Did you see the segment on the explantion of credit default speculating?
A pretty good non-partisan explanation of what was basicaly legalized gambling in the market that was able to happen because of a last minute bill passed near unanimously (read all sides) by congress.

This legalized betting on the market seems to be credited with a big part of the collapse of things as we are seeing. Seems alot more about widespread greed and poor oversight than a particular party issue. Would love to hear from Kahuna and/or others with more experience in this dept. on their opinion of the show/explanation if they saw it.

Other than the most basic definitions, and even though I spent a quarter of a century as a commercial and merchant banker, I don't have a clue on how the vast variety of credit-based derivatives work and more importantly, how they are interdependent and interrelated.

It's apparent that the smartest and most conservative of the banks who became involved as counterparties on one side or the other of these derivatives didn't understand them either. I can tell you with 100% certainty that none of the banks or institutions involved in this mess wanted it to happen. I know for sure that all the banks involved each had dozens of their smartest people using as much computer power as needed to model, forecast and project what would happen under various economic scenarios. Those people were involved in what was called "risk management". They were doing all that analysis to establish internal credit policies and portfolio management rules to avoid what has happened. Obviously, they weren't smart enough.

Layered on top of the people I described, at the national banks at least, were the regulators that regularly visit the banks to perform examinations to assure that the financial strength of those institutions are not compromised. With the largest banks, the bank examiners have office in the banks and are there full-time. Obviously, their work was insufficient to avoid the crisis thsat occurred.

Then there were the public accountants. Their job is to certify that the financial statements prepared and published by the banks fairly represented their true financial condiiton pursuant to published accounting standards. They "whiffed" as well.

Lastly were the rating agencies--Moody's, Standard & Poors and Best--their job is to analyze and rate the debt instruments issued by banks, both for the structure of the debt as well as the ability of the underlying bank-issuer to repay the debt. Their failure to identify the real risks made it four-for-four among those that were responsible for identifying the risks of the situation.

If I wanted to make it five-for-five, I could include the army of certified financial analysts (look for the CFA designation on those stock evaluations you read) whose job it is to evaluate the book and potential market value of the stocks of the banks. They all missed the boat, as well.

I've just outlined a really scary scenario that under current regulations could be repeated again. A few smart investment bankers who come up with some attractive derivative securities, and make a lot of money finding counterparties to take the sides of the derivatives, can make all this happen again. Once the investment bankers set up the securities, find counterparties to buy them and take their generous fees, they're finished. They have no further exposure. And I assure you that the counterparties, the bank regulators, the public accountants, the rating agencies and the financial analysts won't be able to figre it out next time any better than this time.

I predict it'll take about 15-20 years for something like this to happen again. Look at financial history--the Great Depression in 1929-40, skyrocketing inflation and another financial crisis in the mid-1970's, the S&L failures of the late 1980's, the failure of the LTCM hedge fund which almost metastacized into the worldwide banking system in 1998, and now this even worse financial crisis in 2008.

Yep, about another 15-20 years and we can almost count on something like this happening again. The risks taken are assumed because of the profit motive. Regardless of what our elected legislators tell us, no amount of regulation will be sufficient to prevent it.

Many have said, even some here on this board, that we the average citizen is to blame for the financial crisis. With the complexity of these credit swap derivatives I just think that is more spin. We definitely need more regulation.

Originally Posted by Villages Kahuna

Other than the most basic definitions, and even though I spent a quarter of a century as a commercial and merchant banker, I don't have a clue on how the vast variety of credit-based derivatives work and more importantly, how they are interdependent and interrelated.

It's apparent that the smartest and most conservative of the banks who became involved as counterparties on one side or the other of these derivatives didn't understand them either. I can tell you with 100% certainty that none of the banks or institutions involved in this mess wanted it to happen. I know for sure that all the banks involved each had dozens of their smartest people using as much computer power as needed to model, forecast and project what would happen under various economic scenarios. Those people were involved in what was called "risk management". They were doing all that analysis to establish internal credit policies and portfolio management rules to avoid what has happened. Obviously, they weren't smart enough.

