Thursday, July 26, 2007

478 Points Down At It's Worst...And Then It Bounces Back..................PPT At Work?


Financial Derivatives Spark Meltdown?

Thursday, July 26, 2007 - FreeMarketNews.com
For years Jim Sinclair, Warren Buffet and others have warned of the ticking time-bomb nature of financial derivatives. It looks like the chickens may finally be coming home to roost, in the form of collateralized debt obligations(CDOs) –derivatives backed by mortgages. According to Saskia Scholtes, in the Financial Times:"...heavy losses incurred at the two Bear Stearns hedge funds as a result of such financial haute couture have prompted fears that the CDO emperor may turn out to have no clothes. Such a revelation could threaten the value of investor portfolios around the globe - not just in the mortgage sector but in the way many sorts of company fund themselves. "This is because unlike stocks listed on an exchange or US Treasury bonds, CDOs are rarely traded. Indeed, a distinct irony of the 21st-century financial world is that, while many bankers hail them as the epitome of modern capitalism, many of these new-fangled instruments have never been priced through market trading. "Instead, products such as CDOs, which are designed to be held until they mature, have often been valued in investor portfolios or on the books of investment banks according to complex mathematical models and other non-market techniques. In addition, fund managers and bankers often have broad discretion as to what kind of model they use - and thus what value is attached to their assets."Martin Weiss, Editor, Safe Money Report in a post on financialsense.com answers the question as to how people know what a CDO is worth if it isn't traded, saying:"The answer provided by companies like Bear Stearns: We guess! More specifically, their procedure has been to…Estimate what these CDO investments should be worth based on assumptions about delinquency rates ... hope that, if their assumptions turn out to be wrong, no one will find out ... and pray that, if someone does find out, they'll be able to cover it up. That's precisely what we believe has happened here!They figured it would be impossible for delinquency rates to be this high, especially without a recession. But now the "impossible" has happened."...Because there is little trading in the securities, prices may not reflect the highest rate of mortgage delinquencies in 13 years. An auction that confirms concerns that CDOs are overvalued may spark a chain reaction of write downs that causes billions of dollars in losses." Staff Reports - Free-Market News Network

No comments: