Quote:
Originally Posted by Ciaran
There's nothing new about financial engineering. It's been with us for many centuries via secondary markets which led to (in)famous scenarios such as the Dutch tulip crisis in the 17th century and the South Sea Bubble the following century.
The terminology, such as credit default swaps and derivatives, has got more complex and technical but the same concepts have been around throughout modern history. The may appear mystical but, intrinsically, instruments such as credit default swaps are ways to better manage risk - in other words, to ensure that the investor doesn't lose money.
The issue isn't, therefore, the instrument or the technology behind it. Rather, the issue is a much more basic one of borrowing of resources to speculate i.e. speculators will borrow significantly on positions with the result that, if their positioning is wrong, not only do they lose out but others do too. Sometimes this has significant negative consequences as we've seen recently.
On the issues you mentioned above of credit default swaps and how hedge funds are holding Greece to ransom. It's not hedge funds holding Greece to ransom. Rather, it's parts of the European Union apparatus that do not want an actual default of Greek sovereign debt for fear that this will have a domino effect sending the "house of cards" that is the Eurozone crashing down through similar defaults in other Eurozone countries, most likely Portugal & the Republic of Ireland and, more worryingly due to scale, Spain and Italy.
I have significant sympathy for the hedge fund position on this as investors are effectively being asked to agree to a default that is optically not to be called a default, with the effect that the credit default protection does not kick-in. Are there investors using this process for their short-term speculative purposes? Of course, but that doesn't take away from the fact that we're in an "emperor's clothes" scenario where the European political establishment is trying to orchestrate the inevitable Greek default through a "smoke & mirrors" approach whereby no official default is registered.
If I were an investor, who had CDS protection, I certainly wouldn't agree to that but, then again, I'm not an advocate of this European project and have a loathing of the European Union.
Furthermore, there already is significant financial regulation in place and prospective regulation that is being introduced over this coming decade. The key, from my perspective, isn't necessarily more regulation. Rather, it's about better regulation which can sometimes be less regulation as less is often more. This regulation needs to embrace a very simple and straightforward concept - that is the concept of moral hazard which, in simple terms, is you either pay back your debts or you suffer real consequences as a result.
This needs to be enshrined as regards all speculation, whether it's the large faceless fund using technical instruments in an attempt to make many $ millions or the man or woman who buys a condo with a 90%+ mortgage in the hope of capital appreciation.
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You say that if you were an investor, who had CDS protection, you certainly wouldn't agree to a default that wasn't going to be technically called a default, I read it as simply lowering the payments to where Greece could afford it, but either way, you also said you should either pay back your debts or suffer real consequences. Don't people who buy bonds, like the hedge funds who bought Greek bonds fall under the category of deserving to suffer real consequences? I mean they bought the bonds promising ridiculous yields from a country that is crumbling. WTF is that about. Well it's about betting against the very bonds they are buying with freaking credit default swaps. To me if you are playing the investment game then you need to man up and take your loses when they happen. I'm sick of this insurance crap. I'm not an advocate of double dipping, taking ridiculous risks, getting bailouts as well as having insurance so you can't lose any which way the cookie crumbles and never having to take a loss no matter what happens to the world around you.
Credit default swaps, credit derivatives and derivatives in general have not, to my knowledge, nor to anyone's knowledge that I can find, been around for centuries and they certainly haven't been around in this form. They have been around since the 1990s with increased usage after 2003. They are not better ways to manage risk in my opinion. They are ridiculous ways to eliminate risk for the lender. They are ways to make bets and turn the financial sector into a gambling casino.
The idea that you pay back your debts or suffer real consequences as a result is wonderful especially if you have insurance in the form of a credit derivative which means you get your money back no matter what. Why you might even want to see people default on their loans or mortgages. While these kinds of investments are made, betting against the loans you yourself make, how will everyone suffer real consequences? They won't. The idea is ludicrous. More regulation is the answer in my mind. Bring back the days when you don't get money unless you have security, collateral to back it up, unless it is quite likely you will be able to pay back your loan. Right now lenders can make loans at will because there is no danger to them, just danger for the poor fools who borrow from them and the rest of the world. But the reality is that this gambling and this notional debt has destablized the economy. And there is a danger. A danger to everyone.