As I write, the price of credit default swaps on GE senior debt is soaring. That would be General Electric Co. Its CDS is being quoted in "points up front," which in Wall Street argot means that to "insure" $10 million in GE debt for five years you have to cough up a million dollars up front, plus 500 grand annually.
Who the hell is selling these swaps? is what I would like to know. They are playing a game of high-stakes poker, whoever they are, and we could all get sucked into the misery. If GE fails, thus defaulting on its debt, how are these sellers going to pay? Where will they come up with the pay-outs to all the GE bondholders already counterparty to the CDS contracts, to say nothing of the speculators right now buying up the CDS in a frenzy?
On the other hand, if GE survives, why then they've probably made a handsome profit indeed. This is brinkmanship of a very base order, magnified by the appalling potential consequences.
Observe the lunatic incentives imbedded in this usury: the sellers of GE CDS (again, General Electric Co.!) want the company to careen toward disaster, right up to the edge of collapse, but never quite collapse. They want GE to approach ruin and default -- but never quite get there. They profit most if this old American titan of industry creeps right up to the precipice, to the very farthest point of desperation, just short of falling off; but of all things they profit least if GE actually falls off.
Note again that nothing tangible is actually being exchanged here. What is skyrocketing in "value" is little discrete packages of risk, little mathematical abstractions supposedly estimating the possibility of GE chance of defaulting on its senior debt.
I hope I do not need to belabor the obvious point that a failure of General Electric Co., impelled by another derivatives panic, would be catastrophic for the economy. GE is a major participant in, for instance, the commercial paper market, the near-collapse of which, you'll recall, was one of the primary drivers of the crash last fall.