiding the "too big to fail" problem in the future, ie, no more AIGs.
-no regulatory overview at all,
-no reserve requirements,
-no requirement that the purchaser have an insurable interest in what the CDS covers (opens the door wide open to fraud, or as we have seen in the last year, bear attacks destroying good companies).
I know the dollar is king and deregulation has been the holy mantra for the past decade plus, but looking back at this I feel like the kid in the emperor wears no clothes story.
For those who know more about CDS, I have a couple of questions:
1) Obviously better regulation is needed. What harm would be caused by an immeidate moritorium on no new CDS of any kind by any regulated institution (or at least those on life support by the feds).
2) Do CDS provide any real value other than a false sense of security? Would we be better off just barring them in the future and instead having investors rely on their own due diligence and risk tolerance? Would this be a reasonable first step towards avoiding the "too big to fail" problem in the future, ie, no more AIGs.
Phokus
Lifer
- Nov 20, 1999
- 22,994
- 779
- 126
Being unregulated is anarchy, not free market. Ok. You don't even know what you're arguing anymore. Sounds like you want... s-s-s-s-s-ocialism!
no no no, government regulation is for commies and stifles economic growth, why would you say this? Give me your republican card NOW!
StageLeft
No Lifer
- Sep 29, 2000
- 70,150
- 5
- 0
Lord, I was serious about the nukes. Think, if every little pissant country had nukes, MAD would be the world-over, the end to all war! Actually, I'm kidding, but isn't this the premise behind a jules verne story? I saw it briefly on TV, the protagonist was patrick stewart.
OK, back on topic. CDS bad.
OK, back on topic. CDS bad.
1) Totally agreed. I think the market flies up on news like that. The people against it are the ones on the 'right side' of the 'bet'.
2) CDS have real value, when proper margins and collateral is posted and monitored on a daily/nightly basis. This is done on the stock exchange and one of the reasons you can't do naked shorts forever against a stock that is going up because your margin will get called. If someone wants to post collateral to insure someon else's debt so be it. But lets see on the exchange who is issuing the insurance, how much is the cost, what is the margin requirement etc.
I think those requirements mitigate the whole 'insurable interest' requirement because you are posting collateral, meaning I don't think AIG could have ever afforded to issue 300-500 or god knows how many billions of CDSs in the first place.
Michael
Elite member
- Nov 19, 1999
- 5,435
- 234
- 106
I'm not sure why entering into a position as is noted in the article is so bad. It just seems like a hedge in that you go long and then hege it on the short side. Because the market for both bonds and the insurance is not working efficiently, there is an extra margin to be made.
If the CDS didn't exist at all, the original debt probably would be more expensive which may be threatening the corporations even more because of a higher interest rate.
There have been plenty of times in the past (before CDS ever existed), where firms would buy bonds that they thought were undervalued specifically to force the company into bankruptcy and to gain control of it at what they thought was a good value. That is simply what happens when a company borrows money and agrees to terms.
I'm also not so sure why there is gnashing of teeth about these "evil doers" destroying jobs. The company borrowed money (for whatever reason). Outside creditors have been funding those jobs via the debt they lent to the company. If the company cannot meet their obligations under the debt, shouldn't the people that own the debt have the right to collect it to the extent that they are owed the money. If the company goes through Chapter 11, many of the jobs will be saved. If Chapter 11 doesn't work, then the company can't support the jobs.
-----
Please note that the above just addresses the trade of owning the debt and the CDS. Like everyone here, I think that CDS probably are a good idea but that they were poorly implemented and controlled. The hugest risk is that the main people that issued them fail and that cascades through the people who own the bonds that then have to mark them down further. This risk is large because there really was no regulation and firms like AIG issued huge amounts of CDS far beyond what they could ever pay if something like what is happening now ever happened.
Michael
If the CDS didn't exist at all, the original debt probably would be more expensive which may be threatening the corporations even more because of a higher interest rate.
There have been plenty of times in the past (before CDS ever existed), where firms would buy bonds that they thought were undervalued specifically to force the company into bankruptcy and to gain control of it at what they thought was a good value. That is simply what happens when a company borrows money and agrees to terms.
I'm also not so sure why there is gnashing of teeth about these "evil doers" destroying jobs. The company borrowed money (for whatever reason). Outside creditors have been funding those jobs via the debt they lent to the company. If the company cannot meet their obligations under the debt, shouldn't the people that own the debt have the right to collect it to the extent that they are owed the money. If the company goes through Chapter 11, many of the jobs will be saved. If Chapter 11 doesn't work, then the company can't support the jobs.
