Tuesday, March 17, 2009

My post on Credit Default Swaps (the stuff that continues to sink AIG)

     From April of 2008...

Are any of you homeowners?
Even if you aren't, you all know about fire insurance.
If your house burns down,
  and you didn't do it,
  a fire insurance policy is worth money.

What jumps to your mind
  when you hear
  about someone selling their fire insurance policy?
Only one things jumps to my mind,
  maybe I've just listened to too many 1940s and 50s radio dramas,
  insurance fraud.

That's exactly what the credit default swap market is all about,
  a stock market for insurance policies.
It's a little more sophisticated,
  as if you could divide up your fire insurance policy
  and sell little bits to different people.
But what's more amazing than that,
  this has to take the cake,
  you can sell as many copies of your fire insurance policy as you want!

Instead of being about a house burning down,
  it's about the value of a bond going down,
  something the banks call a "credit event,"
  like a rating agency downgrade,
  or outright default.

The banks who sell these policies,
  like I said,
  can sell as many copies as they want.

I don't think it takes a supra-genius
  to figure out what will happen
  if everyone in town
  stands to profit
  if your house burns down.

Extra Fact: 13% of all the people buying this excess "insurance" are unknown, their names are simply unreported.

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