<TABLE border=0 cellSpacing=0 cellPadding=0 width=452><TBODY><TR><TD vAlign=top width=452 colSpan=2>Published September 17, 2009
</TD></TR><TR><TD vAlign=top width=452 colSpan=2>Credit default swaps lose disaster stigma
Instead, they add to growing confidence in the credit markets
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(NEW YORK) A year after the bankruptcy of Lehman Brothers Holdings, credit default swaps have lost their stigma for disaster and are contributing to the growing confidence in the credit markets.
The cost to protect against a failure by New York-based Goldman Sachs Group, Bank of America and 12 of the other biggest derivatives dealers dropped 66 per cent in the past six months, according to an index of swaps compiled by Credit Derivatives Research LLC.
While the US struggles with the slowest recovery since 1945, the market where investors protect themselves from default and speculate on corporate debt shows that confidence is the highest since June 2008.
Credit default swaps worsened the biggest financial crisis since the 1930s as the meltdown of Lehman and American International Group (AIG), two of the largest traders, caused a seizure in lending.
Now, Wall Street is accelerating reforms that Treasury Secretary Timothy Geithner started in 2005 when he was president of the New York Federal Reserve to increase transparency in a market that lawmakers plan to regulate.
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</TD></TR></TBODY></TABLE>'A functioning credit default swaps market contributes to more efficient extension of credit' by giving investors and lenders confidence that the industry will not implode, said Alexander Yavorsky, a senior analyst at Moody's Investors Service here. The consequences of Lehman's failure 'were astronomical, broadly speaking, but the CDS market worked well', he said.
Credit default swaps pay the buyer face value in exchange for the underlying bonds or the cash equivalent should a company fail to meet its debt obligations. Prices rise when perceptions of creditworthiness deteriorate and fall when they improve.
Banks have had unparalleled access to money after Federal Reserve chairman Ben Bernanke reduced the target rate for overnight loans between banks to a range of zero to 0.25 per cent from 5.25 per cent in 2007. The Fed and the government spent, lent or committed US$12.8 trillion to revive the economy.
One result is that expectations that another big financial institution will fail have receded. Credit Derivatives Research's Counterparty Risk Index, which measures default swaps on 14 firms, has dropped to 104 basis points, after peaking on March 9 at a record 305.6 basis points, or 3.056 percentage points. That means that it costs an average of US$104,000 a year for a credit default swap protecting US$10 million of debt.
The Libor-OIS spread, a gauge of banks' reluctance to lend, contracted to 0.11 percentage point on Tuesday from a peak of 3.64 percentage points in October. Former Fed chairman Alan Greenspan said in June 2008 that he would consider credit markets back to 'normal' if the spread was 0.25 percentage point.
In addition to supporting banks by lowering rates and providing financing for troubled loans, Mr Bernanke has succeeded in this year's goal of reducing the cost of credit for consumers.
Companies have issued a record US$2.6 trillion of debt this year in US dollars, euros, pounds and yen, the fastest pace on record and up 21 per cent from 2008, according to data compiled by Bloomberg.
The gap between borrowing costs for investment-grade rated US corporations and the government narrowed to 242 basis points on Sept 11, the slimmest margin since February 2008 and down from a record 656 basis points on Dec 5, Merrill Lynch & Co indexes show. The decline means that a company would save US$41 million in annual interest on US$1 billion of bonds sold. -- Bloomberg
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</TD></TR><TR><TD vAlign=top width=452 colSpan=2>Credit default swaps lose disaster stigma
Instead, they add to growing confidence in the credit markets
<TABLE class=storyLinks border=0 cellSpacing=4 cellPadding=1 width=136 align=right><TBODY><TR class=font10><TD width=20 align=right>
</TD><TD>Email this article</TD></TR><TR class=font10><TD width=20 align=right>
</TD><TD>Print article </TD></TR><TR class=font10><TD width=20 align=right>
</TD><TD>Feedback</TD></TR></TBODY></TABLE>(NEW YORK) A year after the bankruptcy of Lehman Brothers Holdings, credit default swaps have lost their stigma for disaster and are contributing to the growing confidence in the credit markets.
The cost to protect against a failure by New York-based Goldman Sachs Group, Bank of America and 12 of the other biggest derivatives dealers dropped 66 per cent in the past six months, according to an index of swaps compiled by Credit Derivatives Research LLC.
While the US struggles with the slowest recovery since 1945, the market where investors protect themselves from default and speculate on corporate debt shows that confidence is the highest since June 2008.
Credit default swaps worsened the biggest financial crisis since the 1930s as the meltdown of Lehman and American International Group (AIG), two of the largest traders, caused a seizure in lending.
Now, Wall Street is accelerating reforms that Treasury Secretary Timothy Geithner started in 2005 when he was president of the New York Federal Reserve to increase transparency in a market that lawmakers plan to regulate.
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Credit default swaps pay the buyer face value in exchange for the underlying bonds or the cash equivalent should a company fail to meet its debt obligations. Prices rise when perceptions of creditworthiness deteriorate and fall when they improve.
Banks have had unparalleled access to money after Federal Reserve chairman Ben Bernanke reduced the target rate for overnight loans between banks to a range of zero to 0.25 per cent from 5.25 per cent in 2007. The Fed and the government spent, lent or committed US$12.8 trillion to revive the economy.
One result is that expectations that another big financial institution will fail have receded. Credit Derivatives Research's Counterparty Risk Index, which measures default swaps on 14 firms, has dropped to 104 basis points, after peaking on March 9 at a record 305.6 basis points, or 3.056 percentage points. That means that it costs an average of US$104,000 a year for a credit default swap protecting US$10 million of debt.
The Libor-OIS spread, a gauge of banks' reluctance to lend, contracted to 0.11 percentage point on Tuesday from a peak of 3.64 percentage points in October. Former Fed chairman Alan Greenspan said in June 2008 that he would consider credit markets back to 'normal' if the spread was 0.25 percentage point.
In addition to supporting banks by lowering rates and providing financing for troubled loans, Mr Bernanke has succeeded in this year's goal of reducing the cost of credit for consumers.
Companies have issued a record US$2.6 trillion of debt this year in US dollars, euros, pounds and yen, the fastest pace on record and up 21 per cent from 2008, according to data compiled by Bloomberg.
The gap between borrowing costs for investment-grade rated US corporations and the government narrowed to 242 basis points on Sept 11, the slimmest margin since February 2008 and down from a record 656 basis points on Dec 5, Merrill Lynch & Co indexes show. The decline means that a company would save US$41 million in annual interest on US$1 billion of bonds sold. -- Bloomberg
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