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A Detailed Look At Goldman's CDS Holdings And How CDS Trading Has Become The Squid's Multi-Billion Cash Cow
One of the more useful information items in Goldman's periodic filings is granular disclosure on the firm's CDS holdings, and specifically segregated data by maturity bucket and by spread as pertains to "maximum payout and notional amount of written credit derivatives." In essence, due to the firm's monopoly in CDS inventory and, therefore, trading, this is the squid's beating heart: between buying and selling (hopefully offsetting positions) CDS in billions of dollars worth of notional daily, and being able to capitalize on wide spreads, courtesy of the extinction of such traditional competitors as Bear and Lehman, the firm will continue to make hundreds of millions in profits every day, month and quarter, due to its newly found monopolist exposure when it comes to trading CDS, both as principal and as agent.
A little background on why CDS is the primary cash cow in Goldman's sales and trading repertoire.
A Goldman CDS flow trader will traditionally make markets, for example in company XYZ, where he will give the (5 year) market as 500/530 bps, meaning buyers will put on new CDS at a spread of 530, while sellers will offload and/or short positions at 500 bps. By running traditionally balanced books, Goldman's flow trader is able to extract a 30 bps spread on any block of matched buys and sells. On $1 billion of notional traded CDS (which is much less than the firm does daily), with a DV01 of about $400k, if Goldman can unwind its CDS book daily to natural buyers and sellers, it can make $12 million simply by taking advantage of the spread ($400k (DV01) x 30 bps). At an average CDS block trade size of $25 million, Goldman's hundreds of salespeople need to just call up 40 accounts to trade in size and make the firm a risk-free $12 million. In days of volatility, Goldman can easily trade over $10 billion in notional equivalent. Again assuming a 30 bps spread, which the 85 Broad firm has basically guaranteed itself for life, courtesy of monopolizing the CDS market with just itself, and JPMorgan providing any relevant CDS inventory, Goldman can easily make $120 million daily, merely from trading CDS on a risk free agency basis.
This analysis does not even include Goldman's prop operation, which as we have discussed prior, at least in the CDS world, has its traders/analysts sitting feet if not inches away from the flow guys who scream all day long what the Fidelitys and the Putnams of the world are about to trade (and we are talking size: $100MM blocks or more) as trader X tries to find trader Y who may have a matched natural opposite interest. As this screaming match continues, prop trader Z quietly puts on a $10-20MM or more million position, frontrunning whoever may be the large block trader about to execute, without actively moving the market. Once the elephant prints, Goldman's flow guys have locked in the spread, while the prop trader now has a heavy tape to serve as a tailwind. In such a way, combining prop and flow, Goldman is able to make millions and millions daily, without any notable risky exposure: it all is a function of Goldman having i) the largest CDS inventory, ii) the best and largest client accounts, iii) the most liberal seating chart on its trading floor, and iv) nobody who is willing to not take Goldman markets: after all where else would you go?
Sometimes there will be quirks: like when the firm has net notional exposure to a firm like AIG, which may or may not be able to fund tens of billions worth of margin calls, thereby skewering Goldman, which is forced to eat the loss. Of course, in those instances people like Tim Geithner step in and bail out the counterparty so that things at Goldman can continue running as smoothly as always, and the firm can go back to making hundreds of millions in virtually risk free trades daily (and that even excludes the perpetually Fed backstopped balance sheet: this aspect of its risk free business is merely a function of its near-monopolistic dominance of the CDS market: nothing more fancy).
Another time when things get problematic is when Goldman is running an unmatched book: in other words when it has sold more CDS than it has bought, a disbalance from a purely P&L point of view, or when it has sold less than it has bought, a risk from a counterparty perspective.
The last is precisely what happened to Goldman as it transitioned from last year and headed into 2009. As the charts below demonstrate the company materially tightened its overall sold CDS exposure, in other words the gross maximum payout it may have been on the hook for at any given moment.
What is obvious is that the firm has collapsed its total CDS exposure by 25% since Q4 2008 (is that November or December? We are not sure which month Goldman prefers: as readers will recall December is the orphan month in which the firm jettisoned all its credit ($1.5 billion) and currency ($2.3 billion) losses). The current CDS total exposure is roughly $2.8 trillion (max loss if all the companies that Goldman has written protection on file tomorrow). Of course this is netted by CDS purchases, which should net out. More on this in a second. Also curious is that the one segment where the firm has collapsed its risk exposure the most is in the 250-1000 bps sector, while it has actually grown its exposure in the 0-250 bps segment. This of course could also be due to the fact that names which were previously trading point up front are now back to double digits spreads, courtesy of the Fed's $23 trillion in excess liquidity propping up all risk assets.
Another view of the data indicates that Goldman, just like the US government, has considerably reduced its term exposure, with the 0-12 month tenor category having grown from $230 billion to $300 billion.
The inverse trend is evident in both the 1-5 year and 5+ tenor holdings, with reductions in exposure across the board.
