Those figures materialise the cost of insuring against the default of an issuer in case of emmm... default. The higher the cost, the higher the perceived probability of default of the respective issuer.

It is basically like a person applying for a mortgage loan, someone with bad credit, Morgan Stanley would have to pay a higher interest rate than someone with a better credit rating like HSBC.

Credit rating equaling the likelihood they can pay back the loan.

Right.
A credit default swap is a insurance policy you buy to protect yourself against losses on money you have lent if the borrower goes bankrupt and can’t repay you. So if you hold $1 million of UBS bonds, UBS owes you $1 million in return for which it pays you interest. If you are worried that UBS will go bust (ie default on it’s debt) you can buy a credit default swap from a "broker" who promises to make up your losses if UBS goes bust and doesn't repay your loan in full. In other words they take over the credit default risk. Like all insurance policies, the buyer pays a premium, called a “spread”, and like all insurances, the higher the risk that you want to insure, the higher the premium or spread you pay. So in Shorrick’s example, to insure $1,000,000 million of UBS debt againt bankruptcy, on Sept 16, you would have paid a 170.2 “basis point” spread ie 1,000,000 x 1.702% = $17,020 pa. That’s 135 basis points more than the 35 basis point spread on September 12. That tells you the market thinks that bank default risks increased during the meltdown so the cost of insurance went up. However between Sept 12 and 16 the cost spiked for all banks during the same period and the rate of increase for UBS was not out of line with other European banks like CS. The thing to look at is the difference in spreads between UBS and the US banks like Citibank, Morgan Stanley and Goldman. On a comparative basis, the spreads are telling you insurers see a lower bankruptcy risk for European banks, including UBS, than for US banks. HSBC and Deutsche are seen as the least likely to go belly up. Last week the market was focussed on Morgan Stanley so their cost of insurance ballooned to over 800bp last week. Lehman and Bear Stern spreads reached a similar level before they collapsed. After the Fed stepped in to offer a rescue package, spreads came down. If you see UBS default spreads ballooning above and widening compared to it’s rivals it’s time to pay attention. But I should add credit default swaps are not a science, like anything else they are influenced by supply and demand and bankruptcy isn't inevitable even if spreads increase. One of the criticisms is the insurance market is highly regulated, the credit default swap market isn't and is therefore open to abuse.

Shorrick... do you mean the Lehman people or UBS ??

LOL

Good one

Christopher Cox ? You mean he's still alive ??????????

So, out of nowhere, the industry he is supposed to have been regulating for years is suddenly "ripe for fraud and manipulation" ??

He's been sitting on his back-side for a decade, and now he turns around and blames the market he was tasked with watching ... Jeeeez, don't you just love politicians ?

edit: just checked his biography online. he's only been sitting on his butt for 4 years... but still !

Well the surname should have been a dead give-away since the beginning.

In actual fact, most 'brokers' who wrote insurance policies have nowhere near the capital required to honour any of these policies. Since our learned politicians decided (or were 'persuaded' by lobbyists to decide) that regulation would lead to 'stifling the creativity' of the financial services industry, they literally let anyone with a pen and paper to write out insurance policies called CDSs. The financial geniuses who paid millions for these papers merrily decided that they could rest easy since they had bought 'insurance'. (It's the same logic that says .."but a guy on the English Forum said I don't have to pay any tax on that money..")

Now the chickens are coming home to roost in droves. Each time a bank/broker/fund defaults, the debtholders will turn to the person who sold them the CDS to make them whole, and realize that there is no money in that pot to make good their losses. Which means hundreds of bondholders will have to write off debt that they "thought" was safe, which in turn will lead to further bakruptcies, and their debtholders in turn will pull out their CDSs and ....

on a completely different subject, I am happy to insure all EF readers against UBS going bust. I charge only 5% of your current account balance, and the policy runs for your lifetime (or mine. or the bank's, whichever is first). Please wire funds to my Bahamas account.

I'm happy to offer CDS paper to EF readers against dino's insurance going bust.

