All bets (should be) off

I love this.

People like Steve Eisman will hate this - but I love it.

Chris Whalen (writing on The Big Picture) is pointing out that the total tonnage of Credit Default Positions out there is horrifyingly huge. Then he makes the logical deduction on what can be done about it.

Start with the $50 trillion of so in extant CDS.

Assume that as default rates for all types of collateral rise over next 24-36 months, 40% of the $50 trillion in CDS goes into the money.  That is $20 trillion gross notional of CDS which must be funded.

Now assume a 25% recovery rate against that portion of all CDS that goes into the money.

That leaves you with a $15 trillion net amount that must be paid by providers of protection in CDS.  And remember, a 40% in the money assumption is VERY conservative.  Could easily be 60-70%.

Q: Does anybody really believe that the global central banks and the politicians that stand behind them are going to provide the liquidity to fund $15 trillion in CDS payouts?  Remember, less than 10% of these positions are actually hedging exposure.  The rest are speculative.

My answer is that we pay the hedge positions at face value, but the specs get pennies on the dollar of the face of CDS.  And the specs should take the pennies gratefully and run before the crowd of angry citizens with the torches anbd pitchforks catch up to them.

Exactly.

If you're using a CDS to legitimately hedge against money you have personally committed - your CDS keeps its value. You risked principle, and paid to protect it - your principle is protected. Or at the very least, you're last in the "who gets screwed" line.

If you just bet that bond X will default and paid a pittance in CDS premium - you do NOT get the full value of somebody else's principle in a buy out.

You get practically nothing, or nothing - and shut the hell up about it.

The world simply does not have the money to pay out on betting vehicles like CDS - somebody has to get screwed - and my vote is for people who were buying fire insurance on burning houses they didn't own.

They get screwed first.

Oh, and the guys who let them buy that insurance? - you're up next.