Derivatives: The $600 Trillion Time Bomb That's Set to Explode

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Do you want to know the real reason banks aren't lending and the PIIGS have control of the barnyard in Europe?

It's because risk in the $600 trillion derivatives market isn't evening out. To the contrary, it's growing increasingly concentrated among a select few banks, especially here in the United States.

In 2009, five banks held 80% of derivatives in America. Now, just four banks hold a staggering 95.9% of U.S. derivatives, according to a recent report from the Office of the Currency Comptroller.

The four banks in question: JPMorgan Chase & Co. (NYSE: JPM), Citigroup Inc. (NYSE: C), Bank of America Corp. (NYSE: BAC) and Goldman Sachs Group Inc. (NYSE: GS).

Derivatives played a crucial role in bringing down the global economy, so you would think that the world's top policymakers would have reined these things in by now – but they haven't.

Instead of attacking the problem, regulators have let it spiral out of control, and the result is a $600 trillion time bomb called the derivatives market.

Think I'm exaggerating?

The notional value of the world's derivatives actually is estimated at more than $600 trillion. Notional value, of course, is the total value of a leveraged position's assets. This distinction is necessary because when you're talking about leveraged assets like options and derivatives, a little bit of money can control a disproportionately large position that may be as much as 5, 10, 30, or, in extreme cases, 100 times greater than investments that could be funded only in cash instruments.

The
world's gross domestic product (GDP) is only about $65 trillion, or roughly 10.83% of the worldwide value of the global derivatives market, according to The Economist. So there is literally not enough money on the planet to backstop the banks trading these things if they run into trouble.

Compounding the problem is the fact that nobody even knows if the $600 trillion figure is accurate, because specialized derivatives vehicles like the credit default swaps that are now roiling Europe remain largely unregulated and unaccounted for.

Tick…Tick…Tick

To be fair, the Bank for International Settlements (BIS) estimated the net notional value of uncollateralized derivatives risks is between $2 trillion and $8 trillion, which is still a staggering amount of money and well beyond the billions being talked about in Europe.

Imagine the fallout from a $600 trillion explosion if several banks went down at once. It would eclipse the collapse of Lehman Brothers in no uncertain terms.

A governmental default would panic already anxious investors, causing a run on several major European banks in an effort to recover their deposits. That would, in turn, cause several banks to literally run out of money and declare bankruptcy.

Short-term borrowing costs would skyrocket and liquidity would evaporate. That would cause a ricochet across the Atlantic as the institutions themselves then panic and try to recover their own capital by withdrawing liquidity by any means possible.

And that's why banks are hoarding cash instead of lending it.

The major banks know there is no way they can collateralize the potential daisy chain failure that Greece represents. So they're doing everything they can to stockpile cash and keep their trading under wraps and away from public scrutiny.

What really scares me, though, is that the banks

think this is an acceptable risk because the odds of a default are allegedly smaller than one in 10,000.

But haven't we heard that before?

Although American banks have limited their exposure to Greece, they have loaned hundreds of billions of dollars to European banks and European governments that may not be capable of paying them back.

According to the Bank of International Settlements, U.S. banks have loaned only $60.5 billion to banks in Greece, Ireland, Portugal, Spain and Italy – the countries most at risk of default. But they've lent $275.8 billion to French and German banks.

And undoubtedly bet trillions on the same debt.

There are three key takeaways here:

  • There is not enough capital on hand to cover the possible losses associated with the default of a single counterparty – JPMorgan Chase & Co. (NYSE: JPM), BNP Paribas SA (PINK: BNPQY) or the National Bank of Greece (NYSE ADR: NBG) for example – let alone multiple failures.
  • That means banks with large derivatives exposure have to risk even more money to generate the incremental returns needed to cover the bets they've already made.
  • And the fact that Wall Street believes it has the risks under control practically guarantees that it doesn't.

Seems to me that the world's central bankers and politicians should be less concerned about stimulating "demand" and more concerned about fixing derivatives before this $600 trillion time bomb goes off.