Layered on top of the people I described, at the national banks at least, were the regulators that regularly visit the banks to perform examinations to assure that the financial strength of those institutions are not compromised. With the largest banks, the bank examiners have office in the banks and are there full-time. Obviously, their work was insufficient to avoid the crisis thsat occurred.

Then there were the public accountants. Their job is to certify that the financial statements prepared and published by the banks fairly represented their true financial condiiton pursuant to published accounting standards. They "whiffed" as well.

Lastly were the rating agencies--Moody's, Standard & Poors and Best--their job is to analyze and rate the debt instruments issued by banks, both for the structure of the debt as well as the ability of the underlying bank-issuer to repay the debt. Their failure to identify the real risks made it four-for-four among those that were responsible for identifying the risks of the situation.

If I wanted to make it five-for-five, I could include the army of certified financial analysts (look for the CFA designation on those stock evaluations you read) whose job it is to evaluate the book and potential market value of the stocks of the banks. They all missed the boat, as well.

I've just outlined a really scary scenario that under current regulations could be repeated again. A few smart investment bankers who come up with some attractive derivative securities, and make a lot of money finding counterparties to take the sides of the derivatives, can make all this happen again. Once the investment bankers set up the securities, find counterparties to buy them and take their generous fees, they're finished. They have no further exposure. And I assure you that the counterparties, the bank regulators, the public accountants, the rating agencies and the financial analysts won't be able to figre it out next time any better than this time.

I predict it'll take about 15-20 years for something like this to happen again. Look at financial history--the Great Depression in 1929-40, skyrocketing inflation and another financial crisis in the mid-1970's, the S&L failures of the late 1980's, the failure of the LTCM hedge fund which almost metastacized into the worldwide banking system in 1998, and now this even worse financial crisis in 2008.

Yep, about another 15-20 years and we can almost count on something like this happening again. The risks taken are assumed because of the profit motive. Regardless of what our elected legislators tell us, no amount of regulation will be sufficient to prevent it.

A great explanation. Thank you. But fools will always make bad decisions to try to make an easy buck, and the buyers at all levels were fools it seems.

"I've just outlined a really scary scenario that under current regulations could be repeated again. A few smart investment bankers who come up with some attractive derivative securities, and make a lot of money finding counterparties to take the sides of the derivatives, can make all this happen again. Once the investment bankers set up the securities, find counterparties to buy them and take their generous fees, they're finished. They have no further exposure. And I assure you that the counterparties, the bank regulators, the public accountants, the rating agencies and the financial analysts won't be able to figre it out next time any better than this time."

So you see no viable way of avoiding repeat scenarios? That is as frustrating as it is frightening.

We used to kid around at the bank where I worked that the same mistakes coild be made, over and over again, about every seven years. The reasoning was that employees turn over in their jobs at about that rate. So after about seven years, there's no one left in the organization to remember what bad decisions or incompetence lead to the last incident.

It's never turned out to be seven years. But there have been repeated errors by the financial community on more like a 10-15 year cycle.

Even if the regulators were smart enough to figure out some of these new financial products, they too turn over at a rate that nobody remembers how bad the mistakes hurt the last time around.

Maybe the old saying really holds true. If it walks like a duck and quacks like a duck, it's a duck. My next-door neighbor here in TV is a retired chief financial officer of a large school district in Michigan. She tells the story of investment bankers trying to sell her on the significantly enhanced returns she could get by allocating a portion of the district's investment portfolio to derivative securities based on sub-prime home mortgages. She declined because she simply wasn't comfortable placing the school district's assets at risk on securities based on the crazy mortgage lending she had seen reported going on all over the country. She had more than a little trouble convincing her school board that the opportunity for increased returns was illusory in her opinion, that someone would ultimately be the loser with these derivative securities, and that she didn't want the loser to be the school district. She was right. It was a duck.