Goldman Sachs derivative liability = 33,823% of assets

[girl gone mad]

Goldman Sachs derivative liability = 33,823% of assets
http://thebankwatch.com/2010/03/11/goldman-sachs-derivative-liability-33823-of-assets/">thebankwatch.com

I have spoken at length here about the insidiousness of derivatives and Credit Default Swaps. So this new statistical http://www.levy.org/vdoc.aspx?docid=1231">reference frankly awed me. It is from a Levy paper on the recent shift over the last 50 years to a shadow banking system, that has largely replaced bank balance sheet lending with Money Managers. As I read this paper, while I am also reading ‘This Time is Different – eight centuries of financial folly’, there is little to feel good about in the apparent economic rebound that the government keeps telling us about.

The data on derivatives is impressive. JPMorgan Chase, for example, held derivatives worth 6,072 percent of its assets at the peak of the bubble in 2007. The other two giants, Citigroup and Bank of America, although still far behind Chase, had 2,022 percent and 2,486 percent respectively. Goldman Sachs, the other giant, had an astonishing amount of derivatives on its balance sheets: 25,284 percent of assets in 2008 and 33,823 percent as of June 2009. Citigroup and BOA now have more of this risk on their books than before the crisis (FDIC SDI database).

The part that awed me, is that BofA and Citi now have more derivative exposure than they did in 2007! Huh! What is Timothy Geithner being paid for? I have to admit after TARP and the apparent hands on approach I like most assumed things were being fixed, but apparently not.

This simply adds to the point that despite all the histrionics and efforts in Washington, nothing has been learned and the American Banking system is now at least at as much risk now as in 2007, pre crash.

http://thebankwatch.com/2010/03/11/goldman-sachs-derivative-liability-33823-of-assets">more...

[paulsby]

1. to clarify a bit here

there is a HUGE variance in derivatives. iow, some are very esoteric, hard to really quantify, etc. and lead to all sorts of problem in valuation, etc.

other derivatives are quite straight forward and not at all risky. in many cases, derivatives can mitigate or even eliminate risk.

for example,

assume i have a stock portfolio with roughly 100 k of notional value.

i've had some big winners, but i don't want to sell them right now to lock in gains, cause i'd be subject to short term cap gains rate. but i want to lock them in. the portfolio is highly correlated with the dow (let's say .9 for giggles)

i can lock in profits by shorting 10 mini dow contracts. these are futures contracts. they are derivatives.

but by shorting 10 mini dow contracts, i am setting up a short position roughly equal to my long position (in the stocks). thus, i can lock in gains. if the market stays flat, both investments stay flat (and i collect some dividends).

if the market goes down, my stocks lose some value, but that value is offset by the gain in my short futures contract.

if the market goes up, my stocks gain value, but that value i s offset by the loss int eh short position

furthermore, if and when i sell my short position (to become net long), my sale is taxed at a favorable 60/40 longterm/short term cap gains split regardless of the fact i only held it a month

there are lots of other "safe' ways to use derivatives.

my point is simply that the existence of derivatives in a portfolio might be slightly suggestive at best, but is not an indication of risky investment, etc. in and of itself.

you have to look a LOT deeper than that.

[eridani]

2. Ethics doesn't count here?

I've always assumed that it was a big no-no to take out an insurance policy on your spouse and poison her/his soup. Apparently it's OK to make a crappy sub-prime loan and also make 10,000 profitable bets that the sucker won't be able to pay it off, though.

[paulsby]

3. i;m not sure i grok what your point is

ethics ALWAYS count.

in every aspect of life.

[eridani]

9. Some derivatives are intended as bets on the successful completion of crimes

--or things that ought to be crimes. Others I'm sure are not. Seems to me, though, that the derivatives market has been overwhelmed by the former.

[BR_Parkway]

5. First off, thank you - I actually understood about 95% of that and could figure

out the insider lingo from the rest - most people around here trying to explain 'high finance' go way over the top and lose the bulk of us

So if I'm understanding correctly - there's no risk in that scenario. Where as old school investors put money into a company by buying the stock and hopefully made a profit in line with the amount of risk they were taking with their money -

Now apparently you can put up some money, buy some insurance and collect either way (along with some sort of tax loophole that keeps money from going to fund things like schools and roads - or even SEC investigations and enforcement)

Since every broker I've ever talked to would get paid a commission on these short future contracts along with whatever stocks, then everyone must get these? I mean, if it sets up a situation where I can only WIN, then people would be foolish not to (not that there is any shortage of fools) - this is a license to print money.

