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Guest Post: Janet Tavakoli: Understanding Derivatives and Their Risks

Tyler Durden's picture


Submitted by Adam Taggart of Peak Prosperity,

Global financial markets are awash in hundreds of trillions of dollars worth of derivatives. By some estimates, the total amount exceeds one quadrillion.

Derivatives played a central role in the 2008 credit crisis, as they had a brutal multiplying effect on the magnitude of the carnage. As a bad asset was written down, oftentimes there were derivative contracts written against it that resulted in total losses 10x greater than the initial write-down.

But what exactly are derivatives? How do they work?

And have we learned to treat these "weapons of mass financial destruction" (as Warren Buffet colorfully coined them) any more carefully in the aftermath of the global financial crisis?

Not really, claims Janet Tavakoli, derivatives expert and president of Tavakoli Structure Finance.

But the danger behind derivatives doesn't lie in their existence, she stresses. They play and important and constructive role in a healthy financial system when used responsibly.

But when abused, derivatives can create massive damages. So at the root of the "derivatives problem", Tavakoli stresses, is control fraud - the rampant unchecked criminal action by influential players on Wall Street. (This is the same method of fraud we've explored in past interviews with Bill Black [13] and Gretchen Morgenson [14]). Derivatives contracts are too often constructed in favor of these parties, who if they end up on the losing side of the trade, are able to socialize their losses. Until we address this root problem of corruption, says Tavakoli, derivatives (as well as other securities: stocks, bonds, etc) will continue to subject investors and our makets, overall, to unacceptable risk.

On The Nature of Derivatives

Derivative just means “derived from.” It’s just referencing another obligation, like a bond or an equity, or you can even reference an option. You can have options on futures, as an example. So a derivative is just like handing out fifty photocopies of a model; you know it’s a derivative of something that actually exists.


Let’s take an example. Goldman-Sachs used derivatives they used to help supply money to mortgage lenders by creating securitizations. And those securitizations were simply packaging up loans that were made by people like Countrywide. Countrywide of course was sued for fraud and settled for $8.3 billion with a number of different states for their predatory lending practices.


So you take these bad loans, you package them up in securities, and if you can combine them with leverage, it will always look like you are making a lot of money. That’s classic control fraud, as William Black so eloquently keeps explaining to the market and as our financial media keeps ignoring. Now, how do you combine it with leverage? Well, derivatives are a very handy item if you want to lever something up. So as an example, the Wall Street Journal looked at a $38 million dollar sub-prime mortgage bond that Goldman created in June of 2006, and yet Goldman was able to leverage that up to cost around $280 million in losses to investors.


Now how did they do that? They did that with the magic of derivatives.


Because with a derivative, you can reference that toxic bond, that $38-million-dollar bond can be referenced, you can say If that bond goes up or down in value, the value of your securitization will change as that bond goes up or down in value. So you don’t actually put that bond in a new securitization; instead you use a derivative – a credit derivative, in this case – to reference that bond. And so with the credit derivative, you can basically create as many of those referenced entities as you want. Now, they stopped at around thirty debt pools; they could have done a hundred and thirty.


Because with a credit derivative, all you’re doing is saying you are going to look to the value of that bond and we’re going to write a contract that your money is going to change when that bond goes up or down in value. That’s a derivative. You’re not actually putting the bond in; you’re just referencing that bond. You are basically betting on the outcome of something. And you don’t actually have to own its physical security. Now that’s a derivative. And that’s how derivatives were used to amplify losses and to magnify losses to make a bad situation much, much worse.                 

On Control Fraud

The root cause of it is control fraud - people in the financial system being able to do whatever they want and remain unchecked.. Where you have a group of individuals who are well rewarded for this kind of behavior and yet there is no punishment for this kind of behavior. As long as we keep that in place, you will just see more of the same. The way the Fed and regulators have chosen to deal with it is to pretend it’s not happening and just continue to print money. And, as I say, it acts as a neurotoxin in the financial system, 

On Deriviative Risk in a Market Downturn

When you most need liquidity, it isn’t there. And that’s always true of leveraged products, by the way. You know, the thing that people overlook is – and this is why fraud is such a potent neurotoxin – when the market freezes, when you end in combination with that, when you have a liquidity event, then you see even good assets deteriorate in value quickly, as people need to sell them into a market that has no liquidity. So you get sucker punched a couple of different ways. So if you can’t stand low liquidity, again, you shouldn’t be playing with credit derivatives.


Now, if you custom tailor your contract, it will be more difficult to offload that contract because people will have to take the time to read the contract, if they bother to read it at all. But that said, that’s not a reason not to re-write the language. With the ISDA standard documentation, the hype was, take our language, because if everyone accepts it, it will make it easier to trade these securities. And that was true, until credit events happen and then everyone pulls out their documents and says Oh my god, what did I sign?

On Gold and Countyparty Risk

Counterparty risk is the biggest risk.

And if you’ve been reading the Financial Times, you see a lot of people who are dismissive of gold. Well, here’s an interesting thing: The Derivatives Exchanges accept gold in satisfaction of margin calls.


We had credit derivatives traders who wanted to have contracts on credit derivatives on the United States that would settle in gold. Because if obviously the United States is in credit trouble, what would you want? You would want gold.


You don’t want euros, you don’t want any other currency; you want gold.


The thing about gold is that you don’t have counterparty risk. And if you look at the rebuttal for people who are saying that gold isn’t money, well, I’m sorry, but gold is being used as money already on derivatives exchanges around the globe. Now that wasn’t true five years ago. It’s true today. J.P. Morgan itself, around eighteen months ago or two years ago, said it will accept gold as collateral in satisfaction of margin calls. So they’ve de facto said gold is a currency.

Click the play button below to listen to Chris Martenson's interview with Janet Tavakoli (54m:27s):


Click here to read the full transcript


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Sat, 09/15/2012 - 19:38 | 2799468 LMAOLORI
Sat, 09/15/2012 - 19:46 | 2799482 Michael
Michael's picture

Dead Baltic Dry Index, collapsing iron ore prices, $700 trillion of worthless derivatives, collapsing muni & bond market, pension funds collapsing, no jobs, no industry in the USA because of NAFTA et al.

Yes we know.

And this;

The Muslims just thought to themselves, after all the USA murderous drone attacks on hundreds of our brown women and children to get a few bad guys, and then said to each other, Why let a good Youtube video go to waste?

Sat, 09/15/2012 - 19:59 | 2799494 centerline
centerline's picture

Come on Michael.  Enough.  They are just responding to thier programming.  Same as you.  Only you have the benefit of education and access to better information stream from which to divine the truth.  Not saying that I am right - that would be foolish - but saying that in my humble opinion you are so close to "getting it" but yet "so far".

Sat, 09/15/2012 - 20:14 | 2799516 Michael
Michael's picture

There are not as many useful idiots this time around the block. We are creating the reality we want now. TV brainwashing is virtually dead.

