Enter Cede & Co II; The Fed Is Now Backstopping $25 Trillion In DTCC Cleared Credit Default Swaps

Tyler Durden's picture

And you thought the $23 trillion in backstops for the financial system was bad, you ain't seen nothing yet. Earlier today, the Depository Trust & Clearing Corporation, best known for its Cede & Co. partnership nominee which is the holder of virtually every single physical stock certificate in the known universe, and accounts for over $2 quadrillion in stock transactions per year, announced that "the Federal Reserve Board had approved its application to
establish a DTCC subsidiary that is a member of the Federal Reserve
System to operate the Trade Information Warehouse (Warehouse) for over
the-counter (OTC) credit derivatives.
" With this approval the DTCC is now the de facto legally accepted
global repository for over-the-counter credit derivative transactions. Simply said, the Federal Reserve is now the guarantor behind all CDS transactions that clear via DTCC, which would be pretty much all of them (sorry CME, you lose). The total bottom line in terms of gross notional? 2.3 million contracts with a gross notional value of $25.5 trillion. When the next AIG implodes, and the CDS market is once again facing annihilation in the face, who will be on the hook? You dear taxpayer, that's who.

The new Fed-endorsed organization will settle CDS obligations in all currencies and process credit events. It will also include all OTC credit derivatives traded worldwide, and will be regulated by the Fed and the NY State Banking Department and will be overseen by other US and International regulators.

To be sure, the net notional CDS amount, which is what counterparties would be on the hook for in the case of an orderly unwind of the financial system, is materially lower than the gross total. Yet, as systemic unwinds are never orderly, gross tends to become net in those occasions when Lehman bonds go from par to 10 cents in the span of 24 hours. Should systemic risk flare up again (and this time Europe will be both shaken and stirred, thank you Mr. Hazard... Moral Hazard), and fiat-based market values quickly catch up with fair values (which in our ponzi economy can easily be calculated: they are all zero).

The actual organization that will soon be in need of a bailout, is the Warehouse Trust (there's that word again) Company, which in turn will operate the DTCC's Trade Information Warehouse, and will begin operations “once certain organizational conditions have been met, which are expected shortly." Presumably, the TIW, which has been in operation for just over one year, is somehow supposed to inspire confidence that the DTCC has an idea of everything that goes on in the quadrillion + CDS Market. "The release of this information has been an important step forward in
helping increase transparency in the marketplace. More detailed
information on individual firm trading has been made available
confidentially to regulators around the world with the consent of
market participants.
" Oh great, at least someone has information to the confidential information.

What all this implies is that basis spreads will likely compress very shortly, once counterparty risk becomes a thing of the past and all systemic risk in the biggest derivative market out there (ex IR swaps) is fully backstopped by the Federal Reserve. It will also guarantee the DTCC monopoly status when it comes to CDS trading as nobody will desire to transact and/or clear elsewhere.

We shudder to think if the Fed grants DTCC with exclusive status for IR and FX swaps as well, and the associated $600 trillion notional outstanding.

And from an insider, we know that the company will be funded and commence operations by March 1.


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deadhead's picture

Perhaps it would be a good idea to share some of this risk with the FDIC??

Kitler's picture

Looks like they are merely completing their plans to transfer all the risk they created to the citizens of the United States of America through any and all avenues possible.

I'll bet the sheeple are really going to be up in arms about this one... Ha ha ha!!

The downside unfortunately is that if they keep this up there will be nothing left for US to steal.

anarkst's picture

There's nothing left already.  Balance sheet for the United States of America private/public is (-).  Game over.

Kitler's picture

You forgot "double or nothing" and "do-overs".

Hephasteus's picture

I'm not broke yet. I still have the full faith and credit of the AMERICAN PEOPLE. Soon be said while dodging bullets.

Problem Is's picture

Tax Revolt

All the Sheeple:  "No pay tax. 4 legs good...  Two legs, Blank-dick-fein, Dimon BAAAADDD...


inflationary's picture
inflationary (not verified) deadhead Feb 10, 2010 6:20 PM

yes, this crisis will get much worse. march lows to be rboken. currently reading: http://www.iamned.com

Anonymous's picture

spam alert!

