Comments on: Are Credit Default Swaps Next? http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html Sun, 22 Nov 2009 03:53:33 -0500 http://wordpress.org/?v=2.8.4 hourly 1 By: Eric http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-368 Eric Tue, 14 Aug 2007 03:45:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-368 "I similarly expect any CDS problems will be triggered not by a corporate default, but by the growing recognition that in many cases, the protection writer doesn't have the wherewithall to make good on its commitments."<br/><br/>Maybe it will be BOTH corporate defaults AND a lack of commitments :)<br/><br/>I also wonder about credit card ABS. I think the days of rolling credit card debt over to 12 months 0% could also be coming to an end. Payment shock when mortgages reset is in the headlines, but what about credit card payment shock when the finance charges double? “I similarly expect any CDS problems will be triggered not by a corporate default, but by the growing recognition that in many cases, the protection writer doesn’t have the wherewithall to make good on its commitments.”

Maybe it will be BOTH corporate defaults AND a lack of commitments :)

I also wonder about credit card ABS. I think the days of rolling credit card debt over to 12 months 0% could also be coming to an end. Payment shock when mortgages reset is in the headlines, but what about credit card payment shock when the finance charges double?

]]> By: The Prudent Investor http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-367 The Prudent Investor Tue, 14 Aug 2007 03:41:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-367 Excellent thoughts. Non-US investors were fed so called AAA and took out insurance; who holds this bag?<br/>Taking it from the volumes the core of the rat is in Europe and so far it is only far-flung speculation why Sarkozy wants to bring the ECB under the EU umbrella, making them a receiver of orders - just in case a Eurozone economy blows and/or its banks blow up.<br/>Added you to my blogroll. Excellent thoughts. Non-US investors were fed so called AAA and took out insurance; who holds this bag?
Taking it from the volumes the core of the rat is in Europe and so far it is only far-flung speculation why Sarkozy wants to bring the ECB under the EU umbrella, making them a receiver of orders – just in case a Eurozone economy blows and/or its banks blow up.
Added you to my blogroll.

]]> By: Yves Smith http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-363 Yves Smith Mon, 13 Aug 2007 16:45:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-363 Thanks for these good comments and the links.<br/><br/>Eric, while the CDS market has been tested with a default in which the principal amount of the outstanding was 10 times the principal amount of the company's cash bonds (Delphi), that was before the current credit fear.<br/><br/>Note that subprime-related paper has been marked down <i>in advance</i> of any/many failures to pay on the actual CDO tranches themselves. I similarly expect any CDS problems will be triggered not by a corporate default, but by the growing recognition that in many cases, the protection writer doesn't have the wherewithall to make good on its commitments.<br/><br/>Scurvon, <br/><br/>Due to my absence, plus the fact that there is more to read than I can keep up with, I had missed the ACS story. I must confess I don't get Barrons (heresy!) but I just checked out the related article on Reuters.<br/><br/>I'd be a bit surprised if ACS settled its own contracts frequently, since they are writing OTC agreements (or maybe that reference is to assure readers that they are current on the new CDS they are booking, unlike Citigroup, which has a backlog). Or alternatively, perhaps they are hedging with exchange traded contracts? Those are cash settled daily.<br/><br/>Brad,<br/><br/>Also missed that WSJ story. Thanks for pointing it out. My understanding is that, similarly, hedge funds have been protection writers to boost returns. And since this could be presented as a funding strategy (as a way to get further leverage) rather than an investment strategy, it's quite possible that it is being done by funds whose strategies one would think are removed from CDS, like equity long/short. Thanks for these good comments and the links.

Eric, while the CDS market has been tested with a default in which the principal amount of the outstanding was 10 times the principal amount of the company’s cash bonds (Delphi), that was before the current credit fear.

Note that subprime-related paper has been marked down in advance of any/many failures to pay on the actual CDO tranches themselves. I similarly expect any CDS problems will be triggered not by a corporate default, but by the growing recognition that in many cases, the protection writer doesn’t have the wherewithall to make good on its commitments.

Scurvon,

Due to my absence, plus the fact that there is more to read than I can keep up with, I had missed the ACS story. I must confess I don’t get Barrons (heresy!) but I just checked out the related article on Reuters.

I’d be a bit surprised if ACS settled its own contracts frequently, since they are writing OTC agreements (or maybe that reference is to assure readers that they are current on the new CDS they are booking, unlike Citigroup, which has a backlog). Or alternatively, perhaps they are hedging with exchange traded contracts? Those are cash settled daily.

Brad,

Also missed that WSJ story. Thanks for pointing it out. My understanding is that, similarly, hedge funds have been protection writers to boost returns. And since this could be presented as a funding strategy (as a way to get further leverage) rather than an investment strategy, it’s quite possible that it is being done by funds whose strategies one would think are removed from CDS, like equity long/short.

