LEVERAGE AND THE FINANCIAL SYSTEM RICK TOBIN
Leverage and Derivatives
The almost six (6) years of our ongoing Credit Crisis (www.thecreditcrisis.net), which began back in the summer
of 2007, is primarily related to the collapsing derivatives markets worldwide linked to convoluted, complex, and
nonsensical financial and insurance hybrid investments such as Credit Default Swaps and Interest Rate
Options.
Many of these financial investments are akin to glorified “bets” in a figurative “casino” (or the world’s financial
markets) in which one party bets on the future directions of things like the future direction of interest rates, or the
values of underlying stock, bond, or real estate assets. In a “bet”, somebody typically wins, and somebody also
usually loses. With most casino bets, the losing party may lose anywhere from a few dollars to a few hundred or
thousand dollars for some of the more aggressive and wealthier gamblers. In derivatives investments, the losing
party may literally lose hundreds of millions or billions of dollars to as much as trillions of dollars, tragically.
The global derivatives exposure in 2013, according to some analysts, is allegedly at least $1.5 Quadrillion (or
$1,500 trillion) as valued in U.S. Dollars. The top twenty five (25) U.S. banks supposedly may have a total
derivatives exposure, on and off balance sheet investments (publicly admitted or not), close to $250 trillion
dollars, yet these same Top 25 U.S. banks’ combined total assets are only $8.3 trillion. If these numbers are
fairly accurate, then these Top 25 U.S. banks are allegedly leveraged at thirty (30) times (x) their assets.
Sadly, U.S. banks may now have a derivatives exposure risk much higher than back near the start of the Credit
Crisis in the summer of 2007, or back when the world’s financial system almost collapsed in late September
2008, as publicly admitted by Federal Reserve Chairman Ben Bernanke in the Spring of 2009 in front of a
Congressional subcommittee hearing. The rapidly declining interest rate plunge between 2007 and 2013 is
partly to blame for the increased derivatives risk exposure as T-Bill rates dropped from 5.12% to almost ZERO
(or 0.03%) since these near zero yields motivated many banks to try to find higher yields in the derivatives
markets.
As I have said for many years
now, the number # 1 factor
behind the various “Boom” and
“Bust” real estate cycles over
the past several decades is
related to the supply of capital