Benjamin Netanyahu: Iran Containment Strategy 'A New Standard For Human Stupidity' 

Sat, 09/15/2012 - 20:22 | 2799528 AldousHuxley
AldousHuxley's picture

all banksters should be paid in derivatives and must hold until retirement

Sat, 09/15/2012 - 20:44 | 2799562 Michael
Sat, 09/15/2012 - 21:59 | 2799690 Manthong
Manthong's picture

“Socialize the losses is an understatement”

I see your $75 Trillion and raise you $175 Trillion.

Sun, 09/16/2012 - 16:20 | 2801162 Umh
Umh's picture

Perhaps the worst part of entrapping these fools is that it removes dumber terrorist candidates from the pool. This gives law enforcement good numbers while not reducing the real number of terrorist significantly.

Sun, 09/16/2012 - 04:08 | 2800092 Colonel Klink
Colonel Klink's picture

All banksters should be paid in lead, and hold it until they've expired.


Fixed it for you.

Sat, 09/15/2012 - 23:21 | 2799840 NoClueSneaker
NoClueSneaker's picture

hehehe, wait untill the moment when the germa Michel wakes up amd finaly realized that he's penetrated without lube. His first act will be kinda kristallnacht reloaded. No Joos here, but the Turks burn queit as well .

Who cares - ECB makes the politis. The sock puppets hard on sucking the cocks of TBTF could deliver an fart of two ... But, they're good fed :-P

Sun, 09/16/2012 - 03:27 | 2800042 Michael
Michael's picture

51 9mm hollow points strapped to my waist says otherwise.

Fuck them thousand points of light!

Sat, 09/15/2012 - 23:21 | 2799841 NoClueSneaker
NoClueSneaker's picture

hehehe, wait untill the moment when the germa Michel wakes up amd finaly realized that he's penetrated without lube. His first act will be kinda kristallnacht reloaded. No Joos here, but the Turks burn queit as well .

Who cares - ECB makes the politis. The sock puppets hard on sucking the cocks of TBTF could deliver an fart of two ... But, they're good fed :-P

Sun, 09/16/2012 - 06:25 | 2800150 ToNYC
ToNYC's picture

US Bedtime Story requires the non-critical 'they hate us for our freedoms' (they are jealous of course and enraged by their lack and thus hate rather than envy?).

Blowback from the drone program and mathequivalency for al Libbe A-Q #2 lasted in msm for about 24 hrs until such self-criticism was flag-washed. Now it goes in the dustbin of unpatriotism.

Criticism is proving the legitamacy of all parts of the mosaic, but dogma routinely beats scientific inquiry in the multiple-choice fractured /educated.

Sat, 09/15/2012 - 22:27 | 2799749 stocktivity
stocktivity's picture

Who is going to control it? Nobody can even understand it?

Sun, 09/16/2012 - 05:16 | 2800122 Urban Redneck
Urban Redneck's picture

It doesn't help when the author is mischaracterizing the nature of leverage, and grouping derivates as a homogenous class of investment vehicles.

Sun, 09/16/2012 - 12:56 | 2800687 jonjon831983
jonjon831983's picture

Ya -noticed Morgan Stanley hitting the news circuit with derivatives shifting to banking side.  Don`t recall if ZH did a post on BAC's.


`Making Sense of Morgan Stanley’s Derivatives Moves`

`Morgan Stanley shifted derivatives in first quarter`




Sat, 09/15/2012 - 19:39 | 2799469 island
island's picture

Who can argue with Tavakoli?  She knows her stuff.  If only TPTB cared.  Of course, they don't because they are in bed with the fraudsters.

Sat, 09/15/2012 - 19:43 | 2799476 buzzsaw99
buzzsaw99's picture

prices are what da boyz say they are so who the hell is dumb enough to bet on price movements when the price will always be set at max pain?

Sat, 09/15/2012 - 20:02 | 2799499 centerline
centerline's picture

Precisely.  Who hasn't figured out yet the game changed from a casino to a casino going bankrupt.

Sun, 09/16/2012 - 12:11 | 2800599 JR
JR's picture

“I can calculate the movement of the stars, but not the madness of men.”
– Sir Isaac Newton, after losing a fortune in the South Sea bubble

IT’S THE DERIVATIVES, STUPID! -- Web of Debt Ellen Hodgson Brown, J.D (September 18, 2008)

“What had to be saved at all costs was not housing or the dollar but the financial derivatives industry; and the precipice from which it had to be saved was an 'event of default' that could have collapsed a quadrillion dollar derivatives bubble, a collapse that could take the entire global banking system down with it.”

London Banker -- The real squeeze will be on corporates, asset managers and pension funds that did not formerly post margin to dealers.  Many are not invested in liquid assets, as they are positioned either to run a businss (corporates) or to secure long term yield through equity and corporate bond investments (pension funds).  They are facing mammoth disruption to business models, which coincidentally will concentrate more asset management in fewer hands. (9/11/2012)

As the Great LB said in January: “Securitisation broke the transmission. Once banks had loans off their books, they stopped having a direct interest in credit performance” 


Sat, 09/15/2012 - 22:40 | 2799776 FreedomGuy
FreedomGuy's picture

The article hints at the need for more regulation. I disagree. I would say none is needed but responsibility is required including the forms of criminal fraud and negligence. This would include jail time or civil suits bankrupting the stupid idiots who invest other people's money in these things. Invent all the financial vehicles you want, just be responsible for the results and only used money from those who volunteer it.

It is one thing if you make a pitch to Warren Buffett and he wants to put his own money on the line (which he didn't), but it is another thing for a bank or financial house to use deposits or investor money without full disclosure and agreements. In the end, the guilty get let off the hook and suffer no real loss for stupid decicsions while the public and the economy in general are left holding the bank.

One reason Swiss banks are well run is that their CEO's and leaders bear personal liability for bad decisions. How many Wall Street people personally went bankrupt over these stupid investment vehicles? I don't remember many.

Sat, 09/15/2012 - 19:46 | 2799481 Yen Cross
Yen Cross's picture

 Sunday/Monday (Asia) joke of the day! Watch closely, as the hedge fund, "Roach Motel" is approaching 100% occumpency.

  I don't sanction this video, in any way! This is "Bernanke Theory" 101.

Sat, 09/15/2012 - 19:56 | 2799492 buzzsaw99
buzzsaw99's picture

derivatives = betting against the fed.

Sat, 09/15/2012 - 20:13 | 2799514 Yen Cross
Yen Cross's picture

 buzz, primary dealers are forced to buy notes, for the 10/25(Fed.) basis point deposit guarantee.

Sat, 09/15/2012 - 19:51 | 2799487 Vendetta
Vendetta's picture

"But the danger behind derivatives doesn't lie in their existence, she stresses. They play and important and constructive role in a healthy financial system when used responsibly."