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About the Author

Keith Fitz-Gerald has been the Chief Investment Strategist for the Money Morning team since 2007. He's a seasoned market analyst with decades of experience, and a highly accurate track record. Keith regularly travels the world in search of investment opportunities others don't yet see or understand. In addition to heading The Money Map Report, Keith runs The Geiger Index, a reliable, emotion-free guide to making big money and avoiding losses, and Strike Force, which aims to get in, target gains, and get out clean. In his weekly Total Wealth, Keith has broken down his 30-plus years of success into three parts: Trends, Risk Assessment, and Tactics – meaning the exact techniques for making money. Sign up is free at totalwealthresearch.com.

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  1. massimo laccisaglia | October 12, 2011

    Derivatives are not a zero sum game in the end?
    Why should they destroy the entire real economy?
    ML

    • John O'Connell | October 12, 2011

      Exactly. If I were a bank with $600T in derivatives, I'd be long some and short some, so that I would break about even in any "black swan" event. Make a penny on each $ no matter what.

      • plkio | October 17, 2011

        The trades are offsetting and in most cases hedged. If you sum both sides of a trade and the hedges it's no wonder the total notional blows up. On a well managed book the positive exposure should only be one or two percent even in a very stressed scenario…

    • ScareCro | October 14, 2011

      Real economy? What is real about the economy?

    • r.barn | October 15, 2011

      That's what AIG thought too. Cross netting does not work. Been there done that.

    • fajensen | October 19, 2011

      What part of Over The Counter (OTC) don't you understand?

      First: These derivatives are never traded on any exchange so nobody keeps accounts of whether they are offset by an opposing trade – or even if there IS an opposing trade.

      Second: They are mostly custom paper, so someone has to read and understand 50+ pages of BUMF for every deal to value it. Like this will ever happen.

      This i contrary to the regular derivatives market where the options are standard, there is machinery in place to calculate exposure and gurantee offsetting trades and one has to post margin, The standard derivatives market has never blown up too.

    • Yuriy | October 19, 2011

      How is the derivative a zero-sum game? Is your insurance contract a zero-sum game?
      Is a "black-market" a zero-sum game? What is the price of a derivative? Who sets it and based on what?
      If you borrow the money to buy fake goods thinking they are real, who's the loser? The seller? No. The lender? No.
      And where is this zero-sum?

    • Paul J Lamoureux Jr. | October 22, 2011

      In my opinion, if any one of the European Union members default because of the bloated debt they've all but earned it will destroy the world economy as we know it. This has been in part caused by the markets play on derivatives, mortgage backed securities and many more shady dealings. Now what we have is IMAGINARY MONEY, nothing is there with any value backing up these promises. Imagine this, you take out a loan for a used car, your 18 and the car cost $5,500 (the loan officer asks do you have any collateral?). No collateral its all on faith so when the first country defaults most foreign investors will start to pull there assets out of all other markets and keep there money at home. Then supply and demand takes over and inflation hits and hits hard, and don't forget the $2.2 trillion that the federal reserve has printed in the past 2years. So when there is no demand for the U.S. dollar all this new supply is gonna bite us in the ASS!!!! Democrat or Republican, it will happen and then everyone will ask what went wrong but at that point it'll be to late, so make wise moves and hold onto as much of your own wealth as possible.

    • Judy | August 6, 2012

      They will destroy the entire economy because they were only created to bust.
      Part of the game. Watch them closely, when they crash run…

    • Gustavo Almeida | September 19, 2013

      Great Question Massimo! I would love to see an answer.

      Moreover, this article talks about a big "what if" and that the consequences of a breakdown of the derivatives market are devastating, although it does not present a single reason why this would trigger.

      • superOval | February 11, 2014

        You might as well face it, as of Feb 11 2014 according to http://www.usdebtclock.org/ ( m1+m2+m3) + These Mysterious Derivatives amounts to 730 Trillion Dollars of commitment all held by the US Government, Allocated by the Kazarian US Federal Reserve. 600 Trillion of so called contractual derivative obligations, on which currency was created. And if that currency was received by Foreign Banks, using Fractal Banking regulations, even more Money was electronically created.
        (lol) The ONLY WAY to actually figure out what the RISK is for the AMERICAN Taxpayer is to AUDIT the Privately Owned FEDERAL RESERVE.

