I agree. The real problem is a lack of transparency with the derivatives, and a non-functioning market that makes the underlying assets difficult to price. Once all the derivatives are netted out, the big scary numbers go away.
Theoretically, that is ...... <ahem!>
These guys were operating totally off the hook with extremely large sums of money at issue. And you trust them to have squared the books .... why?
Count me among the old-timey ordoliberals: Free markets, but plenty of smart, incorruptible, unappeasable cops and capacious prisons to keep thumbs off the scales -- or lop them off. Service paid for with our taxes, of course.
Derivatives are hard to price but imho the problem isn't lack of transparency, if anything it's information overload.
Any time an investor wants to query something he gets slammed with a flood of info --the kind lawyers refer to as a 'document dump'. Not that this makes it any easier; after all, a document dump is a strategy for hiding information.
The problem is us investors. We got a lot of homework to do and we'd prefer someone else do it. There's equations for pricing derivatives but they're horribly complex. In fact, they resemble thermodynamics formulas which is why Wall St. firms have been hiring more Physics grads than business majors.
You are right Mm62. IIRC the Lehman CDS issue, trumpeted loudly in the media essentially netted out - maybe a billion or so was uncovered.
What is at issue here is fractional reserve banking. The bank cannot afford to lose $200m to fraud and there is a ton of fraud (caused by FNM/Fmac’s 40% position in the 2ndary market). It causes a major drawdown of capital to cover the loss and dries up lending as their reserves are destroyed. That is what is happening to banks. That is why a small loss hurts - banks use leverage as well.
I’d worry more about the government response. Rewarding failure, keeping the politically connected afloat w/taxpayer monies, and Obama’s Democratic Party Entrenchment Bill will simply exacerbate the problem. Of course, Bush started it by ignorning his free market instincts.
Obama could solve the mess by eliminating cap gains, corp income taxes - watch capital flood the American market -, eliminate mark to market accouting (stupid idea sorry Barry R.), and kill the most onerous aspects of SOX. If any money is parsed out, give it to solvent banks who must use it to acquire bad banks or for lending - give it a prime +18% interest rate if used for any other purpose.