Uh huh. Sure.  We'll see about that won't we?  The whole point of them is create a shadow banking system

Sat, 09/15/2012 - 20:33 | 2799550 Dr. Sandi
Dr. Sandi's picture

When the financial train wreck finally slides to a halt, those who control derivatives will decide who gets paid what's left. Not the FDIC, SEC, People's Court, Congress or my mom.

So the smart money is betting on and owning derivatives.

Otherwise, don't touch it, it's pure evil.

Sat, 09/15/2012 - 20:06 | 2799493 Yen Cross
Yen Cross's picture

 I must be getting old Tyler! All the younger( Z/H), Bucks, get invites from " Sexy exotic women", and I just get adds for " Options trading, and " Lawn Mower companies"!   What gives?


  I got caught in a lie.  " Snow Blowers".

Sat, 09/15/2012 - 20:21 | 2799527 prains
prains's picture

move out of your mom's basement for starters

Sat, 09/15/2012 - 20:32 | 2799543 Yen Cross
Yen Cross's picture

? You are shopping for rice? ( HAKA) Is that code for " Starving Asians"  ( have, Asian, Korn,available)).


Sun, 09/16/2012 - 20:41 | 2801789 prains
prains's picture

your polynesian history is weak you'll need to brush up,

there are soon to be millions of hungry people in the world,

their history will teach you a little about what to do brother

Sun, 09/16/2012 - 12:22 | 2800619 JR
JR's picture

What gives? Ya got the Big Bucks after you, Yen. They’re tracking the smell of MONEY!!

Sat, 09/15/2012 - 20:01 | 2799497 Threeggg
Threeggg's picture

The thing that this article does not mention is that the banks that sell the Derivatives are only required to carry a 3% - 6% reserve on them. If they are ever called-in (insurance needs to be paid for the claim) The money does not even exist yet (not printed yet) to pay that 100% claim. That is why they have decided to have open ended printing ! If there ever was a point that these derivatives were triggered it would create 44 more dollars in printing for every dollar in existance (just on that balance sheet above) today.

Deflation would led to Hyperinflation through the triggering of printing to pay claims leveraged against those balance sheets.

Sat, 09/15/2012 - 20:06 | 2799504 buzzsaw99
buzzsaw99's picture

credit default swaps: "they" decide what constitutes a default.

ir swaps: "they" set interest rates and bond prices

the house always wins

Sat, 09/15/2012 - 20:13 | 2799512 Threeggg
Threeggg's picture

I was using JPM's balance sheet

(leveraged 44 to 1) to set the example above.

Sat, 09/15/2012 - 20:54 | 2799582 you enjoy myself
you enjoy myself's picture

and there's the real problem.  as a general rule, insurance companies (it obviously varies across policies/industry) have to pay out about 60-70% of their net premiums, and they're required to have reserves to meet their anticipated claims.    and with normal insurance, there's no daisy-chained defaults - if too many auto claims overwhelm Prudential, Prudential collects from their re-insurer, or if not, simply goes out of business with no effect on Geico.  

Sat, 09/15/2012 - 22:56 | 2799796 RockyRacoon
RockyRacoon's picture

Yeah.  Tell that to Hank Greenberg.

Sat, 09/15/2012 - 23:03 | 2799817 you enjoy myself
you enjoy myself's picture

that's precisely the point.  AIG's legitimate insurance business was the world's best - its derivative desk blew it up.

Sun, 09/16/2012 - 04:16 | 2800097 Colonel Klink
Colonel Klink's picture

Hank Greenberg is a slimy piece of shit.

Sun, 09/16/2012 - 18:19 | 2801433 RockyRacoon
RockyRacoon's picture

You're being too kind.  ...and you left out vengeful, arrogant, and ugly.

He could have just taken his millions, bought himself one of those Greek islands now on sale, and retired.  But, nooooo.

Sun, 09/16/2012 - 07:59 | 2800196 CDSMonkey
CDSMonkey's picture

Insurance reserves aren't much different than derivative margins. Same principal. Insurance companies tend to have more diversification which helps, but still at risk for large unforeseen events.

The daisy chain risk in insurance also exists. They all use the same reinsurers (which may be more dangerous than banks - their leverage ratios are off the charts) so if one fails it affects them all.

The insurance companies tend to have big bond portfolios often with bonds issued by other insurance companies so connected.

And whatever event that knocks out prudential is likely to have left a mark on the entire economy so those little things above have a large impact at the time.

Sat, 09/15/2012 - 20:05 | 2799501 Goldenballs
Goldenballs's picture

When everyone cashes them in at the same time we will see how much they are really worth,like,

The Gold bar you thought you owned that 250 people also own.

Your futures account which suddenly disappears.

When you try to get your cash out of the bank and there is a 5 mile queue.

When you get into the bank you find out the maximum withdrawal has been lowered.

The pension you retire on will not even cover breakfast everyday.


Just buy and stack physical leave this shit where it belongs,in the bankrupt Bank.

Sat, 09/15/2012 - 23:00 | 2799805 RockyRacoon
RockyRacoon's picture

Agreed.  And keep a couple of months worth of expenses in the ole fiat currency -- just in case.  When you go to check out at Sam's with your pallet of dried beans, bottled water, 50 lb bags of rice, canned tuna, etc., they might just not take your plastic.   Throw a couple of handfuls of green at the checkout clerk and smile.  The folks in line behind you will be envious.  No, they won't accept your 1 oz gold eagle... yet.

Sat, 09/15/2012 - 20:12 | 2799513 Mr. Lucky
Mr. Lucky's picture

Fractional rehypothecated equity.  Nothing to see here; just keep moving along.

Sat, 09/15/2012 - 20:23 | 2799524 Atlantis Consigliore
Atlantis Consigliore's picture

we can get justice from the DOJ,  and the lawyers (depeding on what is IS) and sue sue sue the instigators regulators, propogators, facilitators, politicgators, 

and eat any gaters at Mc Fraudsters,  after the banksters churn burn steal and freeze, and wire out your accounts, and the brokers,

slices, dices, and rehypoticates the F.... out of your account

till even the bk lawyers  see theres nothing left, cause you see,   everyone left the Casino, and the Casino, is Foreclosed.

Futures Accounts anyone....suckers and sheeple......baaaaah baaaaah baaaaaah

Volume down 40% and mounting,  anyone know how to store anything physical without an account no, and a banker that will sell you out?

Cmon Hans, we re not German, we re Swiss and you can trust us;  we would sell you out.....sniff sniff sniff,  I smell something in the ovens...taxpayers well done?

LOL,  Liars, lawyers, NY money laundering banksters, all hooker prostitute politicans, seg funds accounts, and crooks, oh my!  walk with the streetwalker property pooshers,

Its a bottom its a bottom its a bottm its a bottom,  stick it in my bottom....