  2. Werner | October 12, 2011

    I would be highly interested to know which percentage of those derivatives is on European risks and which percentage is on US risks.
    The often propagated demise of the Euro, which possibly will happen sooner or later, may be preceded by the demise of the Dollar. Dont'get fooled, this whole casino play originated in the Anglo-Saxon, mainly US system and I would not be surprised to see it blow up first. Whatever happens it won't be pretty, but very scary.
    You may have seen Harrisburg filing for chapter 9 today, a first one to do it, most certainly followed by many others. Many European cities are no better off – refer to the blow up of Dexia.

  3. Bruce Montgomerie | October 12, 2011

    On the theme of huge, unmanagable obligations, what is the average maturity of all US government debt obligations? About 4.5 years? If true, when interests go up and lenders disappear, what happens to the US Treasury obligations? I thought financing long term "investments" with short term debt always sooner or later ends in disaster. So, why are bankers so stupid and learn so little from experience?

    • Chris | October 12, 2011

      Because they know the government (US taxpayers) will be forced to bail them out again. Its fun to go to the casino when you know your debt will be forgiven when you leave.

  4. Sonu Ahuja | October 12, 2011

    Sign me for money morning Newsletter

  5. Matthew C. Shelley | October 12, 2011

    Sounds like a fun story! Assuming no one else understands the derivatives market either. Derivatives are futures, options, swaps, and all sorts of OTC instruments. For every entity on the buy side, there is an entity on the sell side. When someone takes a loss, someone else makes a gain. And many, if not most, of these trades are hedges. Screaming about a "time bomb" shows a lack of understanding.

    • Lawrence | October 16, 2011

      your own comment shows the greatest lack of understanding on this subject. There is no such thing as a zero sum game when the losing counterparty is rendered insolvent by their losing side of the trade. This how banks collapse. This is how finance is curtailed. This how main street gets gutted. To underestimate the threat that derivatives pose to this globally interlinked finacial system and the basis on how fundamental trade and our way of life functions is fohardy in the extreme my friend!

  6. Ronald Sarson | October 12, 2011

    In my opinion, and I'm certainly not alone, the US dollar will outlast the euro, mostly because our government doesn't have a direct economic obligation for other countries. Sure our debt holders could wipe out the dollar, but the loss would probably be even greater for them than for us. There would be no winners. The only zinger that could take us first would be proof that Fort Knox really is empty as rumored, and I think it would take a surprise major military attack to find out. The government is certainly not going to admit it. On the other hand, if the gold really is still there, they might prove it as a last gesture to prolong the life of the dollar. I don't believe there is a comparable zinger for the euro.

  7. Cp | October 12, 2011

    Pull all of your money out of the banks and buy gold and silver with what value is left of the dollar. Then sit back and watch all of the banksters get what is coming to them. They will collapse under their own greed. They cannot survive without the income from your debt instruments.

    • Bee | October 16, 2011

      Why buy gold and silver? News flash gold and silver are worthless you cant eat or drink it. You'd be better off stock piling food and water. THAT is what has real value.

    • DanH | October 16, 2011

      News Flash – Those that got wealthy via Wall Street fraud have already loaded up on physical gold over the past 3-4 years and they also have an escape plan. They know what the future holds.

      One thing though… WHERE will they be able to enjoy their ill-gotten gains?

  8. DoDaDa | October 12, 2011

    The US govt. should not have bailed out these big banks; rather broke them up and hanged the responsible criminals running these banks, aka criminal enterprises.

  9. Tod | October 12, 2011

    They should all be hung. All CEO's of ALL of the major banks. The ones that are retired should also be hung. If this indeed happens and the economy collapses, I can assure you that all these people will meet an early demise by the people they have hurt. There will be no running for those people. When will they realize that GREED DOES NOT PAY IN THE END and is equivalent to crime. ARE YOU LISTENING YOU STUPID CEO's? Get your heads out of your AS..S and do the right things and drop your GREEDY WAYS now!!!

    • Ian | October 16, 2011

      "They should all be hung" Ummm, I think you mean, "They should all be hanged". Hung means well-endowed.

  10. david tarbuck | October 12, 2011

    $600,000,000,000,000.00 – $65,000,000,000,000.00 = $535,000,000,000,000.00 FICTICIOUS capital!!

    When the BUBBLE BURSTS??

  11. james.c.owens | October 12, 2011

    If US Banks are soom to collapse, why would Warren Buffett invest 5 Billion in Bank of America?

    • DD | October 12, 2011

      Only it's not his money he's investing – it's ours.

      Copy and past this link into Google. All is not what it seems where Buffett is concerned.

      http://blogs.reuters.com/rolfe-winkler/2009/08/04/buffetts-betrayal/

      Hope the link downloads ok.

    • zenshaman | October 16, 2011

      Why would warren buffett invest 5 billion in bank of amerika. simple a previous comment hit the nail on the head. make money in stock going up. make it when it goes down. somebody place a 1 billion dollar short in the month of shocktober, and there are more than 13 million shorts. hmmmmmmm something fishy going on you say?

    • Quick | October 17, 2011

      I dont think he put a dime in BAC – All he had to do was 'say he was' and BAC stock took of like it was shot – they didnt need the 5 billion after that,

      BTW – Buffett did what he was told to do. NOBODY thinks BAC will last – not even 'the oracle'

  12. grigos | October 12, 2011

    The gratest problem are c.d.o. . All europe banks keep thousands of cdo to protect themself from natioanal debt default. But who sold this certificate ? Goldman&S, JPMorgan, CityBank.. all USA bank. It isn't a europe's problem, is an american one

  13. Robert Sands | October 12, 2011

    What I don't understand is how much of these "derivatives" are offsetting and therefore will "neutralize" each other. They cannot be all one sided. So if the offset is calculated, what is the "real" exposure. Whether these are puts, calls or futures short or long they will likely balance. Help me with this.

  14. Jack | October 12, 2011

    Keith,

    Agreed, yet what ever shall be the catalyst for the implosion? Every time we expect a key event, some entity either visible or possibly covert steps in to shore up the situation. Indeed, these days all that seems to be required is the mere metion of a plan to negotiate a solution (e.g., Merkel & Sarkozy Nov. 2 meeting)!!

    I just wish the much predicted collapse would finally occur & we could get this over with! I suppose my mere mention of it will now propel the markets even higher – sheesh!

  15. Owen K. , Nebraska | October 12, 2011

    All major economies have fiat currencies. The banks and the international banking cartel is in control. Read the book: "The Creature From Jekyll Island." You will then understand the power of the banking cartel. We can only estimate the real value of derivatives. The truth is that no one knows the actual value of these derivatives, but my guess is that it is not the 600 tril number that is being touted in this article. One thing to keep in mind is that fiat currency can be created out of nothing. Currency can be created to appear only on paper. Central Banks (which are a key part of the cartel) do not even have to physically print it. Mr. Fitz-Gerald doesn't mention the source of these percentages or the 600 tril figure. Truth is, no one outside the cartel knows. And, perhaps, even they themselves do not know.

    • SpiralOut727 | October 12, 2011

      The Rothschilds are estimated to be worth around 500 trillion. That should def raise an eyebrow. Research it.

    • Fred M. | October 14, 2011

      I have read "The Creature from Jekyll Island." Every high school college student and congressman should be made to read this book. One of the most amazing things, the Rothchilds, (jewish) survived two world wars and lived in Germany. They are the power behind Goldman Sachs and helped found the Federal Reserve.

  16. Nick Eusepi | October 12, 2011

    I am an economist, and almost 2 years ago I have advised most parties in contact that 300 trillion USD was the estimated summ of derivatives (at the time) of was not being solved. Mosto of these 'credits' are hung up in an internal bank intranet called "blue screen", were they lay in a virtual extraterritorial suspension state, awaiting to be newly invested or…..'grounded' with realitve tax payments in any comuntry of investment. What does this mean?
    Now I beleive its' true that today the total ammount has virtually and uselesly swollen to 600 trillion, even though it is all paper and virtual, because as said it has not payed taxes. I also gave stimula and advice to policy makers in ONU, USA and Europe, on how to deal with this cancer, but most of them are totally incompetent, as well as top banking officials, so that no one is doing anything.
    The point is all here, in the consideration of the virtual and non-legal value of those derivatives : what if we propose that blue screen creditors may have their money only if 'grounded' and tax paid under international rule? If states cash those taxes, we would have a total upgrading of the markets as well. Of course this operation is not easy, it needs brains, which are lacking. Private owners of blue screen sums must be encouraged to apply to what must be an opportunity, not a dungeon.
    For example, we could ask States to invest immediately the gained taxes in gold: the value is there because gold would soar up (also considering that the stamps of a lot of gold bars arround have not been renewed. Many other ideas are to be linked together but I dont see this work is done, I hope we continue to discuss with you.
    N. Eusepi
    Rome