Yet on a notional basis, things are not quite as bleak, and it appears that Goldman has learned its lesson: while at Q4 2008 the firm had a net liability arising from the carrying value of its written CDS of almost half a trillion, or $460 billion to be precise(that would mean its net exposure if all counterparties failed, would leave the company scrambling to get first row seats before Bernanke's printing press and praying it could print $460 billion worth of worthless dollars in one day), that number has since collapsed to a liability of merely $82 billion. Yet even that number is staggering, and begs the questions of what will happen to Goldman if we have another Lehman event at some point when the Fed's printing presses finally blow a fuse, and, more importantly, just what is the exposure of the other major CDS trading power houses which have likely not been as prudent in managing their credit derivative exposure. Zero Hedge will next analyze disclosed CDS exposures at JPM, DB and some of the other left over CDS trading desks. Luckily, with Lehman and Bear no longer out there (providing a happy Goldman with limitless Fixed Income monopoly powers), our task will be much easier.
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If the bailouts worked all that well, what's with unemployment at 17%? All the GS arguments about how it would've been the end of the world if they hadn't taken the money they didn't need (never mind they still haven't paid it back) are nonsense. GS=complicated-sophisticated debt instruments=Ponzi=USD. The sooner this fails (already has for 17% of US workers) the sooner we'll have a chance for a better system. Bring out the pitchforks.
Yet another market that serves no function other than control.
Thank you all for such a passionate discussion tonight.
Some items that seem to have been underdiscussed:
When Fed collapses target rate, it steals from risk averse savers/retirees to subsidize curve intermediators/carry traders.
Bailing out money center banks and bulge bracket firms only saves life as they know it. Mainstreet workers are not dependant on the shadow banking system for capital. Yes, the demise of securitization-hedgefund shadow banking will raise the cost of credit, but credit will resurface at its proper price with on-balance sheet lending.
Traditional rules of listed trading are essential for the integrity of markets. Non-printed derivative markets are a destabilizing cesspool.
TBTF will lead to facism.
Graham, Leach, Bliley was a mistake.
QE was position trade free money.
How much lending has GS done as a bank?
Simple enough.
TimmyM - Bingo! The longer we use the 'promise of future taxation' to backstop the risk trade the longer there will be a slow suck on the real economy. The reason we have learned over time to take over and break up banks and monopolies, is that this is sometimes the best way to clear the system, from the perspective of the real economy. The taxpayer has a right to regulate and or break up the CDS markets due to the systematic risk that they put onto the financial system as a result of the counterparty risk of a few concentrated players, such as GS. Anyone who argues that the AIG bailout was done to 'save the system' rather than to 'save GS' is also making the argument that the CDS markets need to be regulated, and that the concentrated players need to be broken up.
Timmah: you succinctly nailed this. Except for the part about leading to corporate fascism. We are already there. TBTF is the policy of the oligarchs who control this segment of our world, if it takes every last cent the taxpayers have.
GS should not be a bank holding company pure and simple. Reenact Glass-Steagall and put an end to all of this madness.
beautifully, simply put
From a macro prospective it seems insurance in general is one of the fundamental problems. The CDS market should not even exist along with varies other forms of insurance(car,house, most medical). Removing risk breeds corruption and lazyness, Being held accountable to ones speculations obviously puts a check on greed/stupididy it doesn't Eliminate it but it helps.
Haha exactly. Insurance is just another form of fraud. I can't imagine how someone actually got it signed into law that you needed insurance for your house or car. Where else do you see government guarnteeing demand?
Also if all your clients make claims at once the buisness doesn't have the capital to cover the false promise.
I start with asking: why buy a CDS? Why is there such a robust market for CDss? How did CDSs somehow become an indispensible part of supposedly prudent portfolio management? The concept sounds nice: slice off the risk segment of your investment and buy and sell that portion of it, hedge against, speculate on the soundness of the debt issuances of others. In a perfect world, CDSs mean that one need not worry about the soundness of a particular debt offering: with the right CDS in place, you are holding AAA. The obvious problem is that this cannot be so. The risk went somewhere. Instead you have swapped the underlying instrument risk for the risk inherent in the CDS itself: will the CDS issuer pay me? Now you need to think through the soundness of the issuer's balance sheet, and understand all of the CDSs they have issued, and the soundness of all of those other debts they have insured. But these "insurance companies" are not regulated, and due to the massive data required, and the opaqueness of the CDS issuers' balance sheets, this latter step is impossible. So really the protection these things offer is ultimately illusory. So why buy them? Has it become the norm in portfolio world?
Is there data that shows over time CDSs perform the function they are intended to perform? Do they work? Are they real?
Well, your thoughts lead me to believe CDS are nothing more than a way to circumvent regulation and capital constraints. The counterparties accept trading with each other only because of TBTF. TBTF is the bad habit and CDS is the disease. So all the profits extracted by the socially noncontributing moneychangers is nothing more than their grabbing a slice of the premium generated by the taxpayer put.
Slippery squid trails
across the Zero Hedge blog
all shiny and wet
tentacles extend
from behind the chinese walls.
truth snips a sucker
"truth snips a sucker"
Lovely!