I'll trade  you 1 Crookzini and a Treasury head draft choice for a Weimer Berflunky and $ 5 trillion in fake assets and a old copy of used condom and turbo flax ointment for the dollars infected with cooties. 

We are the FED know the mounted police.

Badges, for those who stole your wealth?  Badges, we dont need no stinkin badges.   



Sat, 09/15/2012 - 20:24 | 2799530 Yen Cross
Yen Cross's picture

Turbo,flax "ointment" for the " cooties" !   I love that analogy!

Sat, 09/15/2012 - 23:05 | 2799819 RockyRacoon
RockyRacoon's picture

I don't worry a whole lot about the lack of prosecutions at this point.  When it gets really bad they will devour each other.   It will start small like some law suits and such, but will escalate to the point of all of them going to the mattresses soon enough.   I'm gonna grab some popcorn and watch the spectacle.  After all, I've paid the price of admission.

And this to highlight your comment:

Marcy Wheeler: Lanny Breuer Admits That Economists Have Convinced Him Not to Indict Corporations


Sat, 09/15/2012 - 20:26 | 2799537 Its_the_economy...
Its_the_economy_stupid's picture

Tavakoli is the bomb. She offers hope in a hopeless world. Her views on risk management allow me to dresam that the world may one day be safe again.

Nice dream anyway.

Sun, 09/16/2012 - 13:05 | 2800699 falak pema
falak pema's picture

never sleep with a ticking bomb; Mae west did when she bedded the Tramp and he went cuckoo at every hour of the night. 

Imagine if Tavakoli said cuckoo to you every hour of the night and you discussed risk management, hands on style; would your tête a tit be a dream or a cat and dog fight? 

Sat, 09/15/2012 - 20:33 | 2799552 q99x2
q99x2's picture

Agree. The statement "able to socialize the losses" is a false assumption. You have to immediately hang the fraudster otherwise the filthy degenerates won't stop until the world ends. 

Sat, 09/15/2012 - 20:38 | 2799557 Atomizer
Atomizer's picture

Before we rescue your drowning ass, we need to determine your net worth. Risk to asset value always hoovers pending decisions.



Sat, 09/15/2012 - 20:45 | 2799564 mt paul
mt paul's picture

long silver Nov. 2008

could really care less

what the fiat cowboys

do any more...

Sat, 09/15/2012 - 20:50 | 2799573 LawsofPhysics
LawsofPhysics's picture

Consider the following;  The CDS market is largely held by banks , most of whom are primary dealers for the fractional reserve banking cartel.  What would be the consequences of these fuckers having a meeting and agreeing to take a 100% haircut?  Their debt dissappears, yours does not.

Sat, 09/15/2012 - 21:00 | 2799596 Yen Cross
Yen Cross's picture

Law of Physics, you ask " Immense Questions".  I like ya!

   The " Fed will fold into oblivion"<      ZERO<ness

Sat, 09/15/2012 - 22:22 | 2799735 Schmuck Raker
Schmuck Raker's picture

Meh, why take ANY haircut, they'll just wait. When Ben's done sucking MBS, derivatives can be next.

Sun, 09/16/2012 - 05:29 | 2800131 Urban Redneck
Urban Redneck's picture

And by extending ZIRP another 2 years the Fed is not only bailing out the banks on positions that would otherwise bankrupt them, but they are allowing them to in effect print their own profits & bonuses, by fraudulenty sucking cashflow from all their counterparties in the rigged instruments (LIBOR was small shit compared to what the central bankers do).

Sun, 09/16/2012 - 07:06 | 2800169 Winston Churchill
Winston Churchill's picture


Source for the claim of 100% bank owned ?

Pretty sure its not even 50%,though I would be happy to be wrong.

Sun, 09/16/2012 - 14:13 | 2800797 LawsofPhysics
LawsofPhysics's picture

Does it matter?  NO, the real owners have real wealth, you can be sure of that.  The paper will dissappear regardless.

Sat, 09/15/2012 - 22:14 | 2799642 cranky-old-geezer
cranky-old-geezer's picture



Derivatives aren't complicated at all. 

They're bets.  Gambling bets.   Plain and simple.

How many people can bet on the outcome of a horse race?  It's unlimited.  

How many derivative contracts (bets) on the performance of some underlying security can a derivative issuer sell?  It's unlimited.

First we had commodities markets.  Wheat, pork bellies, whatever. 

Then commodity futures were created.  Bets on the future value of some commodity.  It was pure gambling. You could buy a futures contract on wheat if you thought wheat would go up in price.   You could sell a futures contract on wheat if you thought wheat would go down in price.  You never intended to actually take delivery of any wheat nor did you ever have any wheat to deliver.  You hoped to make money just on the futures contract (the bet).

Then options on futures were created.   More gambling bets.

How many futures and options contracts (bets) on a bushel of wheat could a broker issue?  An infinite number, unlimited.

Then off-exchange derivatives were created.   Private bets between two parties on the performance of some underlying thing, and it could be anything, even the high temperature on a particular day a month from now.  More pure gambling. 

Then Wall Street figured out how they could use off-exchange derivatives to make their balance sheets look better.   Some asset on their balance sheet losing value?  No problem, buy a credit derivative contract from someone that pays off if the asset loses x value in y period of time, and show the derivative on their balance sheet.  Viola, the asset loss is gone!  It's "hedged" now.

It's accounting fraud, but who cares?  What porn-occupied bought-off government regulator is gonna say anything?

Then Wall Street figured out they could make boatloads of money selling credit derivative "insurance" to every financial entity on the planet on every imaginable sort of risk to make even the worst insolvent bankrupt balance sheet look wonderful. 

Like selling interest rate CDS to Jefferson County Alabama for example.  If rates go up the CDS pays off.  Jeffco now has their interest rate expose "hedged".

But interest rates went down, not up, and JeffCo ended up paying boatloads of (taxpayer) money to Wall Street.

(Did Wall Street know interest rates were headed down?  Who can say?)

When an unlimited number of bets can be placed on anything, it's easy to see how there could be a quadrilion dollars of derivatives out there.

Who knows, it might be 2, 3, 4, 10, 20 quadrillion.  It's all private contracts, no exchange where it's all recorded for the public to see.

Ok, now here's the best part.  Wall Street figured out how to get the Fed to BACK all those thousands of trillions of dollars of derivatives they're issuing.

Yea, that's right, Bernanke might some day have to print a QUADRILLION DOLLARS to pay off an ocean of Wall Street gambling bets that go against them.

Remember AIG in '08?  Bernanke printed $200 billion to pay off their bad bets?  

That's just a drop in the bucket.   Wait till Bernanke has to print 1,000 TRILLION dollars to pay off bad Wall Street derivative bets.

Can you say "instant currency collapse"?

By the way, the US dollar ITSELF is a derivative

Yea, it's a freikin derivative.  A bet on the "full faith and credit of the US government"  ...or Fed's balance sheet, whichever you prefer. 

