RE: Derivatives for Dummies

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tazzygirl -> RE: Derivatives for Dummies (10/9/2009 5:07:43 PM)
quote: ORIGINAL: einstien5201 quote: ORIGINAL: rulemylife The last figure I saw was 95 banks had failed since the beginning of the the year. Can you imagine the number without the bailout? It occurs to me that every bank in the country could fail and it wouldn't directly affect me. The FDIC already insures quite a bit of money in the case of bank failure. I can't recall if it's 100k or 250k (I think it changed recently), but in either case it's far more than I, or the majority of American individuals, have in liquid assets. Don't get me wrong, I'm not saying that there would be no effect. It's just that my initial impression is that the effect would be limited to businesses and individuals with very large amounts of liquid assets. To be frank, if someone has more money than the amount insured by the FDIC, they probably shouldn't be putting it all in one place. Eggs in a basket and all that. The fallout would have been a second Great Depression. The failings of our bankis would have the results of not only american account holders, but international investors, drawing out their funds in rapid time. The advent of on line banking would have made this process quicker... and more terrifying. If you wish to learn, study the great depression. the fact that our accounts are insured does little for businesses and governments who depend on their financial solvency for credit. The results would have been disasterous.

tazzygirl -> RE: Derivatives for Dummies (10/9/2009 5:11:42 PM)
~FR Here is an extremely interesting article based upon the "what if Lehman didnt fail?" theory. Its suggesting Lehman had to fail. http://www.economist.com/businessfinance/displaystory.cfm?story_id=14401566

rulemylife -> RE: Derivatives for Dummies (10/9/2009 5:16:31 PM)
quote: ORIGINAL: einstien5201 It occurs to me that every bank in the country could fail and it wouldn't directly affect me. It occurs to me you don't understand basic economics if you believe that.

DedicatedDom40 -> RE: Derivatives for Dummies (10/9/2009 6:13:46 PM)
quote: The problem was bankers were dealing with financial instruments they didnt understand. They kept making more unsecured loans, which in turn swelled the books, they used the profits to make more loans. Bear, AIG and Lehman did not fail because of bad loans on their books. These big institutions failed from an inability to cover their derivatives liabilities (the bad bets they had on their books - bad bets are different than bad loans.) They got into the betting bookie business and were unable to pay all the 'winners' who had a right to get paid, and those winners do include foreigners, and those foreigners are not necessarily foreign banks (hedge funds are not banks). Yes, some of the bailout money is being used to help the bookie (AIG) pay its debts to people, including foreign-based hedge funds, who placed bets at AIG's betting parlor. The inability to cover derivatives liabilities is also what took Enron down as well, except Enron's liabilities were related to energy derivatives (betting on energy prices) rather than the mortgage derivatives that imploded the big banks. Enron execs also tried to hide their losses from investors (that was the primary reason Ken Lay went to jail) while the banks did not. All the corporate implosions due to deriviatives, Enron first and now the investmemt banks, were enabled by the same piece of legislation passed in 2000. The worst thing Enron did was brown out California for a few months, while the banks had alot more global systemic risk. Now, the smaller banks on small town street corners, yes, they are failing from the bad loans and the falling value of real estate in their loan portfolios. The problem is a two-stage one. The people who created the bad loans that ultimately popped the housing bubble had little to do with the investment bank bookie taking on too many bets that they couldnt possibly pay off. Indirectly connected by the same trigger, but two seperate events in two different circles are involved here. The value of remaining derivatives outstanding (bets that were already placed and that could be called upon for payment if the relevant trigger is activated) is estimated at 50 trillion, or in other words, alot more than the value of the real estate "bad loans" problem.

