Posted on 10/10/2008 9:50:40 AM PDT by marshmallow
NEW YORK, Oct 10 (Reuters) - Banks, hedge funds and other sellers of protection on Lehman Brothers LEH.N (LEHMQ.PK: Quote, Profile, Research, Stock Buzz) are facing losses in the area of 90.25 percent of the insurance they sold, based on the initial results of an auction on Friday to determine the value of the credit default swaps.
There are also substantially more sellers than buyers of the debt in the auction, indicating that the final price of the swaps may be even lower than the initial recovery levels of 9.75 percent, according to results published by auction administrators Creditex and Markit.
The net open interest to sell the debt is $4.92 billion, they said.
"At 9.75 market midpoint and a large open interest, we could see a further drop in the final settlement price," said Tim Backshall, chief strategist at Credit Derivatives Research in Walnut Creek, California.
"On the bright side, we believe that the open interest is actually below our expectations and could prove that the systemic contagion worries are smaller than many suggested," he added.
The auction to settle Lehman's credit default swaps is one of the largest settlements of contracts in the $55 trillion market, with around $400 billion in contract volumes estimated on Lehman's debt.
(Excerpt) Read more at reuters.com ...
‘splain
I would love it if there was someone who could explain what this is in simple terms so even a dummy like myself could understand.
I guess this means the owners of what were Lehman’s assets are not getting a big return.
Bummer for them, but perhaps the next time assets are insured the PRIVATE CORPORATIONS providing that service will make sure things are on the up and up.
I attempt on post 4.
The loss is 90%; the good news as cited in the article is that exposure is less than expected.
Hope this is true.
Yesterday, it was reported that the market was expecting a loss of 80-90%.
I’m not holding my breath for anything positive coming from the auctions.
I’ll try to explain, but rather than just write a huge dissertation, I’d like to answer only what is confusing or not clear.
What needs to be explained?
Nine cents. Ouch.
I don’t think it’s all that significant. I suspect uncertainty over implementation of the bailout plan is behind the lack of buying interest. Presumably the Lehman trustee in bankruptcy will be able to participate in the Treasury auctions, which could significantly increase the value of Lehman’s debt claims. But no one knows what the bailout will look like because Treasury hasn’t gotten on with it yet.
It’s like a bunch of boats in a harbor have holes in them and are slowly sinking. The harbormaster has gone out and bought a whole bunch of buckets and hired a whole bunch of bailers to bail out the boats, and is now neatly arranging the buckets on shore. He’s telling boaters to go ahead and get back on the sinking boats. Yet it’s not apparent when he is going to get around to doing the actual bailing out, or, when he does, which boats he will bail out first and how exactly he will go about the bailing.
So many people are whining about the “bailout didn’t work” when there hasn’t even been any bailing yet.
This is the amount that sellers of credit default protection on Lehman Brothers Holdings will be forced to pay those who bought those CDS (credit default swaps) as protection. Now Lehman is history, they need to pay up. Ergo, this is very likely to include AIG which sold a good deal of those swaps. I believe around 300 or so banks and investors signed up to settle these Lehman-associated CDS.
As far as what it means for the banks, insurance companies and hedge funds which sold these CDS and are now required to pay; they'll likely need to sell assets in order to meet their bills. The total cost is estimated around $270 billion.
Very good explanation.
I should add that’s not the only factor - obviously the deleveraging going on at many institutions is taking a lot of potential players out of the game at the moment.
What exactly is being auctioned off? Credit default swaps? What are they?
If even that needs a dissertation you don’t have to really bother. I will find the time to sit down and do the reading and research myself.
The last few months have opened up a whole new world for me. Even though I have worked in business consulting on project finance, this incredible array of activities within global finance leaves me gobsmacked.
So these credit default swaps... :-)
Anyways, have a nice weekend. I have appreciated your perspective on other threads lately.
Cheers.
There isn’t any bailing yet, because the bailout plan was predicated on the idea that we’d buy up crap paper at some higher-than-market price.
So: how do we go about setting a price for this crap paper higher than the market?
Get that one question and two economists into a room, and you can power the world off the futile effort that will be expended.
That’s why the bailout won’t work.
Maybe you could ‘splain this:
Before the Mess started, my holdings had $53K+ of Lehman. As of last week, it was at $2,300. Big loss. My question is, how does this latest information affect my situation?
Your naive faith in this idea that a “market price” at any given point in time necessarily is the only or even the best measure of the value of an asset, without even considering the structural characteristics of the market in question, reminds me of those people who used to believe in a perfect, instantaneous efficent market hypothesis.
OK, let’s back up.
A CDS is basically an insurance contract (but called a swap to escape insurance regulation). The buyer of the CDS pays the seller (writer) of the CDS a regular series of payments until maturity of the credit instrument.
In return, the seller of a CDS must do one of two things in the event of a “credit event” (and bankruptcy is a credit event, as is receivership for Fannie/Freddie, etc):
1. Pay the buyer of the CDS a cash value, minus the recovery value of the credit asset (”cash settlement”).
2. Pay the buyer par, and take the credit asset themselves (’delivery’).
The auction here is for Lehman debt instruments on which CDS contracts were written. The only way to know how much the writer of the CDS must pay the buyer of the CDS is to auction off the Lehman paper, (which is the preliminary bids we see in the article above) and the CDS writer pays the difference.
If the CDS writer wanted to take delivery of the Lehman paper and simply pay par, they don’t need to participate in the auction - their contract could be settled immediately. The holder of the Lehman paper says “Here ya go, suck on this!,” the writer grumbles and says “Here’s par value in cash, hope you choke on it!” and takes the Lehman paper in return.
If the seller of the CDS is liquid enough, they might try to hang onto the Lehman paper and try to make a better recovery than a dime on the dollar seen in today’s auction.
The key words are “if they are liquid enough...”
My question is how Lehman bonds only get 9 cents on the dollar. I know most of Lehman’s assets probably went to the secured creditors, but at least nominally Lehman had equity of almost $20 billion when it declared bankruptcy and (I think) unsecured creditors were owed about $150 billion. So we’d have to be talking about $155 billion in losses on its assets to leave only $15 billion for the unsecured creditors—and it’s hard to imagine there was anything close to that.
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