Bam_Man's picture

That's pronounced "Seedy & Company", right?

J.B. Books's picture


Pretty much say it all for me...  I'm the middle monkey

J.B. Books

Anonymous's picture

"gross notional value of $25.5 trillion. "

Big deal. When are you gloom and doomers gonna come to grips with the fact that Zimbabwe Ben has this all under control? Don't you understand the way Ben rolls by now? He can create $25 trillion quicker than you can say "Weimar Republic".

Besides, all Ben really has to do is threaten to create that $25 trillion out of thin air. The mere suggestion will be enough to send holders of worthless paper worldwide into paroxysms of ecstasy, and thus nip any potential crisis right in the bud. Preferably the day before a quadruple witching Friday. Gotta keep those radical put-option-buyin' enemies of the state honest.

Kitler's picture

You speak the truth. Ben indeed has everything under control and running according to plan. (Well someones plan!) Is there anyone else better suited to fill in those pesky financial black holes he created with electrons and green ink? Thought not.

Missing_Link's picture

You're right!  How silly of me.  Once you said "Weimar Republic," I remembered how well that experiment ended up.  Nothing bad can possibly happen from this point forward.

Oracle of Kypseli's picture

Can someone please explain why gold price does not punish Ben and Company?

SWRichmond's picture

Because the "gold price" is the price of paper gold contracts traded on CRIMEX / London, which can be settled in paper and not real metal, and we're already seen that an infinite supply of paper is available to those who are fighting to maintain the fiat / bankster regime's power.

Buy physical, take delivery.  When the exchanges run short of real physical metal, then the price of physical and paper gold will start to diverge in a way that can't be ignored.

illyia's picture

Yes, but it's too complicated and political.

The short answer is - it will.

Of course, by then many things won't matter so much.


Psquared's picture

Don't forget, the hyperinflation of the Weimar Republic ended with a currency reset. As Bill Murray would say, "soooo, I got that goin for me."

carbonmutant's picture

Does that make the DTCC more powerful than China?

Anonymous's picture

Why would a clearing/trade information house be on the hook in the event of another Lehman implosion?

(The AIG implosion is a poor example, since the US taxpayer ended up paying for that even without this new Information Warehouse).

cougar_w's picture

It's a clearing house. How is anyone on the hook for anything? What did I miss? The bigger problem might be maintaining their independence from the FED. We don't want any bubble-blowing in the halls of the DTCC.

Assetman's picture

Good point... I'm left wondering what I missed as well.

It might imply if JP Morgan in a CDS transaction can't get a counterparty to pay up in the multiple billions, the DTCC can use the Fed as a backstop to "clear" the transaction-- so JPM can book their gain at taxpayer expense.

Of course all this is being done before volatility really starts hitting the fan in the FX and interest rate markets.

The gross notational is a vast exaggeration of what is on the hook.  More likely it is only $2-$4 trillion at risk.  That the new "drop in a bucket".


cougar_w's picture

That's an interesting angle; the FED making good on gambling losses. But I guess they did that with GS v-v AIG...

But that was a one-time deal pulled off in a smoke-filled back room while everyone was too busy hand wringing over an anticipated financial meltdown. Surely they could not now institutionalize that as a practice, could they? Wouldn't somebody ... well notice?

Oh ....

Okay maybe we are screwed.


Assetman's picture

As a consolation, I'll admit I'm really grasping at straws here.  After looking at follow-on comments, I'm not far off from Tyler's interpreation. 