Politesub53 -> RE: Derivatives for Dummies (10/10/2009 3:23:13 AM)
quote: ORIGINAL: DedicatedDom40 quote: The problem was bankers were dealing with financial instruments they didnt understand. They kept making more unsecured loans, which in turn swelled the books, they used the profits to make more loans. Bear, AIG and Lehman did not fail because of bad loans on their books. These big institutions failed from an inability to cover their derivatives liabilities (the bad bets they had on their books - bad bets are different than bad loans.) You are right and wrong here. Lehmans failed because of bad loans to the subprime market, AIG was different again. Lehmans ended up not having enough funds to cover daily trading, thats quite different from not being able to pay the derivatives markets. They didnt have enough to cover basic running costs such as wages and daily withdrawals. The initial blame has to lie with the subprime crisis, the situation with credit default swaps followed on from that. In the end few of the financial "Experts" involved had much of a clue to the possible disater heading their way. They couldnt understand, or worse blatantly ignored any possible risks, they just kept watching profit margins and large bonuses grow. Here in the UK, the exchequer ( Gordon Brown ) saw the taxes on profits as a cash cow, enabling him a degree of largesse in his budgets. The moral of the whole sorry episode should be "If it looks too good to be true, it usually is". I guess you could blame everyone from home owners over extending themselves, to brokers handing loans out like chocolate, and lets not forget the massive ammounts of fraud being carried out on both a small and large scale. The ultimate blame has to lie with a lack of proper legislation.

DedicatedDom40 -> RE: Derivatives for Dummies (10/10/2009 7:29:06 AM)
quote: Lehmans failed because of bad loans to the subprime market, There was definitely more to it than that. The repeal of Glass-Steagall allowed a bank of that size to go into many new lines of business, including 'insurance' (running a betting parlor). quote: I guess you could blame everyone from home owners over extending themselves, to brokers handing loans out like chocolate, and lets not forget the massive ammounts of fraud Don't forget hedge funds. How does a hedge fund produce 600% returns? By placing bets, for pennies on the dollar, on whether securities would default, and ending up on the right side of those bets. There is a definitive break between the actions of the homeowner and the actions of Las Vegas on Wall St. The people who caused the former did not engineer the latter (their foreclosures only triggered it), but for some reason, the lack of personal responsibility of the homeowner is used a scapegoat for all events in many conservative political circles. The people with profit motives caused alot more of the damage than the guy who briefly lived in a house for a few years and then walked away from it (i.e. consumers behaving just like any business with a money-losing factory would, but for some reason the comsumer is more 'irresponsible' - go figure).

LadyEllen -> RE: Derivatives for Dummies (10/10/2009 8:35:48 AM)
I believe the problem arose far earlier than what has been discussed here which concerns as I see it the reasons behind the failure that was propagated in origins decades before. The financial institutions took part in and profited from those origins its true, but short sighted as ever they failed to take account of the seeds that had been sown, preferring instead to count their short term gains made to please their even more short sighted investors. We endorsed and selected political leadership which oversaw and themselves endorsed the export of manufacturing by various means, thereby also exporting the means of wealth creation which supported the entire economic structure. We must note here that the paper profit in money which the financial institutions and our governments came to then rely on is a different thing to wealth creation. With the means of wealth creation either absent or severely curtailed, the system had to find other means to sustain itself and the political leadership were ready to produce deregulation to enable that. Add to the mixture the vast savings resources of ordinary Chinese families sent west for investment and the recipe was almost complete - the wealth generation of manufacturing activity could be replaced with paper profits generation through financial instruments originated in Chinese savings. Initially this worked well but the short sightedness and rush to quick profits failed to take account of the bubble thereby created and exacerbated by the interconnectedness made possible alongside the blindness to the whole picture given that each institution could only really manage and see its own business and instruments. When it became apparent that the returns promised on (ultimately) the Chinese savings had become unrealistic what with everyone adding a percentile here and there, were unrealistic - it not being possible to gain greater returns from a limited and shrinking resource of what are ultimately debtors, the whole thing crashed. The bail outs were then necessary, but painful of course - again the bail outs rely on that limited and shrinking resource (as it stands) of what are ultimately debtors, in the tax payer base. Unless we add back to the system the means of wealth creation then the these debtors will never be able to repay what they through their representatives have undertaken to pay. The lessons are clear 1) we must restore wealth creation in a manufacturing base so that we have a diverse economy not reliant on manipulating pieces of paper 2) to achieve (1) and be able to sell, we must accept a lower standard of living to keep finished products' costs down to competitive levels 3) we must restore regulation on the financial institutions and implement strong oversight and real penalties 4) adding money to the system (here in the form of Chinese savings) does not represent economic growth but rather creates a debt detracting from economic wealth since interest must be paid 5) pieces of paper are only as good as the real wealth that they represent, regardless of promises and undertakings attached to them 6) investors of all stripes must become far sighted towards wealth creation, not short term profits; thereby the market can be changed by shareholder power not government interventions that will be strongly resisted by those bank rolling political candidates 7) in summary a more responsible attitude must be exhibited by all, and especially when it comes to political, investment and economic choices However, human nature being what it is I expect we will forget about all this, choose to ignore it and continue searching for El Dorado in a treacherous jungle E