Now I know it's more complicated than this, and I'm sure the risk is understated - but my actual point is pretty simple - we don't seem to do anything in this country anymore to actually make money. All we do is shift it around, collect some fees on it and consider "financial services" close to 40% of our GDP.

Car companies went broke on the model of thinking they were in the auto loan business and it was ok if they didn't make money on the sale - keep pumping them, dumping them and get the financing until that Ponzi scheme fell apart.

Wall St melted down when they couldn't keep up with their umpteen times leverage deals along with shifting stuff off there balance sheets as it pleased them and that house of cards is partially fallen down now.

Individuals can make money in the stock market by borrowing their home equity and buying derivatives, there's no down side (until they find out the insurer didn't have the capital to make the payoff good)

It's like the more we look, the more we realize there is no 'there' there

[econoclast]

6. Try ths example

Think about the Used-car market. They aren't making anything. Not adding any value. Just shifting around the ownership of already existing vehicles.

But

What would happen to the New car market and all those manufacturing jobs if there was no Used car market? Would you be able to trade in your oldie to help offset the price of a newbie? Nope. Would you buy a new car if you knew you could never get rid of it?

Same with the capital markets. All the trading and Financial engineering is geared to make it easier for firms to raise new funds to do new things. Do they screw up sometimes. Yup. But that is the idea.

[paulsby]

7. in the scenario i set up

you basically couldn't lose, but you wouldn't win, EITHER

it was merely a way to lock in gains without the tax consequences, on a short te basis.

i think you get my point, which is that a derivative isn't necesasrily a DERIVATIVE (tm)

iow, there are financial instruments that literally NOBODY understands and were/are near impossible to value which lead to all kinds of chicanery and undefined risk.

and there are derivatives that are very basic. derivatives are ALWAYS a zero sum game, whereas the stock market isn;t.

iow, for every position in a deriviative, there necessarily must be an opposing position. there is no net money gained or lost.

this is completely different from the stock market, which in the long run builds wealth, but it is also possible for more money to be lost than won in any time period

thanks for the appreciation btw

[econoclast]

4. Yet another bit of derivative nonsense

Every time someone posts one of these "geewhiz" statistics based on the "notional value" of "derivatives" you know they probably are about to lie to you. Why? Because the "notional value" is a meaningless number that tells you nothing about risk. It is merely the value of the underlying asset the derivative bet is placed on.

Example. I have a 100 dollar bet with a friend that the Yankees win the world series. What is my risk? 100 dollars. But this bet is a derivative because it derives it's value from some underlying asset. Namely the value of the NYYankees. Including the YES tv network, the Yankees are worth over a billion dollars. So the notional value of my bet is a billion dollars!!!!! But my risk is only 100 dollars.

So whenever you see these notional value numbers beware. Someone iis trying to bamboozle you into believing something that's probably not true. If they had a genuine point supported by real data they wouldn't have to resort to the "notional value" trick.

[girl gone mad]

8. And I tend do ignore those who throw around the term "notional value"..

as if it means these instruments are imaginary and don't pose real, calculable risk to the institutions that trade them.

[pa28]

10. I see what you are saying.

If the system is working these instruments cancel each other out and their total value is something that will only exist as values on a spreadsheet before they disappear.

What disturbs me is a case like AIG where collateral evaporates and a major counter party can't deliver.
The deficit won't bring the whole thing down and it will amount hundreds of billions in a worst case scenario rather than hundreds of trillions but who is on the hook? As with AIG we demonstrated the government will cover the hole to prevent the system from coming down on itself but since then we've seen no limits or additional regulation. In fact with the total derivatives market growing since the collapse it seems as though the risk of a similar event has grown along with it.

I'd really like to see some serious reform here as long as government has a precedent for backing up these bets.

[econoclast]

11. Not arguing that there is no risk

Or even that the risks offset each other across all participants. What I am pointing out is that the sheer size of the market as measured by notional value tells you nothing about those risks.

Consider the following:

I sell you a Call option on 1000 shares of stock. How much risk is added to the system?

It depends. If I own the stock and you are short the stock - we have both REDUCED our risk.

If I don't own the stock and have sold you the Call "naked", then my risk is theoretically INFINITE.

The mere fact that this new Call option exists tells us nothing about whether risk went up or down.

And there IS in fact additional regulation afoot. Recently. There has been movement to create a clearinghouse to help standardize credit default swaps and get capital requirements for participants, which is a very important step.