  17. J Lozano | October 12, 2011

    The trouble occurs when any market participant makes a bet that "with low probability" they can´t pay unless they recive the peoples "world charity" to continue with their "never ending story" even thou the people don´t know that they are playing the game, only for the down side of course. Doing bussiness with volatility, is playing with peoples world future, and worst, with their present where poovety and starving has been increasing in an attonishing way worldwide, not for the less but for the most, due to "market invisible hand"…World Nations and Finantial Institutions should be revieiwng which "betting financial activities" must be done for "World´s own account" where not only the losses but gains should be considered and just supporting financial activities aimed to create and develop economical world wealth in order to build more sustainable future world societies. Lets hear and support leaders as Obama,Sarkozy, Merkel, Lula,etc., they have clever ideas for the next world generations, some body has to pay the accounts, but the sooner the better….UN, WB, IMF, IDB, EDB, ADB, etc., should be inmerse in rebuilding world economical and financial sustainable activities with human responsability and green careness as ligh to develop the new capitalism and freedom paradigm, taking into accoount that we live in a global, faster and smaller world.

  18. Bernard Durey | October 12, 2011

    I almost feel honored being you left space for comments on the derivative problem(s). As a novice I have just begun learning some of this stuff,although i have heard or watched things topple so to speak. However,maybe breifly we should go back to 8/25,2011. One of the other investing people or companies had left an e-mail that was Titled: An Economic Armageddon of Biblical Proportions. He and his had predicted the Lehman Brothers collapse. He had stated derivatives was a major contributing factor. I believe also one bank had sold maybe if not in the trillions of dollars worht but billions of dollars worth of derivaatives. Also mentioned were major banks here in America that he and his have predicted may collapse at some time in the future due to the same blunders the policians or government makes as well as the banks themselves. That list is as follows: (1)Bank of America,(2)Compass Bank Huntington National,(3)Harris Bank,(4)JP Morgan Chase & Co.(5)Regions Bank,(6)Sovereign Bank,(7)Suntrust Bank(8)Us Bank,and (9)Wells Fargo. This was the point and time I learned of derivatives and one can see the risk of them doing those things globally. More recently and involved in the middle so t speak of finding out what was going on with two government entities tangling. The U.S. Postal Service and the Federal Government. In thoery robbing Peter to pay Paul. The postal people allege that the federal government took their $5.5 billion they had set aside for retirement,etc. I guess they had made some comments to Congress about using it to operate on and meanwhile the federal government intheory took it. Probably almost the same thing as in derivatives or bouncing off one another. I have see that go down before. One sector is in the black and the federal government robs Peter to pay Paul because they usually don't pay it back neither. So we will have to see what happens. End time Biblical Prophacy tells us of these things in the end times as well. But I enjoy reading your e-mails,although many days financially em-barrassed myself. I have one that is working on some things to try to help out but we will see what happens. It definitely is informative,educational and helful etc. Once again thank you and have anice day and great inveswting adventures ahead.

  19. DD | October 12, 2011

    Although American banks have limited their exposure to Greece, they have loaned hundreds of billions of dollars to European banks and European governments that may not be capable of paying them back.

    But what about all the money the US owes China – is the US capable of paying China I ask? Also it is starting to annoy me all this attention on the EU, yet almost nothing on the US debt esp. now that the US is the most indebted country in history – something seems a bit amiss here.

  20. SpiralOut727 | October 12, 2011

    Its time for the monetary system to collapse in order to begin the process of transitioning to a free world charter. The system that's in place only breeds war, greed, corruption, poverty and class warfare. If you cant see this you need to start paying attention. Bring down the Federal Reserve before the reserve brings us down! Occupy the streets people. We've been slaves to a system that benefits the world elite; they control everything in the world. Its time for us to transition into a new age and take back the freedom that we have yet to experience!

