G20 Summit must focus on Derivatives, Off-Balance-Sheet Vehicles.
8 Bubbles Quadrillion Play Grows 22% to $206k per person-on-planet
London, UK - 19th March 2009, 10:30 GMT
[Please note that the views presented by individual contributors are not necessarily representative of the views of ATCA, which is neutral. ATCA conducts collective Socratic dialogue on global opportunities and threats.]
As the April G20 summit in London approaches, it is worth noting that the trans-national play of derivatives has grown from USD 1.144 Quadrillion to USD 1.405 Quadrillion, ie, +22% worldwide. This is a staggering increase and most of it is seen in the Over-The-Counter (OTC) category as opposed to exchange traded derivatives. As a result, the global size of the derivatives bubble which was calculated last year at USD 190k per person-on-planet, has risen to USD 206k per person-on-planet. The ever rising commitment of governments for the repeated bailouts of financial institutions is partially linked to various flavours of derivatives exposure settlements and “black hole” losses emanating from off-balance-sheet vehicles.
The traditional argument has been to discount derivatives altogether: “On one side of the equation there is a loss, on the other side there is a gain. Nothing disappears. It is just one big shuffle of wealth and assets.” However, if this is the case, why has the US tax-payer had to bail out AIG repeatedly in excess of a hundred and fifty billion dollars so that AIG could settle the Credit Default Swap (CDS) and other derivatives claims of the largest trans-national financial institutions in the world?
In the ATCA briefing, "The Invisible One Quadrillion Dollar Equation" published in September 2008 we discussed the main categories of the quadrillion dollar derivatives market as quoted by the Bank for International Settlements in Basel, Switzerland. Since then the quantum has grown significantly in certain crucial categories and the latest revised numbers follow:
1. Listed credit derivatives stood at USD 542 trillion, about the same as before; however
2. Over-The-Counter (OTC) derivatives stood in notional or face value at USD 863 trillion (UP +44%) and include:a. Interest Rate Derivatives at about USD 458+ trillion (UP +16%);The myth of the single bubble behind The Great Unwind -- manifest as the global credit crunch -- has essentially been dumped in the last few months and subprime mortgage default, a USD 1.5 trillion challenge within the USD 5 trillion mortgage based assets envelope, is seen as a component of a much larger overwhelming global crisis with unprecedented scale, speed, severity and synchronicity. The global crisis has wiped a staggering USD 50 trillion off the value of financial assets — currency, equity and bond markets worldwide — last year, according to the Asian Development Bank.
b. Credit Default Swaps at about USD 57+ trillion (DOWN -1%);
c. Foreign Exchange Derivatives at about USD 62+ trillion (UP +10%);
d. Commodity Derivatives at about USD 13+ trillion (UP +44%);
e. Equity Linked Derivatives at about USD 10+ trillion (UP +17%); and
f. Unallocated Derivatives at about USD 81+ trillion (UP +14%).
The truth that there are as many as "Eight Bubbles" [ATCA] at play and in the process of bursting together is understood to a greater extent now than in the past. We have gone from being able to “rescue the world” with less than USD 1 trillion in October 2008 to USD 11.6 trillion commitments in the US alone along with a further announcement of USD 1.2 trillion of quantitative easing by the US Fed in March 2009. There is a realisation worldwide including the G7 + BRIC + MISSAT that this is a USD 20 trillion problem and growing. As time goes by, the full extent of the collateral damage from the Quadrillion Play and 8 Bubbles burst is being revealed.
The bursting process is taking the form of deleverage on an unprecedented scale. Even 1929 pales in comparison because the industrial production collapse witnessed over five successive years in the 1930s in the US is now taking place in five to six months, most notably in Japan. At a follow on recent ATCA roundtable we posed the following questions for Socratic dialogue:I. If the Dow Jones Industrial Average has fallen from above 14,000 to below 7,500 as a result of some of the 8 bubbles collapsing, ie a 6,500 points drop or 46% decline, where will the equities market reach by 2010 as other larger bubbles burst?We discussed “Eight Bubbles” in play worldwide in November 2008 and their approximate scale, based on latest information in 2009, is as follows:
II. If the world government bond market is around USD 35 trillion, how can governments rescue the eight bubbles bursting step by step with an ever larger quantum and momentum?
III. How can Quantitative Easing (QE) defy the laws of financial gravity without devaluing paper currencies significantly?
