Global Credit Derivatives Market = x10 Global GDP.

[MrMon]

Are there $450 trillion in traded debt or in written contracts? One contract can be traded many times, that doesn't really bother me, but if there were written contracts for 10x world GDP, that's a little worrisome. Then traders are driving the market rather than the underlying demand for the product, probably not a stable situation.

[adios]

[ QUOTE ]
Are there $450 trillion in traded debt or in written contracts? One contract can be traded many times, that doesn't really bother me, but if there were written contracts for 10x world GDP, that's a little worrisome. Then traders are driving the market rather than the underlying demand for the product, probably not a stable situation.

[/ QUOTE ]

In futures markets the idea is that speculators actually stabilize prices due to the increased volume of activity i.e more liquidity.

Actually the statistic by OP is basically meaningless. Pretty easy to understand how derivitives utilized in CDOs are necessary and desirable. The real issue IMO is the bond rating agencies and how well they have assessed the riskiness of the bonds issued. OP in a post awhile back pointed out defaults in lower grade bonds. Doesn't mean that rating agencies have done a poor job since the bonds in question are expected to default a certain percentage of the time. If the rating agencies really screwed up (and they could have) then there would be a big problem IMO. We'll see and certainly they've screwed up rating corporate bonds before. I've maintained though that corporate earnings are more volatile than real estate prices and the behavior of mortgage holders is more predictable in the aggregate. I will say though that there are some very knowledgable traders that I respect alot that disagree with me on the accuracy of the rating agencies regarding bonds issued in CDOs. We'll see what happens.

[ConstantineX]

[ QUOTE ]
Global Derivatives Market = x10 Global GDP.

Every now and again you stumble on a piece of information that blows your mind. There is about 450 Trillion dollars in traded risk (derived from credit)which is greater than the global housing market and if you sold every company on the planet it wouldnt raise that much capital.

Warren Buffet once described derivatives as 'Weapons of Mass Financial Destruction'. And he is right. They do not disperse risk. They magnify it.

Sorry, if this is a bit sparse, I am still digesting this my self but felt compelled to put it out there.

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Imagine you take out a loan from a bank, at some interest rate r. You have x in current assets. You owe (1+r)x in liabilities. Clearly this loan will only be given to you if Commercial Bank A thinks you can transform x in current assets to greater than (1+r)x in future assets. Summing over the USA, we should expect that the value of just say one-year loans (which capital markets facilitate the liquidity of) to be greater than the GDP, no?

Now, given that example, why does that statistic you quoted worry you? Clearly, derivatives, like almost every other man-made financial contract, have to do with evaluating the present value of future cash flows. This magnification of the worth of current assets is leverage, closely related in economic terms to the time value of money.

Leverage can allow speculators to gain much more than simply buying the underlying, yes. But conversely, the sellers of those derivatives can reduce the risk they face from changes in the underlying, as well. Businesses and individuals of all stripes can then relegate themselves to minimizing the risk of assets that temporarily pass through their hands or are too macroscopic for them to control. McDonald's, for example, has no business speculating on the price of potatoes;we can see that every business through the prudent use of derivatives should be able to more easily focus on their core competencies. The same mechanism that allows the speculator to magnify his bets allows the hedger to minimize his risks.

P.S: By the way, I'm not saying there is no danger in being over-levered. We'll see some hedge funds prove that in the near future. But bad statistics designed to engender fear are no way to understand the dangers present in our financial markets.

[The DaveR]

There is a ton of double counting. For example, there are a huge number of closed positions that are actually matched trades so that number is hugely inflated.

Buffett is totally wrong here.

[The DaveR]

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[ QUOTE ]
Are there $450 trillion in traded debt or in written contracts? One contract can be traded many times, that doesn't really bother me, but if there were written contracts for 10x world GDP, that's a little worrisome. Then traders are driving the market rather than the underlying demand for the product, probably not a stable situation.

[/ QUOTE ]

In futures markets the idea is that speculators actually stabilize prices due to the increased volume of activity i.e more liquidity.