  21. Ron B. | October 13, 2011

    This story isn't new ,it was made clear to those who cared to listen on the USA's own PBS network from 2001 onwards . There were several interviews witrh people like GW Bush,none of whom were forthcoming about derivatives and the potential harm.
    Now,I live in Australia and for some weeks now the AUD has been over 1.00 USD. This at first would appear to be good for Australian consumers who buy a lot of goods on line .But,there is a sinister background to this,someone is buying AUD at big levels and it could be to stash currency in anticipation of something.
    Australia has just passed legislation to bring in a carbon tax (much to the disgust of the constituency who never voted for it) and part of the legislation calls for the purchase of "carbon credits" . a special fund of 57 billion dollars is to be used for this purpose and it is envisaged that this will be spent every year… Line up here with your credits you wish to sell.
    It would be funny if it weren't so tragic.

  22. TSchmidt | October 13, 2011

    @Matthew,
    While the "net exposure" is manageable, what is NOT manageable is "counterparty risk," as Lehman and AIG showed. What happens if another major player can't meet obligations (certainly a high probability in this day and age)? One counterparty default snowballs into systemic default.
    TS

  23. Robert Wilkins | October 13, 2011

    I think we are all missing the point here. The big picture is to collapse the currencies, write off all debts and introduce a new form of universal monetary instrument. When there is blood in the streets and chaos reigns we will accept what is offered to us. All of this stuff has been prepared and rehearse of that you can be sure. Think B.I.S.
    The persons running this show have been doing a sensational job in making it all come to pass. Why else would the financial institutions and governments participate in such wild and crazy borrowing and debt?
    Push it over a cliff and start fresh with complete control. I believe that Henry Kissinger is one of the principal architects of this long drawn out death (yes he is still operating in the shadows of the US government).
    As Henry once said (think 911 and war on terror):

    'Today Americans would be outraged if U.N. troops entered Los Angeles to restore order; tomorrow they will be grateful! This is especially true if they were told there was an outside threat from beyond whether real or promulgated, that threatened our very existence. It is then that all peoples of the world will pledge with world leaders to deliver them from this evil. The one thing every man fears is the unknown. When presented with this scenario, individual rights will be willingly relinquished for the guarantee of their well being granted to them by their world government.'

    All well planned like a chess game. I think that just about says it all.

  24. Bernard Durey | October 13, 2011

    In one of the above comments one person wondered or asked the question, "If U.S. Banks are about to crash,why did Berkshire Hathaway and/or Warren Buffit invest $5 billion in Bank of America. That posted August 26,2011,the day after "An Economic Armageddon of Biblical Proportions. The story or article in one source run as follows: Friday,August 26,2001,Buffett invests $5 Billion in Bank of America—New York—Bank of America,under fire from shareholders and analyst,is gettingg a $5 billion investment from Warren Buffett's investment company. The banking giant's stock soared on the news. The investment by Berkshire Hathaway is reminiscent of a $5 billion investment Buffett made in Goldman Sacks in September 2008 in the depths of the financial crisis. The injection of capital helped restore confidence in Goldman and helped the Wall street firm attract other investments. As with the Goldman infusion,Buffett negotiated extremely favorable terms from Bank of America. He is set to receive Bank of America preferred shares that will pay Berkshire a 6 percent dividend each year. If the bank wants to redeem the shares,it has to pay Buffet a 5 percent premium. In a statement,Buffett called Bank of America a "strong,welled company" and said he phoned Chief Executive Brian Moynihan "to tell him I wanted to invest in it. The move may help boost confidence in Bank of America—the nation's largest bank—but it underscores how dire the Charlotte,N.C.,company's situation has become in recent days as analysts have questioned whether the bank has had enough capital and investors have worried about continued losses from the bank's mortgage holdings. Many of the questions about the bank have arisen from its 2008 purchase of troubled mortgage lender Countrywide Financial Corp. This week,the bank's stock fell to its lowest price since March 2009. The final drop came after a blogger wrote that the company might need as much as $200 billion in new capital. The bank took the unusal step of publicly rebutting the blogger. On Wednesday,a few analysts came to the bank's defense and the stock rallied,ending the day up 69 cents,or 11 percent,at $6.99. After Bank of America disclosed Buffett's investment early Thursday,the shares shot up as high as $8.80. They closed at $7.65,up almost 10 percent. "I am impressed with the proffit-generating abilities of this franchise,and that they are acting aggressively to put their challenges behind them," Buffet said. Moyniham in a statement said he remains confident that the nation's biggest bank has the capital and cash on hand that it needs. "At the same time,I also recognize that a large investment by Warren Buffet is a strong endorsement in our vision and our strategy," he said. Berkshire Hathaway also will receive warrants to buy 700 million shares of Bank of America common stock at an exercise price of a little more than $7.14 per share. The warrants may be exercised at any time during a 10-year period after the closing of the transaction. Bank of America receives $5 billion in for issuing the preferred shares and warrants. In the deal,Moyniham fared better than Goldman Sachs and General electric did during the 2008 financial crisis. In both cases,the companies agreed to issue preferred shares to Berkshire with a dividend of 10 percent that could be paid back at a 10 percent premium. Goldman received a $5 billion investment in September 2008,while General Electric scored $3 billion in October 2008. I do not know if that answered the question above from the one person making a comment. In some cases someone will do something or state something and someone responds in the opposite direction. Whether that works all the time or not is hard to say.