Chinese walls you say?? Hmm...
http://www.metmuseum.org/special/Cai_Guo-Qiang/view_1.asp?item=0&view=l
;~)
Beautiful.
Gold men with large sachs
Slip down our long dark chimney
like anti santas
LMAO.
I feel sqidz up my butt now. Help! Help!
Kinda like a case of worms.
I know, I'll say it for you: EEEEWWWW!!!
Need strong medicine
To kill parasitic squidz
Must Audit the FED
[Sigh] We are doomed to squirm. No getting around it.
Many seem astonished at GS's percentage of profitable days. Here's a statistical anomaly even more amazing to me. How is it that Jews are only 14 million worldwide representing only .2% of the world's population? Yet, their control over the worlds' power and money is exponentially greater than that. I don't have supportive figures, but I think it's obvious to most.
If you look at any industries of influence including politics, media, and finance, Jews are likely the majority. It's been estimated that 40-50% of the world's billionaires are Jewish.
I don't consider myself an anti-semite, I am just perplexed. Is it a cultural thing? Do they have a different genetic makeup? Again, I am not being critical, just curious. If this were the case with my ethnic class, I would be just as inquisitive. Can anyone shed some light on this? I am not looking for racial attacks or anti-semitic comments. I am just wondering how such a tiny percentage of the population can come into so much power, money, and influence.
It is their culture/religion in my opinion. A Rabbi is a teacher, not a special conduit to God. Instead of teaching children passive memorization, they teach active criticism of the religion's ideas. When they were in the ghettos, they still prioritized teaching their children the three R's. They learn Hebrew, and the language of the native country they are living in. Stimulating the area of the brain that does language like this gives a child an edge, again, IMO. Furthermore, and here I could get slammed, but I have firsthand experience seeing this in action, Jews do tend to do business with their own and support their own. Think about it, the legacy you inherited as a Jew is that your race was so far into denial about what was going on that they walked into the ovens, to their deaths, without resistance. And through the ages they have been enslaved.
Would I be deeply troubled by that outcome for my ethnic group? Yeah. Would I say never again? Fcuk yeah.
I'd teach Torah, Hebrew, and everything to my crew, and I'd teach fighting and guns too. Never again indeed. I think supporting your own is a quieter way of saying Never Again. I do not see this as a bad thing. I do not see your question as racist. I hope no one else here does either.
And I am open to it that I am wrong and stereotyping. Jews kick ass cause they have been getting their asses kicked through out history. Natural reaction. I don't support everything every Jew comes up with, but I surely understand it.
Well said MsCreant,
If you're walking in the woods with a friend and you stumble upon a pissed off mother bear protecting her cubs, you don't need to outrun the bear, just your friend. I have found that many of the Jewish faith have been taught to run faster than their fellow hikers.
IMHO part of that comes from the vigorous criticism and debate they are taught at an early age and which you outline very well above. I remember in high school football being told by the coach that you play the game with nearly the same intenstity as you practice during the week so practice hard.
However, it's interesting that they're still tightly bound by their basic religious beliefs and premises and the debate is usually narrowly constrained. Exercise within strict limits. But they still can run faster than most. A Jew I worked with a for few years always had a saying he would repeat whenever he was asked to explain his success.
You're either eating lunch or you are the lunch. I believe the Jews changed the lunch menu many centuries ago and it's one of the reasons they are hated so much.
Possibilities:
A. Jewish people are smarter and more ambitious than the rest of the population
B. They own the press (media & printing money) (central banks,TBTFs, & media)
“Permit me to issue and control the money of a nation and I care not who makes its laws” - Mayer Amschel Rothschild, 1790
C. They are God's chosen people
D. Like Joseph in Egypt multiplying the Pharoahs wealth, they are chosen as good leaders
E. Central banking has taken over most countries and industries and has cheated people of their birthright through debt enslavement
F. Birds of a feather flock together - if Rothschild had been of a different background all the statistics you spoke of would probably lean toward the background of THE BANKER (ethnocentrism)
Any number of these possibilities are worth pondering, many acheive through merit (Einstein as just one example), but we do want to audit the fed to ensure that "friends of the printing press" are not enriching themselves with taxpayer money at our expense. If you owned a printing press, you would eventually own everything else - and you would not care who made the laws (Republican or Democrat). Since money is now created out of thin air, debt is control without a viable claim on its creation (ownership).
CDS are brokers heaven.....
High mark ups....
Not visible on an exchange ....makes markups more unknown...
Big buyers and sellers.....one does not have to make a million $10,000 calls to customers...
Just make a couple of calls ....and go to the GYM...
Or the club....
Broker's heaven....
The only reason CDS is still around is because of all the stuctured credit deals. GS made all the money in CDS only because structured desks were getting long sht loads of corporates as part of delta hedging few years back. then when vol spiked all those books are negatively convex and were happily crossing GS bid/offer back and forth for about year or so. because there was nobody else to trade with. now stuctured credit bis is gone, and there is no natural offer on CDS. my guess is the prof of GS desk will decline quite dramatically in the next year or two. my 2cc