Actually the statistic by OP is basically meaningless. Pretty easy to understand how derivitives utilized in CDOs are necessary and desirable. The real issue IMO is the bond rating agencies and how well they have assessed the riskiness of the bonds issued. OP in a post awhile back pointed out defaults in lower grade bonds. Doesn't mean that rating agencies have done a poor job since the bonds in question are expected to default a certain percentage of the time. If the rating agencies really screwed up (and they could have) then there would be a big problem IMO. We'll see and certainly they've screwed up rating corporate bonds before. I've maintained though that corporate earnings are more volatile than real estate prices and the behavior of mortgage holders is more predictable in the aggregate. I will say though that there are some very knowledgable traders that I respect alot that disagree with me on the accuracy of the rating agencies regarding bonds issued in CDOs. We'll see what happens.

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adios, I think that any bond, loan, or CDS trader who will take ratings at face value is nuts and I think those markets are increasingly smart enough to know that.

[adios]

[ QUOTE ]
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Are there $450 trillion in traded debt or in written contracts? One contract can be traded many times, that doesn't really bother me, but if there were written contracts for 10x world GDP, that's a little worrisome. Then traders are driving the market rather than the underlying demand for the product, probably not a stable situation.

[/ QUOTE ]

In futures markets the idea is that speculators actually stabilize prices due to the increased volume of activity i.e more liquidity.

Actually the statistic by OP is basically meaningless. Pretty easy to understand how derivitives utilized in CDOs are necessary and desirable. The real issue IMO is the bond rating agencies and how well they have assessed the riskiness of the bonds issued. OP in a post awhile back pointed out defaults in lower grade bonds. Doesn't mean that rating agencies have done a poor job since the bonds in question are expected to default a certain percentage of the time. If the rating agencies really screwed up (and they could have) then there would be a big problem IMO. We'll see and certainly they've screwed up rating corporate bonds before. I've maintained though that corporate earnings are more volatile than real estate prices and the behavior of mortgage holders is more predictable in the aggregate. I will say though that there are some very knowledgable traders that I respect alot that disagree with me on the accuracy of the rating agencies regarding bonds issued in CDOs. We'll see what happens.

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adios, I think that any bond, loan, or CDS trader who will take ratings at face value is nuts and I think those markets are increasingly smart enough to know that.

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A lot of sellers of less than high quality MBS and CMBS these days from what I understand.

[Orlando Salazar]

FALSE. 99% of the trades made are mirrored. Banks take very little risk here. A VERY BASIC way to explain is that some bond manager need to hedge covertibles one direction some equity managers need the inverse. Simultaneous positions are created, which offset eachother.

[The DaveR]

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Are there $450 trillion in traded debt or in written contracts? One contract can be traded many times, that doesn't really bother me, but if there were written contracts for 10x world GDP, that's a little worrisome. Then traders are driving the market rather than the underlying demand for the product, probably not a stable situation.

[/ QUOTE ]

In futures markets the idea is that speculators actually stabilize prices due to the increased volume of activity i.e more liquidity.

Actually the statistic by OP is basically meaningless. Pretty easy to understand how derivitives utilized in CDOs are necessary and desirable. The real issue IMO is the bond rating agencies and how well they have assessed the riskiness of the bonds issued. OP in a post awhile back pointed out defaults in lower grade bonds. Doesn't mean that rating agencies have done a poor job since the bonds in question are expected to default a certain percentage of the time. If the rating agencies really screwed up (and they could have) then there would be a big problem IMO. We'll see and certainly they've screwed up rating corporate bonds before. I've maintained though that corporate earnings are more volatile than real estate prices and the behavior of mortgage holders is more predictable in the aggregate. I will say though that there are some very knowledgable traders that I respect alot that disagree with me on the accuracy of the rating agencies regarding bonds issued in CDOs. We'll see what happens.

[/ QUOTE ]

adios, I think that any bond, loan, or CDS trader who will take ratings at face value is nuts and I think those markets are increasingly smart enough to know that.

[/ QUOTE ]

A lot of sellers of less than high quality MBS and CMBS these days from what I understand.

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Yeah, but even in those markets well-perceived collateral managers can come to market with tighter spreads, which is to say the market thinks ratings don't fully describe risk.