ACTA Open Must Read Analysis: Why Markets Are Still Falling . . . The Shadow Financial ... - 0 views
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acta foremski cds credit-default-swaps finacial-crisis politics economy
shared by Gary Edwards on 24 Nov 08
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evidence suggests more credit default swaps are traded in London than in the United States according to the US Federal Reserve, so US action alone cannot address perceived problems.
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As corporations, home owners and credit card holders go into default -- stop making payments -- many financial institutions are being hit twice on their balance sheet -- once by the bad loan and then by the associated CDS default or obligation.
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CDS trading has expanded 100-fold since 2001 as financial institutions including insurance companies and hedge funds as well as investors have used the contracts to protect against bond losses and speculate on companies' ability to repay debt.
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Lawmakers are also considering the introduction of new regulations to curb CDS abuse as engines of speculation, but many financial experts are also encouraging the creation of public exchanges for these shadow markets. An exchange would establish an arms length price. As that price was transparent and moved, the market would see that a credit was deteriorating. A centralised clearing market would help shine a clear light on these transactions and since every trade would be backed up by the members of the clearing house, chances of default would greatly be reduced.
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Unlike most financial markets, credit default swaps are unregulated and at USD 54.6 trillion, they are one of the largest unregulated markets in the world.
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In response to the coming derivatives and deleveraging Tsunami, which has already begun, the world GDP may have to shrink drastically -- some estimates suggest between 30% and 50% -- over the coming years of The Great Unwind. This is the severe recession the markets fear as they go into free fall.
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Why are Markets still Falling? The Tsunami caused by Derivatives and Deleveraging The invisible elephant in the room causing continuous falls in global financial markets is the link to the privately traded Credit Default Swaps (CDS) and the financial uncertainty they have created whilst synchronised deleveraging takes place across the world. ... Credit default swaps are unregulated financial derivatives which act as debt insurance on risky assets like mortgages, corporate and government bonds. But unlike a normal insurance policy, financial institutions that sell credit default swaps are not required to have enough funds in reserve should those risky loans turn bad. Since the US Congress in 2000 declined to regulate these contracts as it does insurance, the companies that guarantee the assets are not required by law to keep enough capital on hand to pay them off in the event of a default.