Doesn't really matter, you can't exchange a US dollar for anything on Fed's balance sheet ...nor any of the gold allegedly in their basement.

No, it's NOT money.  It's a freikin derivative.  A gambling bet on the stability of the US currency supply ...which could grow exponentially overnight if Bernanke has to pay off those Wall Street bets gone bad.

Sat, 09/15/2012 - 22:20 | 2799734 ag480
ag480's picture

I agree with you and i like your picture. You got my attention :)

Sat, 09/15/2012 - 22:27 | 2799748 Kalevi
Kalevi's picture

Thank you cranky-old-geezer!

I finally start to understand where these ridiculous numbers mentioned come from.

But I don't feel any better, what a frigging mess our overlords have created.

The Amish look better and smarter for every day passing.


Sun, 09/16/2012 - 01:37 | 2799994 Theosebes Goodfellow
Theosebes Goodfellow's picture

~"You’re not actually putting the bond in; you’re just referencing that bond. You are basically betting on the outcome of something. And you don’t actually have to own its physical security. Now that’s a derivative"~

It's one thing to bet on a horse race, a roulette table or a poker hand. It's another thing to bet against someone being able to make their mortgage payment. Since the problem seems to be being able to control (regulate) the whole system, I wold think the best thing to do is to make the whole system illegal until such controls can be found and put in place.

Sun, 09/16/2012 - 10:31 | 2800402 DanDaley
DanDaley's picture

Thanks for the explanation -and it's nice to know that a cranky old guy can have a tumescent girlfriend like that.

Sat, 09/15/2012 - 22:14 | 2799719 q99x2
q99x2's picture

Thanks ZH for a nice Saturday audio clip.

Sat, 09/15/2012 - 22:18 | 2799730 tony bonn
tony bonn's picture

it's good to see someone hammering the fraud angle.....but then most of america is a fraud - so it is suffering due consequences of its transgressions...."customer service" agents lie through their teeth to tell you what you want to hear but do nothing to make good on their vacuous promises - fuck you if you got shafted.....big companies are never wrong, politicians are never wrong, no one is ever wrong - they are self righteous lying whores...

as for the arrogant frat boys who were allowed to rule the country into ruin, all i can say is fuck believed all of that horse crap from the warren commission, the 9/11 commission, and the 24x7 lies spewing forth from the news media, you deserve the fraud that you get....

Sun, 09/16/2012 - 12:09 | 2800598 Dburn
Dburn's picture

Have you cursed in frustration to CSAs recently over a the bleeding rectum their company gave you?  Now they have full authority to hang up on you. They like that too. I muttered 'Bullshit' on the phone the other day with a Customer Service person from my on-line brokerage and immediately the kid got all amped up : 'What did you say? I don't have to take that sir!!!! "  I said "You don't understand French? What's the matter with you? You have never heard or used that word before, then how how would you know what it means?" That helped then, but I have had the phone disconnected on me after a 35 minute pass around game they like to play at companies where you have to repeat who you are , verify it and repeat your story countless times.

This is with American Customer Service Agents too. I even had one sneer at me "You know nothing about networking" Even if was true, which it wasn't, shouldn't he be fired on the spot for even saying it? Not in today's Topsy Turvey world where victims of Corporate Malfeaseance are blamed and it's seen as SOP. 


Sat, 09/15/2012 - 22:33 | 2799766 Tum
Tum's picture

It took me a while to get a better than general understanding of derivatives, and I consider myself a pretty smart guy. This problem is so hard to even fathom, how do you explain it to the average person when they barely stay awake when you try to explain the federal reserve system to them? How the hell is anything other than total and utter collapse of this system inevitable?

Sat, 09/15/2012 - 23:20 | 2799837 Threeggg
Threeggg's picture


Here is a simplified version of something I posted on ZH a couple of years ago trying to explain them in laymens terms.

I wrote this description of the world’s biggest financial problem so people could understand "in layman’s terms" why we are fucked ! Please chime in if you can add to the understanding here. I use the dollar in the description of Credit Default Swaps for a basis as they could be denominated in any fiat currency.


Understand that the dollar is the defacto “Reserve currency – Petrodollar” that the world uses to transact business. As that dollar becomes more encumbered with "leverage" its ability to be a store of value has less conviction and faith. The "only" value that a fiat paper currency can retain "is" that conviction and faith.


So, let's look at the reason all faith will be lost in that currency at some point in the future. Since the creation of the FED in 1913 the currency (Dollar) value has been controlled through inflation/deflation. In 1944 the U.S. Dollar through the Brenton Woods agreement was granted “exclusive reserve currency status”.(that status meant that any country wanting to buy oil, food or commodities would have to buy dollars “first” and then they could go into the world market to make their purchase “on” the world market (with those reserve currency notes) also it meant that "If" any country lost faith or trust (through debasement or any other reason) in that currency they could go to "any" central bank in the world and trade that paper currency for physical Gold of equal value.

(Good as Gold) In 1971 Nixon suspended Brenton Woods and took us off the Gold Standard telling other nations that they could not "now" exchange the dollar for Gold as previously promised.


Here is the key to it's downfall:


The U.S. dollar (debt) from 1971 through around 1995 was able to be removed from a balance sheet with little implication through accounting techniques claiming (debt) as a loss and could be written off and that was the end of it.


Here (around 1995) comes Blythe Masters from JP morgan and she creates what is called a "Credit Default Swap" This is essentially an insurance policy on a default to pay back a debt or loan. So, let’s say for shins and giggles Greece is lent 1 trillion dollars by another country. They promise to pay that money back at a set interest rate over time. The CDS (Credit Default Swap) enables financial institutions to purchase a put (Default insurance or a bet against the underlying asset (loaned debt or CDO – Collateralized Debt Obligations) never being paid back. This would be OK if only "ONE PUT" was taken out against the chance of that debt not being paid back. The problem "of the whole planet situation right now" is that this debt can be leveraged by 100 "PUTS" or in layman’s terms (for each dollar that was lent to Greece there are $100 betting against "each" one of the dollars lent, that it will default and not be paid back) So, now you have 100 Trillion dollars leveraged against the default of a 1 Trillion dollar loan. So, now Greece cannot pay back the loan (CDO-debt) triggering the CDS from the default on the CDO and now everyone that bought a "PUT" wants’ to get paid on their bet. The next problem is that those financial institutions that sold those "PUTS" are only required to have a 6% reserve (Money held in escrow to pay claims) So, in reality those institutions only have .06 cents per dollar to pay those claims and not the “whole” dollar "required or needed" to pay those claims.


This is why all of these bailouts are created so "NO ONE" is allowed to fail "Triggering" these Credit Default Swaps. The original debt is maintained through interest payments from "newly created" debt (bailouts) because the money to pay those claims does not even exist.........Yet.