Lorr47 -> RE: Derivatives for Dummies (10/10/2009 8:54:13 AM)
quote: ORIGINAL: dcnovice quote: A year after the "bail outs", many are wondering if they are working. Well, has the banking system collapsed? Would the banking system have collapsed without the "bail outs?" The authorities are Paulson, Giantner (sic) etc. Kind of self serving and biased. Crashed yet? They are doing the same thing again only the derivatives are based on other instruments. The beat is going on.

KYsissy -> RE: Derivatives for Dummies (10/10/2009 9:07:39 AM)
If I understand it correctly, derivatives are basically insurance policies against a loan default. The major difference being that you don't have to be the loan holder to buy one. They were also very cheap. When times were good everyone made money. When the mortgage defaults started rising, instead of the just the loan holder being paid for the value of the loan, suddenly there are 50 hands out demanding to be paid for a loan they had nothing to do with.

DedicatedDom40 -> RE: Derivatives for Dummies (10/10/2009 9:59:56 AM)
Not necessarily just against loan defauls (although that was the primary trigger event here when it came to the banks). When Enron collapsed, it was from insurance transactions (bets) on whether energy prices would rise or not. When California was browned out, they were restricting the supply of energy to the grid to assure the market would raise prices on low supply so Enron would avoid paying off on the insurance it would be obligated to do. Enron was the proverbial 'canary in the coal mine'. And this country completely missed it. We (and the media) were more focused on the plight of duped investors and lost retriement savings of employees. The real cause of the collapse was never addressed. Sarbanes-Oxley only dealt with the 'honesty of reporting' issues that came out of Enron, not the cause of the collapse. It was funny to watch Bush scold execs in his press conferences in the wake of Enron, but he and congress did nothing for 8 years to stop the problem. Even though it is a form of insurance, it couldn't technically be called 'insurance' because insurance is regulated rather heavily. 'Swaps' was the term used for these non-regulated insurance transactions. Because it was unregulated and there was no information clearinghouse (no SEC equivalent for insurance transactions), there is no record of how many hands will be extended out and waiting to be paid when some other trigger event down the road occurs. Going forward, we are living under a huge cloud of uncertainty, waiting for the next shoe to drop.

UncleNasty -> RE: Derivatives for Dummies (10/10/2009 11:34:48 AM)
quote: ORIGINAL: KYsissy If I understand it correctly, derivatives are basically insurance policies against a loan default. The major difference being that you don't have to be the loan holder to buy one. They were also very cheap. When times were good everyone made money. When the mortgage defaults started rising, instead of the just the loan holder being paid for the value of the loan, suddenly there are 50 hands out demanding to be paid for a loan they had nothing to do with. Many loans were made with the intention of default. Having reviewed numerous p-notes and mortgages made in the several years before the "crisis" began, and having read regs and stats that pertain to mortgage lending, I say that with confidence. So what we have now is a group of "entities" that are profiting by dipping multiple times: repossessing the underlying securities (homes) receiving insurance payments (derivatives) receiving funds in any of the various bailouts Mostly it is the folks standing in the middle that are profiting. Homeowners/borrowers are on one end. Investors in the mortgage pools are on the other end. The folks in the middle operate via many different corp structures but ultimately can be traced back to a parent corp that is one of the surviving big banks. In fact, these middle men never had any skin in the game. Further they lied to parties on both ends AND kept/keep each end from knowing about or communicating with the other. Can you say "rigged game" boys and girls? Uncle Nasty

SpinnerofTales -> RE: Derivatives for Dummies (10/10/2009 5:23:43 PM)
quote: If I understand it correctly, derivatives are basically insurance policies against a loan default. The major difference being that you don't have to be the loan holder to buy one. They were also very cheap. When times were good everyone made money. When the mortgage defaults started rising, instead of the just the loan holder being paid for the value of the loan, suddenly there are 50 hands out demanding to be paid for a loan they had nothing to do with. quote: ORIGINAL: KYsissy Why does this make me think of The Producers? If it's a flop, we get rich. If it's a hit, we go to jail (or go broke). Springtime for Lehman and AIG, anyone?

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