Britannia Radio

CHINA CONFIDENTIAL

 

Death by Derivative: Swaps Could Wreck the World

A sham insurance policy known as a credit-default swap (CDS) threatens the world with financial ruin. 

Designed to circumvent insurance regulations, a CDS is a swap contract in which a buyer makes a series of payments to a seller and, in exchange, receives the right to a payoff if a credit instrument goes into default or on the occurrence of a specified credit event, for example bankruptcy or restructuring. 

In plain English, a CDS is an insurance policy disguised as a derivative--a deadly derivative.

American Insurance Group issued a whopping $440 billion of the swaps; and the $85 billion bailout of AIG was largely aimed at saving banks, hedge funds and other institutional investors who held the swaps "and risked crushing losses if these instruments weren't honored," as Christopher Cox, noted in an opinion article in Sunday's edition of The New York Times.

He should know. Cox is Chairman of the US Securities and Exchange Commission, which is urging Congress to regulate the shadowy CDS market.

"As large as AIG's swaps exposure was," he explains, "it represented only .8 percent of the $55 trillion in credit-default swaps outstanding--this total market is more than the gross domestic product of all nations on earth combined."

And because the CDS market has "operated in the shadows," Cox adds, "there is no public disclosure..." and "government regulators have had no way to assess how much risk is in the system...."

Tens of trillions of dollars ... and nobody knows the downside. Sheer madness....

Meanwhile, this much is certain: there will be jail. People will be indicted, convicted, imprisoned. The public and politicians will demand it. In the US, prosecutors will use every available weapon--perjury, lying to prosecutors, the Sarbanes-Oxley Act, you name it. 

The second gilded age is over. Regulation--and revenge--rule. Heads will roll.

POSTSCRIPT: Lawyers will need lawyers. The lawyers who wrote the opinions that made possible the whole CDS sham in the first place--the fiction that the swaps are not insurance policies--will find themselves in hot water in the coming months.

POST POSTSCRIPT: Jewel Atkins asks: "When do the Joes get to fight back?"