 So, you say why can’t they just unwind them.

Answer, is that you can't because everyone that purchased these "PUTS" on “CDO’s” wants’ to get paid because they are classified as an asset on "their" balance sheets.


When the discussion turns to CDS/CDO's at parties, I ask if anyone can explain them so that we can have an educated discussion. No one can, so I give this analogy and everyone sees a little better what the problem is. I know it's not a perfect description but convey's the basis.

Previously posted on ZH;

So, GK wants to buy a house, so GK goes to Joe banker and says hey Joe can you lend me a 100K to buy this house. Joe says sure GK here is your 100K you can pay me back over time with interest.

Then Joe gets back from the closing and says to himself, Hey "what if GK doesn't pay me back, I will be out a 100K. So, Joe calls Allstate and talks to Al the broker and says, "Hey Al I want to buy a 100K insurance policy incase GK doesn't pay me back. Al says sure Joe here is your 100K default insurance policy (CDS). Then after Al gets off the phone with Joe, Al says to himself "wait a minute" "what if Joe doesn't pay me back" and Al quickly calls jerry at AIG and says hey jerry I need an insurance policy for 100K incase  Joe doesn't pay me back. Jerry says sure Al here is you CDS for 100K incase Joe the banker doesn't pay you. Then Jerry gets off the phone with Al and says "wait a minute" "What if Al doesn't pay me back and then he quickly calls Zurich and talks to Chad and says "hey Chad" "I need to purchase a 100K policy against Al not paying incase GK defaults on his mortgage. Chad says here you go Jerry a 100K CDS for you and the Chad says to see were this is going.

So, let’s say this goes 20 CDS contracts deep. So what we have is 2,000,000 dollars worth of credit default swaps written on a (CDO) 100K depreciating asset that is now only worth 60K. Now the leverage went from 20 to 33 because of the deflation in the housing prices. (That’s why there is no mark-to-market)

Now GK's employer just called and is laying GK off "permanently".

The problem is now that the financial institutions that wrote all these CDS's (a ton of American banks) were only required to have a 6% reserve on this 100K worth of exposure (each). So, you see the money does not even exist-yet (our anti deflationary kryptonite backstop and tribute to JS for the saying "QE to infinity") to pay these claims and all these entities must be bailed out to stop the contagion before wiping out everybody.


I used a house as an example and it actually is a physical asset. Most of the CDO's are written against debt (paper, but classified as an asset on balance sheets with "no" underlying physical nothing) Here is where the problems lay. The “DEAL” that they are trying to close is a perfect "orderly" transaction with a 70% haircut (what is perfect and orderly in a panic once these start triggering). It's the reserve of 6% that is the problem. Let’s take our old friend JPM that has a leveraged balance sheet of 44 to 1. If they are in the wrong chain position on the CDS loop and let's say that they have to pay out 5x of that leverage but only receive 2x of the leverage back. ???????????????????


Where does the money come from to pay that net 3x's exposure? (it does not exist...yet, remember the 44 to 1 leverage) hence the bailouts to keep this thing from going full balls out.


There it is, and it's called "Contagion"


So the deflation will trip the balance sheets into default causing the printing of currencies to try and save the system.

This can be proven by the labeling of the 70% haircut on Greece’s debt not being classified as a default, hence delaying the massive printing of money to honor them.


Deflation will trigger the infinite printing of currency to honor (pay) the Derivative bets.




Sun, 09/16/2012 - 03:36 | 2800044 GoinFawr
GoinFawr's picture

Well you're one helluva tangible asset 3g, and no error.

Sun, 09/16/2012 - 11:59 | 2800583 Dburn
Dburn's picture

It took me a while to get a better than general understanding of derivatives, and I consider myself a pretty smart guy. This problem is so hard to even fathom, how do you explain it to the average person when they barely stay awake when you try to explain the federal reserve system to them? How the hell is anything other than total and utter collapse of this system inevitable?


The simple answer is : You can't

Sat, 09/15/2012 - 23:02 | 2799813 DannyTX
DannyTX's picture

I wonder if Ron Insana now knows that gold IS money? 

Sat, 09/15/2012 - 23:02 | 2799814 DannyTX
DannyTX's picture

I wonder if Ron Insana now knows that gold IS money? 

Sat, 09/15/2012 - 23:14 | 2799834 Vendetta
Vendetta's picture

Who cares what Insana knows or doesn't?

Sat, 09/15/2012 - 23:10 | 2799828 Downtoolong
Downtoolong's picture

As a bad asset was written down, oftentimes there were derivative contracts written against it that resulted in total losses 10x greater than the initial write-down.

The reverse happens when the underlying asset or index is written up. That's still not a good thing. I’m not defending it. This kind of leverage is a major problem regardless of market direction. It’s why there is so much incentive for the TBTF Banks and major market players to create opportunities to manipulate the price of the underlying asset, whether it be an interest rate index, stock price, commodity future price, etc. That’s why JPM bangs the close on silver. They can take a loss on the futures trade, but, they make ten times more on their OTC derivatives, which no one ever sees in the market.

It’s why there should be position limits and more control on manipulation of leading index markets in order for the markets to be fair. And the abject avoidance of market fairness by the big players is why none of that will never happen.

Sun, 09/16/2012 - 05:44 | 2800137 Urban Redneck
Urban Redneck's picture

In simple English- use the leverage of futues and options to move the spot/forward month price and clean up on the little sheep (and funds) unloading their ETF positions (which conveniently reduces their risk of getting hosed on the supposedly "silver" backed baskets that they create for the ETFs, should they ever have to make good on them) .  JPM actually does make up for it in volume...

Sat, 09/15/2012 - 23:57 | 2799883 michael_engineer
michael_engineer's picture

One of the big problems with derivatives, CDS, CDO, etc is that they don't seem to be tied strongly to wealth that was created through sweat equity and fair business practices.  They seem like a hedging where wealth could be declared captured not based on sweat equity and hard work, but rather through business dealings which are negotiated and traded somewhat in secret and not visible on public exchanges. 

Sun, 09/16/2012 - 00:52 | 2799945 ECE
ECE's picture

It is not the mechanism!  (derivatives).  PEOPLE!, It is the fraud withing the policies that enable abuses of the system. The initial purpose of the mechanism of derivatives,  in short was an efficiency of hedging against real collateral or product!   

Those bad derivitives !!!!  A mechanism on paper is the issue!   Come on people.  the system is good.   Bad eggs exist, manipulation at the highest levels corrupts and is corrupting!.



Sun, 09/16/2012 - 12:49 | 2800120 falak pema
falak pema's picture

Oligarchy freedom based on ONE principle : regulatory capture. When you achieve that the State becomes blind and corrupt. 