There's some really good refutes, though.

trav7777's picture

Look...I told the douchebags on TF this and I'll say it here:  if YOU won't borrow, the gov't will do it for you.  CREDIT MUST GROW

inflationary's picture
inflationary (not verified) trav7777 Feb 10, 2010 6:06 PM

Big deal, it's not like we was charging for it. The 1979 revolution WILL be rewritten tomorrow, the opposition will storm the parliment or something of that magnitude.

currently reading: http://thenext-crisis.blogspot.com/... this pales in comparison to real crisis!

nedwardkelly's picture

Flag this shit as junk and ban this clowns ass

B9K9's picture

Trav, you're absolutely correct - Keynes 101: substitute public aggregate demand for private de-leveraging.

There's only one problem - the high water mark for that strategy was 1/19/10. We don't need to have any actual reductions in public spending in order to get the deflationary ball rolling; we only need to see the rate of increase decline.

That's why Nov '10 is going to be such a watershed event. It won't effect anything really radical like ending the Fed, whacking the criminals at GS/MS, et al, but it will achieve one very important distinction: it will be the final nail in fiscal/monetary expansion. So that will be that in terms of re-inflating the bubble.

And if we actually get serious about 'deficit' reduction ie austerity measures, look out debt-deflation tsunami.


ShankyS's picture

"And thus socialism was born" it will say in the history books. Hell, if I am not nistaken isn't the DTCC one of the most controvercial and secretive players out there?

Anonymouse's picture

I have dealt with DTCC twice in my career, trying to track down a missing payment to a European investor.  It was a nightmare, as they won't talk to the manager, the trustee, or the investor.  The only person they recognize are the nominees on either side of a transaction, and getting them is a nightmare.

It turns out the mistake was on DTCC's part, but it took about 4 days and 50-60 man-hours to track it down.

So, at least in that sense, they are very secretive

Rainman's picture

......secrecy is the perfect wedding partner for the Fed. A marriage made in hell.

George Washington's picture

TD:  Great catch... great analysis.

RhoRhoRhoBoat's picture

This post holds no water whatsoever.  There are two massive assumption flaws:

(1) "Simply said, the Federal Reserve is now the guarantor behind all CDS transactions that clear via DTCC"; Any bank or financial institution can become a member of Fed Reserve system.  Your local community bank probably is.  Backstop?  Dont think so.  Backstop here?  Absolutely nothing indicates that.

(2) DTCC can or will blow up, creating the apocalypse: they are not the counterparty to these swaps, only the information processor.  Worst worst worst case scenario? Trade data is unavailable for a few hours.  Kinda like what happens at NYSE every now and then.

Tyler Durden's picture

Let me explain what holds water: you are Goldman, you have $100 million with AIG as counterparty. AIG fails. You have only collected 50 million in var margin but are owed another 50 million due to intraday valuation shortfall (net/gross equivalency) based on bond prices, etc. Before, you would push for systemic restoration, and taxpayer funding to keep AIG propped up. Now, you don't care, cause the DTCC, via the Fed, will make you whole. Counterparty risk removed.. as it the middleman.

Daedal's picture

"It is expected that in the new company, the Trade Information Warehouse for credit derivatives will become subject to a collaborative global regulatory scheme involving interested regulators in Europe as well as the U.S. The new trust company will also establish a subsidiary in Europe to facilitate the offering of regulated Warehouse services in Europe."


Anonymous's picture

I don't agree with this. CDS clearing should work just like the futures exchanges. MTM capital should be posted to Goldman if they are net positive, and debited from AIG if they are net negative. This is the benefit of central clearing.

jm's picture

Isn't a central clearing structure what screwed CME's plans?

Anonymous's picture

Wrong. DTCC is just an information repository. ICE Trust is the CDS clearinghouse. Been operating for over a year.

Anonymous's picture

a little bit more than a repository but not a full blown death star CCP.

Anonymous's picture

I think you're confusing the warehouse with a CCP service.

DTCC is offering matching pre-settlement, lifecycle event management and central settlement links to CLS for the cash flows associated with the contract terms and various credit or other events triggering a payment.