]]> By: Anonymous http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-362 Anonymous Mon, 13 Aug 2007 15:53:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-362 henny sender of the wsj had an article in last monday's journal that touched on a similar theme -- she noted that the failure of counterparties in indonesia and russia to honor commitments that the big money was using as hedges (why anyone thought the lcoal banks would be able to honor their commitments in a real crisis is another story) played a big role back then, and she noted that it is easy to sell protection now to pick up yield (lots of implicit leverage in such a position), and if the abiltiy of folks to actually honor their commitments ever became an issue, there could be problems.<br/><br/>bsetser henny sender of the wsj had an article in last monday’s journal that touched on a similar theme — she noted that the failure of counterparties in indonesia and russia to honor commitments that the big money was using as hedges (why anyone thought the lcoal banks would be able to honor their commitments in a real crisis is another story) played a big role back then, and she noted that it is easy to sell protection now to pick up yield (lots of implicit leverage in such a position), and if the abiltiy of folks to actually honor their commitments ever became an issue, there could be problems.

bsetser

]]> By: Scurvon http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-361 Scurvon Mon, 13 Aug 2007 13:18:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-361 In case you missed it, here is a recent Barrons article on ACS.<br/><br/>http://online.barrons.com/article/SB118619260136587979.html?mod=rss_barrons_features<br/><br/>The Barrons piece appears to suggest that some Wall Street firms are using CDS issued by ACS (and I assume others) to offset their subprime liabilities. The implication is that if the CDS issuers were to fail, these liabilities would reappear on their books. Its an oblique reference, so its hard to tell. My understanding is these are settled regularly (nightly?) so this risk may be overblown.<br/><br/>FWIW - the WSJ had a recent article on AIG stating that they had written $465 bln in CDS since 1998.<br/><br/>The lack of clarity here is remarkable. Same is true for CDOs, anything related to subprime, hedge fund investments, etc. Its hard to come up with a historical precedent other than the period before disclosure was the norm. In case you missed it, here is a recent Barrons article on ACS.

http://online.barrons.com/article/SB118619260136587979.html?mod=rss_barrons_features

The Barrons piece appears to suggest that some Wall Street firms are using CDS issued by ACS (and I assume others) to offset their subprime liabilities. The implication is that if the CDS issuers were to fail, these liabilities would reappear on their books. Its an oblique reference, so its hard to tell. My understanding is these are settled regularly (nightly?) so this risk may be overblown.

FWIW – the WSJ had a recent article on AIG stating that they had written $465 bln in CDS since 1998.

The lack of clarity here is remarkable. Same is true for CDOs, anything related to subprime, hedge fund investments, etc. Its hard to come up with a historical precedent other than the period before disclosure was the norm.

]]> By: Eric http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next.html#comment-360 Eric Mon, 13 Aug 2007 05:20:00 +0000 http://www.nakedcapitalism.com/2007/08/are-credit-default-swaps-next/#comment-360 Hi Yves,<br/><br/>I'm a big fan of your blog. I recently started a financial blog myself, but am an admitted amateur. I think you're right about CDS and I've been blabbering about that for a while now. You'd probably find it laughable, but I wrote a bit about my thoughts here:<br/><br/><a HREF="http://phorgyphynance.wordpress.com/2007/07/26/more-on-cds-implied-corporate-leverage-and-default-rates/" REL="nofollow">More on CDS, implied corporate leverage, and default rates</a><br/><br/>Here's an excerpt:<br/><br/>"A logical next step following reduced easy credit is going to be increased default rates. This I think is going to severely test the CDS market (again nothing to do with subprime), especially when a default occurs on a company whose outstanding CDS protection exceeds the outstanding cash debt by factors of 10 or more. Even if the CDS is not settled physically, the cash needs to come from somewhere. Where will that be? What happens when the person you bought protection from defaults?"<br/><br/>Best wishes and thanks again for such an awesome blog. Hi Yves,

I’m a big fan of your blog. I recently started a financial blog myself, but am an admitted amateur. I think you’re right about CDS and I’ve been blabbering about that for a while now. You’d probably find it laughable, but I wrote a bit about my thoughts here:

More on CDS, implied corporate leverage, and default rates

Here’s an excerpt:

“A logical next step following reduced easy credit is going to be increased default rates. This I think is going to severely test the CDS market (again nothing to do with subprime), especially when a default occurs on a company whose outstanding CDS protection exceeds the outstanding cash debt by factors of 10 or more. Even if the CDS is not settled physically, the cash needs to come from somewhere. Where will that be? What happens when the person you bought protection from defaults?”

Best wishes and thanks again for such an awesome blog.

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