All this allowed by the MINDSET CHANGE of capitalism : deregulated supply side economics; aka Reaganomics-Thatcherism to prime the FIRE asset pump, by all means possible, thus the Milken Junk bond to CDO/CDS "subprime" financial instruments chain, with ZIRP and Glass-Steagall revoke added along the way, to make things easy for the financial innovators of NWO Pax Americana. The Oligarchy breed.

The derivatives bubble is a product of this mindset. Its a SYMPTOM of a deeper cause : the hubristic belief that "the only rule is that there are no rules, so greed is good! In an economy and geopolitical context where the sun will never set on our free market, big stick empire". It solved the underlying problem of the runaway fiat creation in petrodollars, all going to salaried inflation and third world malinvestment. By bringing that investment back to US WS in Gotham City, after the interest rise purge by VOlcker killed off salaried welfare state construct , and the destruction of Big Labour under RR-MG.

We can shag our brains to rationalise our understanding of the time line of this financial derailment. But we are missing the point if we don't understand that this power play was planned and executed in front of our eyes, like the creation of the Ottoman Empire! 

Some complex things have very simple origins. The Derivatives bubble, the putrification of fiat Oligarchy construct, has the same smell as Ottoman absolutism that thought itself invincible until Battle of Lepant (1571).

Even grand designs do fall off the cliff or sink into foggy bottom. In fact its the circle of life. Dharma Chakra! 

Sisyphus...back to the climb!

Dharmacakra - Wikipedia, the free encyclopedia

Sun, 09/16/2012 - 17:52 | 2801378 Umh
Umh's picture

They are corrupt to begin with. Blindness just occurs when they get bribed.

Sun, 09/16/2012 - 08:40 | 2800210 Its_the_economy...
Its_the_economy_stupid's picture

We need Janet Tavakoli on the Federal Reserve Board!

Sun, 09/16/2012 - 10:12 | 2800244 NewWorldOrange
NewWorldOrange's picture

Great article. Just thought I'd throw in a tiny bit of simple math to further explain what a derivative is (it's an example I've used in my writings many of my readers have said helped them to get it), along with an appeal to the real-life Tyler Durden out there.

One very simple derivative that's been around for a while is the stock option. For example, a "call" option on DELL stock. You don't actually buy the stock. You buy the right or "option" to be able to buy the stock at a set price at some point in the future. That right eventually expires. The longer the time you have to exercise that right to buy DELL stock at the "strike price" you selected, the more it will cost you to buy that right. As time goes by, and the option (to buy DELL stock at the strike price) nears expiration and you lose the right, the value of this "call" option decreases.

Let's say that the strike price of the option you decide to buy is $20 per share. DELL stock is at $19 a share. You're hope is that before your right to buy Dell stock at the strike price of $20 expires, DELL stock will go above $20, so you can exercise your right to buy it at only $20, and then immediately sell it at the higher price of $21, and pocket the difference.

An option contract represents a set number of shares (typically 100 shares) of the underlying stock. So if you buy, say, ten contracts, in this case DELL 20 Calls, you're buying the right to later buy 10 x 100 shares, or 1000 shares at $20 per share. Or a total cost of $20,000. If it rises to $21 a share, you can then sell it for $21,000 and profit $1,000. The ten contracts cost you maybe $500. If Dell stock goes to $25 before your right to buy it at $20 a share expires, you'd make $5,000 on a $500 investment. That $500 is the most you can lose, and if the option expires before Dell stock rises above $20, you lose that $500.

That's some nice leverage. You levered $500 up to $5000. Good job.

But what if you could buy a call on a call? An option to buy more options? In other words, what if you could buy the right to buy not just stock at some price later on, but could buy the right to buy more options at some price later on? This would be a "second order derivative" and would multiply the leverage even further. Now instead of say, 10 to 1, it's 100 to 1. There are now derivatives out there that are third and fourth order, and probably higher. Even math wizards who work in finance have to call on the I.T. guys to program in some what-if scenarios to do the calculations.

If you can think it up, there's a good chance there are derivatives contracts already out there for it. Some of them are higher order derivatives, and that is increasingly the case, which makes it all increasingly computer based, and increasingly leveraged.

The danger with this entire system is this: If you stand to make $1,000,0000 on some relatively minor move on some underlying stock (or commodity or whatever), with say, a $1000 investment in some high order derivative, well your $1,000,000 gain is someone else's loss. Now, what some will argue is that the person who wrote the option (sold it to you) must be able to cover that $1,000,000 in order to write it to begin with. That is not true. Almost all of the options written/sold are sold by parties who have sold them "uncovered." That is, they do not hold a shitload of the underlying stock/commodity/whatever that they can deliver to you when you exercise that right you bought. It is pretty easy to get a broker to allow you to write/sell uncovered options if you simply claim experience doing it, and have decent credit, and a pretty small amount of assets (that they will rarely even try to verify.)

So far, the system hasn't totally collapsed because the writers of these options have had the means to cover whatever losses they incurred as a result of granting others such enormous leverage and losing their bet, and when they can't back it up, the exchange covers it, and pursues the option writer in court if it's necessary and worth the trouble.

Today, most of the giant derivatives market is not traded on exchanges. There is no exchange to pay those who bought options from someone who can't cover his loss. But these things happen, so who does cover it? Governments/Central Banks, and it's not called covering, it's called BAILOUTS.

So BigShot sells MrWhale some third order derivatives for $1 billion. MrWhale's bet works out for him, and now BigShot owes him $1 trillion. But BigShot only has $100 billion. Where's the other $900 billion come from? The Fed, or the Treasury (taxpayer.) But couldn't they just let MrWhale lose the $900 billion, and fuck him for being stupid enough to bet on BigShot being able to cover such a bet? Yes, they could. And then MrWhale would be unable to cover the options HE wrote/sold to others, who in turn could not cover theirs, and so on in an endless chain throughout the global financial system. They're all connected. There are no "firewalls" (they wouldn't even know where to implement "firewalls" anyway, since there's no transparency.)

The exchanges used to have a pretty good control on all of this, and were able to cover those who were unable to cover their obligations. The numbers are now way to big for any exchange to do that (and increasing at an exponential rate.) Lehman, Bear Stearns...covering those events would have bankrupted an exchange. Only a CB or Treasury (taxpayers) have that kind of cash.

A financial war is going on out there. Entities of all kinds are writing and buying options and derivatives (including higher order ones) on anything. There is no transparency, no exchange for most of it, and most have no clue what they're buying or selling. Goldman Sachs and others make a killing off of the lack of transparency and their willingness and ability to create these products and pawn them off on those who don't understand them.

It's only a matter of time before some batch of high order derivatives results in losses so extraordinary that not even CBs or governments can step in and right things before they domino throughout the financial system. Actually, it's not so much an event as a process, one that can take a long time as buyers, writers/sellers, creditors, and so on, demand payment, delay, file suits, try to raise cash, try to sell collateral, collect from their own debtors to pay the creditors, etc. That process in unfolding right now, and accelerating.

