Posted on 11/18/2008 8:14:56 PM PST by uncommonsense
When Delphi filed for bankruptcy, investors had to start assessing their losses on more than $2 billion in the auto parts maker's bonds. As bad as that is, there is more. Looming over the market like an invisible and unpredictable giant is an estimated $25 billion in credit derivatives, a form of insurance whose value is directly linked to the ups and downs of Delphi debt.
The Delphi situation points to a broader question: Is the credit derivative market, which grew from next to nothing in the mid-1990s to an estimated $5 trillion at the end of 2004 pumping new, poorly-understood risk into the financial markets? Or are these exotic products helping to mitigate the shock from corporate crises, as their proponents claim?
"They're huge, and they have grown very rapidly," said Wharton finance professor Richard Herring.
"Those events would have been sufficient in an earlier era to cause major problems to major banks, and even to precipitate a banking crisis,". "But the banks have been fairly robust, and the reason is that someone else is holding the credit risk." However, "What we don't know with any new market is whether something that somebody hasn't quite thought through is going to cause a meltdown. "
In September, the Federal Reserve summoned 14 major banks to a meeting to discuss troubles with the credit-derivatives market. The concern was not that these instruments are intrinsically hazardous. The Fed worried that the market has grown so quickly that investors could lose confidence in the market and a normal crisis could snowball.
The alarm had been raised earlier by Gerald Corrigan, managing director at Goldman Sachs. As president of the New York Fed in 1999, he managed the Fed's response to an earlier credit crisis, the collapse of hedge fund Long-Term Capital Management.
(Excerpt) Read more at knowledge.wharton.upenn.edu ...
I hear a wispy violin in the distance, and it's unusually bright and hot for midnight in the fall...
It would have been nice to confirm the concerns way ahead of time with computer models, but I guess folks with money think we can fix any problem with enough money, even a trillion $.
People were warning about it when the clinton’s removed lending safeguards. That was back in the early 1990s. Hell, in hindsight how’d we all miss it?
http://endthefed.us
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