IV. What ought to be the focus at the G20 Summit in April to bring about stability in regard to the rising derivatives exposures and use of off-balance-sheet vehicles?1. Subprime Mortgage linked Loans & Assets (USD 1.5 trillion) within Mortgage backed Assets (USD 5 trillion);The relative scale of the world's financial engine is as follows:
2. China, India, Eastern Europe and other Emerging Market Loans (USD 5 trillion);
3. Commodities (Commodity Derivatives at about USD 13 trillion);
4. Corporate bonds (USD 18 trillion);
5. Commercial (USD 22 trillion) and Residential property (USD 45 trillion);
6. Credit Cards Outstanding Debt (USD 4.5 trillion);
7. Currencies (Foreign Exchange Derivatives at about USD 62 trillion); and
8. Credit Default Swaps (USD 57 trillion) as a subset of all Derivatives (USD 1,405 Trillion).1. The entire GDP of the US is about USD 14 trillion and falling.Assuming a 10% conservative default or decline in asset value, this could be a USD 100 trillion challenge on the base of a Quadrillion. USD 50 trillion of asset decline is already manifest. What are the likely outcomes? "Four Scenarios” have already been suggested by ATCA. We are keen to receive your answers and solutions. Please note that the numbers quoted are a rough guide.
2. The entire US money supply is also about USD 14 trillion with rising Quantitative Easing in trillions.
3. The GDP of the entire world is USD 45 trillion and falling. USD 1,405 trillion is 31 times world GDP.
4. The real estate of the entire world is valued at about USD 65 trillion.
5. The world stock and bond markets are valued at about USD 70 trillion.
6. The trans-national universal model financial institutions own about USD 150 trillion in derivatives.
7. The population of the whole planet is 6.8 billion people. So the derivatives market represents about USD 206,000 per person on the planet. .
$1.4 quadrillion equals $206,000 in derivative exposure for every man, woman, and child on the planet. We’re not just talking about us relatively rich and spoiled Americans, we’re talking about the true masses.
Is it just me or does that figure seem INSANE? As in WHY would the people of the planet allow so much derivative exposure? What it the need? What is the purpose?
I think I can answer that in one word – GREED.
Or I can give you the lengthier but still condensed version that goes thusly:
In the old, old days when blacksmiths stored gold for people and issued “gold receipts,” they figured out that they could issue more “receipts” than they had gold in their possession, thus effectively printing their own money in excess of their actual holdings. This worked as long as not everyone came to claim their gold at once, and thus the fractional reserve banking concept was born.
Eventually the gold was completely done away with (President Nixon 1971 in the U.S.) and a fiat money (by decree) fractional reserve system has survived so far, now only 38 years young. Over the years the reserve requirement has gone down. This has allowed LEVERAGE to increase. But recently the largest banks have virtually done away with reserves altogether (now even barrowed reserves) and thus fractional reserve lending had reached its limits. What’s a central banker to do? Create derivatives that in essence move some of the leverage off their balance sheets.
As the world now knows, there are many types of derivatives. Many are derived from debt, a lot are credit default swaps (an unregulated form of insurance), and many are based upon interest rates. To be fair, although we are talking unfathomable sums of notional value, it is true that if they all were to go bad at once that the NET result would be a loss far less than the notional value. But what would happen is that some players would be protected while many others would not. Those who are not, like AIG, would not survive.
So, how much money are we talking about here? Well, the latest figures I have show Global GDP is running a little more than $60 trillion a year, so $1.4 quadrillion would equate to about 23 times world GDP (they show $45 trillion and 31 times GDP... I do not know which is correct - either way is unbelievable).
I know that those numbers sound meaningless, but mi2G did a nice graphic showing how how much a trillion dollars in 100 dollar bills would look, How big is $1 Trillion?
They also did an even better series of graphics to visualize how large a stack of pennies would be if there were a quadrillion of them! How big is 1 Quadrillion? Make sure you flip through the series.
The OCC (Comptroller of the Currency) just released their 4th quarter derivatives report for the United States. I did an article on that, but want to show a couple of the many outrageous charts illustrating how many of these derivatives are located in our top banks, and the leverage found within.
Below is a current chart of the holdings of our largest banks:
That's $87 TRILLION that JPMorgan holds in derivatives, many times their net worth. And that's more than $30 TRILLION that Goldman Sachs holds, they are leveraged to extreme proportions.
This next chart shows the holdings for the 5 largest U.S. banks. Note that each category derivative is multiples of their Risk Based Capital:
The leverage deployed is absolutely insane and guaranteed to fail. The central bankers will tell you they have it all under control – they do not. They have created such a monster that they have permeated the entire globe with credit (debt). Every nook and cranny that can be filled with debt has been (Death by Numbers). We have pulled ALL our future earnings into the here and now and this shadow banking system is how they did it – all at arms length.
Those who follow my work know how exponential growth ends. If you need a refresher, please Spend some Time with the Good Dr. Bartlett…
Since they can’t keep it under control, they keep it out of sight, hiding as “level 3 assets” which they get to mark to THEIR model of value (wish I could do that – and pay myself large bonuses for my fantasy). Their latest? Change the accounting rules so that they are not forced to mark-to-market. Change the rules, hide and obscure – get the taxpayer on the hook for their sins. They use their “money” to buy and control politicians, thus they are safe… for now.