What if options writers/sellers had to put up full collateral? That would probably fix the derivative system (but only after a huge crash or de-leveraging, since there's not enough collateral in existence, not by a longshot.) But what governments and CBs are doing is requiring less collateral, because its quantity and quality is deteriorating rapidly and they don't want to cause a chain reaction of failed deliveries on their watch. Hence their desire to "prop up asset prices" (collateral.) And what's more, the CBs/govs are now taking the stand that they are the collateral, or rather, their minions the taxpayers and their kids and grandkids are the collateral.

That's right folks. You're not just chattel anymore. You're collateral too. So are your kids. They have literally pledged the full value of your labor, future labor, and your kids' labor as collateral to backstop huge gambles by themselves and their wealthy buddies.

It's not just rich guys and Wall Street sharks placing these huge bets no one can even understand. It's now governments, CBs, banks, your pension fund, etc. They have the attitude that they either 1) play along (because maybe this system somehow creates real wealth out of moving a lot of paper around, at least long enough for man to build a billion robots and a hundred starships that can travel at warp speed and pillage the galaxy before it all crashes), or 2) the entire system will collapse and take them down with it whether they play or not. So they may as well play.

Yep, it's really that simple.

It's a classic tragedy of the commons. The proper function (if there's any at all) of any rational government is to reduce tragedies of the commons. Today, governments not only allow them, but produce them, on a massive scale, reward those who participate, and the more someone participates, the more they're rewarded and the less likely they'll be punished if they break laws in doing so. Governments and CBs, in fact, are themselves creating massive tragedies of the commons. QEternity is the greatest one ever devised.

The entire system is levered up beyond comprehension. QEternity is nothing more than a CB pledge of more "collateral" (dollars, and taxpayer labor) to backstop the inevitable inabilities of various parties to cover their obligations. In other words, QEternity says, "Keep writing more derivatives. Keep levering up. Here's more collateral to help you with that. And don't worry. We'll do whatever it takes, even if we have to print a few quadrillion dollars to do it."

And the players will eagerly do just as the Fed has encouraged, and ultimately, the Fed will have to make good on that promise, and print a quadrillion dollars. Maybe not all at once, but piecemeal, as they are already doing. Or, allow the entire financial system to collapse (de-lever totally.)

The former strategy -- print the quadrillion -- will enrich themselves and their Pwners, and allow them to avoid tar and feathers. The latter strategy -- default -- will destroy all the wealth of all the "players" (themselves and their Pwners) and get them all hanging from lamp posts. THAT is why they're in a mad rush to implement a total police state. You didn't really believe all that millenia-old bullshit about "terrorists" did you?

With QEternity, they just told us which strategy they'll be following. Of course, there is a limit to how much money can be printed before it has zero effect as a "backstop." And that time will come. But only after they've printed so much that only a few wealthy people can pay the trillion dollars needed to buy a loaf of bread. The only financial system left for 99.999% of us will be the barter system.

And maybe that time will only come after Skynet is fully operational and resisitance is futile. This is the final battle. The elites are battling to implement a total, global police state while the proles very slowly wake up to what's happening. At some point, the two opposing forces must clash. The big question is, by the time enough citizens are eager to take to the streets to bring the bastards down, will Skynet be online already?

Our best strategy is to bring on the financial collapse before it is online, because as long as the "proles" have TV and Twinkies, they aren't going to do jackshit. By the time the grocery store shelves are empty, it's likely to be too late, and that curfew violation will be dealt with by a drone you can't even see, or by thug "cops" alerted to your disobedience by some neighborhood snitch (there will be plenty, and most will be cameras, monitored by sophisticated software so no human monitor is even needed, and eventually they'll be in your living room.)

Tyler Durden, we need you now. You're probably some geek programmer sitting in some cubicle at Goldman Sachs or at the NSA who has access to all sorts of non-public data on the massive derivatives out there. Find the weak links. I suspect a lot involve large, high order derivatives on European area bonds, but what do I know. I'm just a collateralized prole.



Sun, 09/16/2012 - 10:54 | 2800455 Son of Loki
Son of Loki's picture

“…if obviously the United States is in credit trouble, what would you want? You would want gold. You don’t want euros, you don’t want any other currency. You want gold.”

..and the key thing to understand....

"There is no counterparty risk."

This is one reason why all central banks are anxiously accumulating gold as fast as possible before the next financial meltdown.

Sun, 09/16/2012 - 12:10 | 2800543 epwpixieq-1
epwpixieq-1's picture

It is interesting that Janet Tavakoli mentioned that the problem is in "regulation" of the derivatives and overall the financial system, but she (seams) not to be seeing the problem of what the derivatives or the financial system happened to represent themselves, which is understandable, as she is part of this system on her own, although, from the small good part I would add.

The comparison with the bathtub tiles, although very visual and straight forward, is not appropriated, because all these derivatives contracts represent a complex system, and humans, with regulations or not, are known to abuse and finally break any complex systems do to their inability to grasp the high level of complexity they present.

There is only one reasonable way to deal with that. Ban on all derivatives and other so called complex instruments. Make the (financial) system as simple as possible and we will see it work, otherwise we will see it collapse.

Nature has shown us an only viable way a complex system can be created.

In order to make something complex, start with simple rules that are known to work, the atomic forces are the known example from Nature, and build simple things on that top of that that do not break these rules, that by itself will create a more complex, and reliable, system. Finally, you have a complexity but all of it is bound by few very basic, fundamental principles, whatever they may be, atomic (Natural) or human made.

Sun, 09/16/2012 - 15:37 | 2801035 Tum
Tum's picture

Threeggg, thanks. Every time I read a new outline of this mess with derivatives in a different kind of way, I get it a little bit more. It just seems to me to be much to large of a problem for any average Americans to ever hear about, let alone fathom.

In simplest terms, this is what I figure this all to be (correct me where I'm wrong).

This isn't even speculation, all of these bets against debt. At the levels they're at, they seem to be betting on a rigged game, becaue they know fully that there is an implicit promise of a bail out from the federal reserve or any other central banks, or all central banks together, because the banksters know that if any big institution is allowed to fail, the domino effect will just be way too large and their game will be over. And, none of this would have occured in a more relatively free market because the thought of a bail out wouldn't even be a serious thought in any of their minds, so leveraging themselves out to such extremes would just be insane and doomed to fail. How it is now; it's just a rigged casino and the taxpayers of the world are Clark Griswold in Vegas Vacation, always losing, impossible to win, and we're dumb enough to not figure it out and take the house.

Sun, 09/16/2012 - 19:00 | 2801509 Jim B
Jim B's picture

Good podcast by Bill Black at Econtalk


One honest man...

Mon, 09/17/2012 - 05:37 | 2802489 Sheeple Shepard
Sheeple Shepard's picture

Are people still pretending that they understand/can quantify derivatives??

"There worth what we say they are, now get out and get me a coffee"

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