Marshall Auerback, a portfolio strategist and hedge fund manager, deliberates on a core deficiency of modern financial capitalism and the impact to the Eurozone.
Credit default swaps are supposed to help, but they don’t. They only explode in your face when you least expect it.
Credit default swaps themselves are to “hedging” credit exposure what nuclear weapons are to “hedging” national defence requirements. In theory, they both sound like reasonable deterrents to mitigate disaster, but use them and everything blows up. At least one decent by-product of the eurocrats’ incompetent handling of this national solvency disaster has been the likely discrediting of CDSs as a hedging instrument in the future. Note that 5 year CDSs on Italian debt have not blown out to new highs today in spite of bond yields rising over 7%, because the markets are slowly but surely coming to the recognition that they are ineffective hedging instruments – although they have been very useful in terms of lining the pockets of the likes of JP Morgan and Goldman Sachs.
America learned about the horror of the CDS back in 2008 when AIG exploded after Bear Sterns and Lehman Brothers melted down.
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