-----
Please note that the above just addresses the trade of owning the debt and the CDS. Like everyone here, I think that CDS probably are a good idea but that they were poorly implemented and controlled. The hugest risk is that the main people that issued them fail and that cascades through the people who own the bonds that then have to mark them down further. This risk is large because there really was no regulation and firms like AIG issued huge amounts of CDS far beyond what they could ever pay if something like what is happening now ever happened.
Michael
Soccerball is an irresponsible citizen who has adopted an ideology in ignorance and advocates wrong policies as a result.
It's becoming clearer and clearer to more people (many insiders understood early) just how these scams have been disastrous, how deregulation allows for *dangerous* practices to be practiced, and copetitive pressures force most to go along and do the same practices or lose business and profit.
If you are a company wanting to insure financial products resonsibly, and your competitor is using the shortcut insurance of CDS, they have a great advantage over you.
It really comes down to one thing, the failure of our political system to prioritize the national interest ahead of the financial industries' interest in short-term gains.
People like Soccerball are a good indication how that happens - when elections are about 'who you want to have a beer with', our democracy is pretty broken.
When big political donations by the monied interests can buy ads that sell the public on garbage issues - about expensive haircuts and whatever other nonsense - then our system is not working well, it's run by the few and not the many, and you get results that reward the few at the expense of the many.
One sad thing is how it took a crash to make anyone noice; these were problems, because of excessive profit gouging and risk, for a long time before the crash.
I'm not sure I understand your position, Michael. If I own GM Bonds face valued at 100 million dollars and I have Credit Default Swaps hedging that GM will fail valued at 110 million, what do I do if GM comes to me and says, we might be able to save GM if you will agree to reduce the interest rate on our bonds? On a purely money basis, I'd hope GM fails and so I'd refuse to re-negotiate the bond rates. (This is one of many examples and not necessarily meant to be anything more than illustrative.) So, I will make money if GM fails and 2 million people will lose their jobs. Exactly how is this good for capitalism, the American people, or the US government, to say nothing of the rest of the world? If you want to destroy capitalism, this is certainly one way to do it. If anything cries out for regulation it is these instruments of "terror". We need a new war on "terror" perhaps?
-Robert
As posted in the cartoon thread, Jon Stewart had a nice segment on AIG and credit default swaps last night:
video link
video link
Stewart makes an excellent point about CNBC and Bloomberg. Where were they when all this was going down? They were always the rah-rah boys for the market. Voices of reason were rare....Fox News as well. A year ago if you said the R word on Fox News you were either a kook or a left wing troublemaker, or so they said. This is what happens when people confuse news with entertainment.
-Robert
I agree with you about Stewart's point, but I don't think the issue was so much news versus entertainment, as the simple fact that people don't really care for the invisible warnings as much when they're needed, and that the money to be made was in trading, not caution (for the financial industry, anyway).
This may be a stretch, but think of how teens are far less interested in the cautionary tales about drugs than in the exciting, exotic, mysterious effects they DO have.
You will bore them to tears the more you 'warn' them, but excite them greatly with stories of their use.
That almost sounds a little like 'news versus entertainment', but if that were the case, you don't watch CNBC for 'entertainment', there are other channels for that.
I think it's more that there's the ongoing warnings for years about this and that that don't immediately make you money - but did you hear about the great returns from Madoff?
3 notes.
1. i'm a "free market pumper". i call it the "lemonade stand thing".
2. judging free markets by the behavior of CDS markets is like judging baseball players by the behavior of Pete Rose.
these credit derivative shenanigans were made ILLEGAL at the end of the 1930's Depression, via the Glass Steagall Act.
then, in their infinite wisdom/ greed, Texas Repub. Senator Phil Gramm and pseudo-Democratic Pres. Bill Clinton repealed Glass Steagall in 1999, via the "Commodity Futures Modernization Act."
3. free markets are not inconsistent with socialism. you can have both. ask the Swedish multi-billionaire that started Ikea. so when you use the term, "free market pumpers", that implies that there's an either/or choice, that it has to be one OR the other. not true.
i just wish Obama had the guts to pay for the inevitable bailouts by seizing the assets of the hedge funds & other sleazy operators.
remember, even though people are losing $trillions now, they made many more $trillions "on the way up". that seems like a logical place to look when needing to take drastic measures to clean up the situation.
Jeez. Obama's getting gray hairs fast.
http://www.msnbc.msn.com/id/29524174/
Michael
Elite member
- Nov 19, 1999
- 5,435
- 234
- 106
chess9 - And why would I care to help GM even if there were no CDS in the mix? I would only do that if I thought I would recover more if it didn't go into Chapter 11 if enough bond holders reduced their terms. Usually, that is done by a judge in Chapter 11 and if I have senior enough debt, why should I give away what GM has already given me?
If a CDS gets paid out, you don't get more than the face value of the bonds. If I owned the bonds (which I put out cash for) and and a CDS (which I also put out cash for) and the total outlay is less than what the CDS would pay me, why wouldn't I take the profit on my investment.