An excellent point. True, Switzerland kept vast gold reserves but they’re not as big as they once were. They sold quite a chunk a few years ago to pay off debts so the link between the Swissie and gold is not as strong as it used to be. You don't see the currency appreciating in line with gold eh? That being said, even in spite of more recent sales from it’s gold reserves, Switzerland keeps a high currency reserve relative to it’s size and that gives it some powerful shock absorbers. But tiny economies/currencies should have high reserves because they’re more vulnerable to a shock like the failure of a major bank, loss of confidence in it’s banking system and the destabilizing effect that would have downstream in the economy. No question the level of Switzerland’s gold reserves would protect the Swissie from the worst case but a major banking collapse would nevertheless put the currency under significant pressure and lead to higher inflation, higher interest rates etc. A stable financial system, stable interest rates and stable inflation are all major factors which led to Switzerland’s safe haven status from the start. Add to that the knock on effect of a weaker economy, GDP, higher unemployment... you get my drift. There are just so many jobs in the clock and cheese making industries. Even if you kick out all the gaijins, there still won't be enough jobs to go round without the financial services industry and the other sectors which support it. So my point is it won’t just be the depositors of UBS who would suffer from a bank collapse. I accept that a bank failure might not cause folks to head for the caves in the mountains with their automatic rifles and stockpile of canned food but it would be very painful. In the end, and in the event it ever came to it, I think the SNB would use the fire power to engineer a buy out à la Merrill or Bear Sterns rather than "do a Lehman", let UBS go bust and then have to deal with the consequences. As I mentioned, it's an easier swallow with stock prices where they are.

And how!
From Time magazine in May.
"The CDS market exploded over the past decade to more than $45 trillion in mid-2007, according to the International Swaps and Derivatives Association. This is roughly twice the size of the U.S. stock market (which is valued at about $22 trillion and falling) and far exceeds the $7.1 trillion mortgage market and $4.4 trillion U.S. treasuries market, notes Harvey Miller, senior partner at Weil, Gotshal & Manges"

I will make the same insurance offer as Dino but instead of wiring funds to my Bahamas account I have a simpler approach. Just send me cash, small bills, no consecutive numbers.

Marton

Some say that total has risen to $60 to $70 trillion! But you have to be careful with totals. It doesn't mean that represents the total liabilities outstanding. If I insure Marton against a $1 billion loan loss from UBS and then I chicken out and cover myself by buying $1 billion insurance against the same loss from Dino then that counts as a CDS total of $2 billion. But if UBS defaults the only real amount at stake is 1 billion because my involvement is netted out ( I owe Marton but Dino owes me so only $ 1 billion is lost). That's the downside of an unregulated, OTC market - nobody knows the actual amounts at stake. That's the scary part. What we know for certain is it's concentrated risk - AIG alone was on the hook for a staggering $440 billion. Though the real risk is significantly less than that, it's still big.

not quite Nev
you're on your own Buddy.

P.S.
Come see me in the Bahamas after you get done with Marton.. and the others

I'll buy you a few beers

No problemo. The US taxpayer will bail me out.

Whatever, it is still a big chunk of change.

Exactly, Luckily when the going gets tough the US will nationalise the debt.

Marton

On second thoughts just send me gold bars; you will get a 12.5% discount on my cds cash price.

Marton

Where can we find the swap rates for banks like UBS? I looked in online broker accounts, at Bloomberg, but cannot find them.

Second, I guess the doomsday scenario could go like this, first the Eur/CHF and USD/CHF would plummet due to all round panic, then, if, and I am saying if, not when (because I refuse to go there yet), UBS gets in trouble, suddenly this currency ratios would radically revert, together with of course runs on gold and silver.
But let us hope we never get there.

Bloomberg certainly have them.

237 for five year senior EUR
171 for two year senior EUR

Or maybe not

Marton

if you need a safe place to keep those gold bars, do give me a shout.

I run an AAA++ rated gold depository, very well capitalized (+5 billion $ equity).

p.s.

make that $ 50 billion
i keep losing track of the number of zeroes... damn the Zimbabwe Reserve Bank