These are true OTC's, bi-laterally contracted (or in the case of novation following strict protocols on handling the process) and so DTCC is not "the middleman" between two counterparties. The CCP's (various) are also linking up to leverage the process platform. Margining in any of these CCP's is wholly independent of DTCC. In any true ISDA bi-lateral arrangement it's going to be counterparty to counterparty negotiating disputes. BTW...have you read ISDA's dispute resolution proposals recently? Worth a look.

The point of the DTCC repository is to provide a central place for the Fed or any other regulator to request transaction details. DTCC is simply expanding their service portfolio because they have the infrastructure to do it well and connectivity to the CCP's, CLS, SWIFT etc. It's just smart engineering, not a diabolical plot.

All this ominous overtone stuff isn't helping anyone's argument about other aspects of the OTC market that require attention. The processing efficiency in OTC land was primitive at best before the Fed started banging the table on confirmations in 2005. At that time there was probably 60% uncompared trades greater than 90 days. Think there was no risk there? There have been millions lost due to screw ups on the ops side which btw distorts the portfolio rec's and in turn create collateral calc problems.

Of course the Fed blew past the bigger issues on naked CDS writing etc. That's another angle.

Anyone who works in or has been around the business understands that automation, even in "the back office" is always a plus. Dealers hate electronic matching, transaction reporting, trade repositories etc. These improvements all shed light on the detail and level of business being conducted.

In any case, your premise is factually incorrect so while I share your ire at the excesses and oversights, this is not something to lose sleep over.

Love your work here and have learned a whole lot. In this instance, hope I help inform the debate.

calltoaccount's picture

The DTCC avows neither it nor subs is responsible for actually settling securities trades or enforcing "good delivery" settlement requirements-- even though they assumed the responsibilty from and on behalf of the SEC. ( the establishment of a national system for the prompt and accurate clearance and settlement of transactions in securities”. (Section 17A (a)(2), 1512 U.S.C. 78q-1(a)(2). 

They assumed the responsibility and then simply disowned it. 

Does your interpretation suddenly make them liable for actually settling a securities transaction?  That could certainly put a crimp in the stock counterfeiting profits of their Wall St. financial industry owners.

SWRichmond's picture

Warehouse Trust is to DTCC as AIGFP is to AIG.

Edit: No one wants CDS "regulated", they only want them paid at par without a lot of whining from the taxpayers.

Anonymouse's picture

For a great (fictional) example of how our entire economy is dependent on DTC, read "Debt of Honor" by Tom Clancy.  It has been several years since I read it, but the gist of the plot is that terrorists (or was it some renegade Japanese) introduce a bug in the DTC computers that completely erase all records of shareholders.  It brings the world economy to a halt instantly and creates more chaos than any nuke would.

(spoiler alert)

As a bonus, the book ends with 9/11-like attack on the Capitol during the State of the Union.  It was published in 1994, showing just how prescient Clancy can be.

Kitler's picture

Problem solved by a 'do-over' as I recall.

Anonymous's picture

They never shut down on 9/11.

Anonymouse's picture

That plane went down in PA before it could get there.  Sorry if the whole plane-crashing-into-a-building-just-like-9/11 was too abstract a connection for you

Don Smith's picture

Hang on, how is the custodian liable for the counterparty?  Am I missing something?  I can't sue Scottrade if a seller fails to deliver on a trade, can I?  I can't sue the NYSE... I have no recourse in an options trade with the CBOE, do I, if the counterparty fails to deliver?

Anonymous's picture

The OCC guarantees all trades done on the CBOE.

jm's picture

The point is that in a (possibly) not so limited set of circumstances, you will not pursue recourse with the counterparty, but with an entity who has potentially assumed the role of insurer to the transaction.

No counterparty will screw the Fed, of course, but the structure enables the Fed some discretion regarding how to deal with counterparties... in extreme distress.  

Anonymous's picture

Yeah Tyler you're off here bud. DTCC is a clearing house. If goldman has positive MTM in their favor, there is someone with negative MTM who has been collecting it and posting it to Goldman. Just like futures VM. Don't see the added risk here other than its competing with the CME who would surely be more responsible due to their profit-making nature.