posted by rick on October 9th, 2008 at 5:09AM
Some random researching led me to http://www.letxa.com/articles/25 this article.
What are financial derivatives? What are Credit Default Swaps (CDS)? They are sort of like insurance against loans, except they are not regulated as insurance, so they are more like bets against the borrower being able to repay the loans. But since they are simply contracts between entities, there is no regulation to ensure that the sellers of CDSs actually have a capital reserve in case the borrower defaults on a loan. Also, as the article points out, they can sell multiple CDSs on a single loan, even to entities that aren't lending any money.
Knowing this, a series of mortgage defaults can trigger an avalanche of claims that can overwhelm banks that sell these derivatives.
What are financial derivatives? What are Credit Default Swaps (CDS)? They are sort of like insurance against loans, except they are not regulated as insurance, so they are more like bets against the borrower being able to repay the loans. But since they are simply contracts between entities, there is no regulation to ensure that the sellers of CDSs actually have a capital reserve in case the borrower defaults on a loan. Also, as the article points out, they can sell multiple CDSs on a single loan, even to entities that aren't lending any money.
Knowing this, a series of mortgage defaults can trigger an avalanche of claims that can overwhelm banks that sell these derivatives.
