In a previous post, we wrote about synthetic CDOs, the multi-trillion-dollar ticking time-bomb of financial doom. Those SCDOs are still out there in the financial aether, waiting for the right set of companies to go bankrupt, so that they may transfer an unknown, but vast, amount of money to major American banks.
This is predatory finance at its finest: create an 'asset' which has no basis in realty, hoodwink investors into believing the monster is a bond, set up a holding company in the Cayman Islands with a used office chair for collateral... and then wait. Sooner or later, the companies which trigger the SCDOs (General Motors, American Insurance Group, Fannie Mae, el al) will implode, and gift to the sponsoring banks a huge bag of money.
There's another tool of predatory capitalism we've just found: negative-basis trade. Bloomberg has a good article about the subject, but we'll summarise. A bond-holder of a failing company -- say, Ford -- can purchase a credit default swap for their bonds, to insure against Ford going bankrupt. If Ford did indeed go bankrupt, the bond-holder would be reimbursed the full face value of their bonds, rather than what the market says the bond is worth.
With Ford dying of carbon monoxide poisoning as we type, it's looking more attractive to these negative-basis trading bond-holders to simply force Ford into bankruptcy. That way, the bonds will pay out their full face value, rather than the understandibly depressed value seen in the bond market.
Negative-basis trading is, above all, a tool of financial assassination: it allows holders of significant amounts of bonds to obstruct a company's reorganisation and force the company into bankruptcy. Investors who make their money in this manner have every interest in forcing as many companies -- no matter what the potential for recovery -- into bankruptcy. This is horrifically destructive to the economy: first and foremost, it is cannibalism; secondly, it is seriously damaging the economy's capacity to form investment capital for productive ventures.
On top of it all, this is the Golden Bullet for any and all banks waiting for their SCDOs to activate. With negative-basis trading, a bank can efficiently and legally 'kill' any and all companies which need to fail in order to trigger the $50+ trillion in SCDOs. It's akin to taking out jumbo life insurance policies on one's neighbours... and then killing them.
Saturday, March 7, 2009
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1 comment:
Without in any way disagreeing with your post, the only interesting "on the other hand" I can think of is how I have read that corporate restructuring is slow and often unsuccessful. The market itself is much more efficient than individuals or companies in truth. The old adage "it is hard to teach an old dog new tricks" often holds true and moving an old dog into a new culture than understands their roles much better may in fact be economically more efficient.
The last thing is that I would suspect most of these bonds are in the financial services arena. The reality is that these companies need to die yet you a whole world has sprung up to keep them on Japanese life support.
If the price of this necessary wholesale write off is a need to harm a few otherwise solid companies, it may be worth it. The solid businesses will quickly be replaced by competitors who will all learn the lesson of the danger of growth by debt vs. growth thru productivity improvement.
The more I think on this, the more I reserve judgment. The law of unintended consequences in forbidding certain things is always in the background.
And who would sell CDO protection TODAY to someone who already owned a bond in a company that was slowly circling the drain?
"A fool and their money will soon be parted"
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