There's a whole level of ethics discussions that can be wrapped around this, but, on a purely investment point of view, I'm aiming for maximum return. It isn't my responsibility to keep GM from failing, that is GM's management and GM's Board of Directors responsibility. I don't own stock, I own debt.
Personally, I wonder if the CDS would even pay out or if there would be another cascade of failed counter parties.
Michael
If a CDS gets paid out, you don't get more than the face value of the bonds. If I owned the bonds (which I put out cash for) and and a CDS (which I also put out cash for) and the total outlay is less than what the CDS would pay me, why wouldn't I take the profit on my investment.
There's a whole level of ethics discussions that can be wrapped around this, but, on a purely investment point of view, I'm aiming for maximum return. It isn't my responsibility to keep GM from failing, that is GM's management and GM's Board of Directors responsibility. I don't own stock, I own debt.
Personally, I wonder if the CDS would even pay out or if there would be another cascade of failed counter parties.
Michael
StageLeft
No Lifer
- Sep 29, 2000
- 70,150
- 5
- 0
Michael has to be right. Anybody who owns a CDS that pays out with the failure of GM, and they have no other vested interest in GM (like a loan already made) will obviously be completely out of the running for lending. If they call their buddy and say hey I just bought some insurance against GM because it's gonna die and their friend is like sweet, I will do that too, it does decrease the lending options. Moreover, those who don't have a vested interest will wonder why so many CDS' are saying GM will fall and thus even if they lend money it would be at a higher rate.
The example was only meant to be illustrative, and the $110 million was to cover lost interest and costs over $100 million (what they would pay is another issue), in this example.
But, I disagree that investors should, in any way, be allowed to set up a position that would ultimately lead to the failure of a strategically important company. That's not open markets, it's suicide. Simply because GM has structural and market penetration issues is not enough. This is akin to pushing a suicidal man off the ledge.
GM could restructure outside of bankruptcy with the forebearance of its creditors. It's often done. They don't have to liquidate or file Chapt. 11. Without forebearance of an insured bondholder, GM would be forced into liquidation or Chapter 11 where only the US Government could provide the DIP financing.
Should insured bondholders worry that AIG might not pay? LOL! Yes, and that's Michael's best point, IMHO.
All of this needs to be looked at carefully by the regulators. The horses are out of the barn, but after they round them up maybe they can keep them at home.
This is all my opinion, and is worth what you've paid for it, I'm sure.
-Robert
But, I disagree that investors should, in any way, be allowed to set up a position that would ultimately lead to the failure of a strategically important company. That's not open markets, it's suicide. Simply because GM has structural and market penetration issues is not enough. This is akin to pushing a suicidal man off the ledge.
GM could restructure outside of bankruptcy with the forebearance of its creditors. It's often done. They don't have to liquidate or file Chapt. 11. Without forebearance of an insured bondholder, GM would be forced into liquidation or Chapter 11 where only the US Government could provide the DIP financing.
Should insured bondholders worry that AIG might not pay? LOL! Yes, and that's Michael's best point, IMHO.
All of this needs to be looked at carefully by the regulators. The horses are out of the barn, but after they round them up maybe they can keep them at home.
This is all my opinion, and is worth what you've paid for it, I'm sure.
-Robert
I think the problem with CDS (esp if you have no other interest in the company) is that they can create cascading failures if say, GM fails, and the banks have trouble paying and covering the CDSs they have issued. Even if they have the cash to cover, they might not have enough cash to do OTHER economically important things, like make home loans.
Nemesis 1
Lifer
- Dec 30, 2006
- 11,366
- 2
- 0
Do you really think your ready to understand The ponzi scam . I don't . I don't believe you will take the time to view this entire collrction . But heres the first one in the series.
What your about to see isn't conjecture its Fact . Its math . Math cann't lie. Do you really want to know the trueth. Do you have the time to learn the trueth. Do you even care?
This is a hard lesson . But to understand the greatest Ponsi scam of all. Their trying to get Americas food supply. Thats what most everthing going on around us is about. Borrowing more deeper debt. We can pay they take over our industries. Ship our food away. We starve.
http://www.youtube.com/watch?v...rkpBSY&feature=related
What your about to see isn't conjecture its Fact . Its math . Math cann't lie. Do you really want to know the trueth. Do you have the time to learn the trueth. Do you even care?
This is a hard lesson . But to understand the greatest Ponsi scam of all. Their trying to get Americas food supply. Thats what most everthing going on around us is about. Borrowing more deeper debt. We can pay they take over our industries. Ship our food away. We starve.
http://www.youtube.com/watch?v...rkpBSY&feature=related
some peopel might argue that socialism can make markets more 'free' in as much that government can relieve the problems of market failures.
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