Credit Default Swap (CDS) Liabilities are Being Addressed Directly

On November 14, the Fed, the SEC and the Commodity Futures Trading Commission formally agreed to establish an open clearinghouse for credit default swaps and provide oversight of the marketplace by the end of this year.

The credit default swap market is what has been causing such rapid destruction of the financial sector.  When Lehman Brothers collapsed on September 15, American Insurance Group (AIG) became insolvent two days later and has now consumed $150 billion of government bailout money.  It sold $447 billion of un-hedged CDS coverage and was unable to satisfy the instant $50 billion collateral call.

JPMorgan Chase (JPM), Citigroup (C), Deutsche Bank (DB), Goldman Sachs (GS), Morgan Stanley (MS), Merrill Lynch (MER), Bank of America (BAC), Credit Suisse (CS), and UBS (UBS) took one side of about 90% of all CDS trades written (notional value, or the face value used to calculate necessary payments for the trades, somewhere between $30 trillion and $50 trillion currently, down from more than $60 trillion).  The CDS risk to these companies is and has been an enormous overhang.

With regulation, transparency, risk aversion and the removal of speculators from this market, there could be a rapid stabilization of our largest financial institutions.