Going Out with a Bang?

Using what is, perhaps, an unintendedly ironic turn of phrase, the FT Alphaville blog notes, in "Waving or Drowning in OTC Derivatives," the "explosive growth" of outstanding positions in the over-the-counter derivatives market, as detailed in a recent report by the Bank for International Settlements.

Based on how much damage many of these synthetic monstrosities -- especially those linked to the imploding subprime mortgage market -- have caused to markets, institutions, bonuses, and careers, some might say they are indeed "financial weapons of mass destruction," as Warren Buffett once described them.

The BIS’s latest triennial survey on the OTC derivatives market served again to highlight to explosive growth in this area (via Alea.)

Notional amounts outstanding of such instruments totalled $516,000bn at the end of June 2007, 135 per cent higher than the level recorded in the 2004 survey, or a 33 per cent CAGR since the BIS first started surveying the market in 2005.

The highest rate of increase was in everyone’s current favourite, the credit segment. Positions in credit derivatives stood at $51,000bn at the end of June, compared to under $5,000bn back in 2004.

That segment is dominated, to the tune of 88 per cent, by CDSs.

These accelerated growth rates continues in the first half of 2007, say the BIS, prior to the markets hitting turbulence in August.

The sell-off in the credit markets in February and March had little effect on the growth of the CDS market, the bank adds, with total positions increasing by 49 per cent in the first half of the year.

And so to the latest news.

Liquidity has dried up this week, according to a story in Friday’s FT, with investors staying on the sidelines as the volatility and uncertainty in global markets proves persistent.

Of course, with Thanksgiving in the US, this was always destined to be a quiet week - but analysts reported lighter flows even than in the summer when the credit squeeze was seen (hoped) to be at its peak.

Some market watchers suggested that investors had put up the shutters until the new year.

Nino Kjellman, head of equity derivatives Europe at Deutsche Bank, noted:

Liquidity has severely declined. In the current environment, appetite for risk is rare. Either people are sitting on the sidelines waiting for more visibility or, approaching year-end, they are reluctant to bet on risk.

Comments

[Fred]

There’s more fallout from the subprime mortgage debacle. The NewsVisual article on Freddie Mac http://www.newsvisual.com/newsvisual/2007/11/knowledge-map-s.html talks about the company’s plan to issue $5 billion in preferred stock in order to raise capital the company requires to offset its huge losses in the subprime market.