  25. Sunil Bhole | October 13, 2011

    Very interesting newsletter

  26. Jim Dunning | October 14, 2011

    What you should keep in mind before piling into gold & silver is that if there's a run on the Euro banks, everything, including commodities, will get dumped in a rush for US dollars. So called hard currencies are no haven either. In September 2008 the Australian Dollar went from 0.96 to 0.59 US cents in a matter of days.

  27. Ross | October 14, 2011

    Sorry, but this article is missing the key point that interdealer derivatives are collateralised with cash on a daily MTM, plus an initial amount. Similar to futures. Therefore at the end of each day any bank will own the replacement value of a derivative that is in the money to it. The bank out of hte money has had to fund the collateral that it has placed with the in the money bank. The risk you face is "replacement risk", i.e. and intraday jump to default, so the MTM changes materially between end of t-1 and t, which may result in an unsecured loss.

  28. Craig freis | October 14, 2011

    Bayside blessed virgin Mary predicted a world a world monitory crash coming,

  29. Edward Ulysses Cate | October 14, 2011

    To me, derivatives at banks like JPMorgan is the mother of all scams, as they receive "good" money in advance, but will only have to pay out "bad" money if they lose. "Good" money being today's current dollars necessary to "buy" the contract, and "bad" money being the devalued dollars they pay out. Even if they cannot conjure up enough "bad" dollar payouts, then the taxpayers once again end up being devoured. Wall Street doesn't have this saying without reason: "If you're not at the table, you're on the menu." The reason the rest of end up being devoured is that we do not have a REAL House of Representatives. We're simply not represented at the table.

  30. Prose | October 14, 2011

    Yes, they're is a buyer and seller on each side, but with any bet (which is really all this is) if the loser doesn't pay it sets off a chain reaction that destroys all the player's involved (liquidity seizes).

    Even if you are on the winning side (trade) you can still lose if the loser can't pay on a particular bet.

    So, the so called winner of the bet doesn't get paid and he/she may have lost on a completely different bet they made at another time and now the winner cannot pay the other bet he lost…and so on and so on..

  31. Rastaman | October 14, 2011

    and you're just NOW figuring this out? hahaha…..welcome to 2008.

    oh! b.t.w……the figure is now MUCH HIGHER than $600 trilion…..but hey….the "experts" at moneymorning should be reporting this some time in 2015.

    clueless

  32. Norman | October 14, 2011

    The financial Corruption the world over is killing the common man. It is too big and too terrible for the common man to grasp; so we ignore it while complaining loudly about the inequity of it all. I wrote a book (not on the open market) exposing the depth of this corruption at all levels of our society. It is titled 'Boiling Point'.

    It seems there is very little we; the common man can do about this so I have written a second book (not on the open market) titled 'Is My Family in Danger', to help us know what to do to protect ourselves; not financially for that is well covered by many experts; rather physically, should the system break as it is certainly sure to do.

    I have an axe to grind but no motive for gain. I know from experience that if the system does break, millions upon millions will have no clue whatsoever as to what to do or where to go. Look at all the photos of the great depression and you see people hudled in the cities waiting for someone to save them. There is no one who gives a care about saving the little guy so decide in advance to look after yourself, your family and those you care about.

    Next and last; find a way to put these greedy bastards in jail where they belong. I would prefer hanging for them but it would probably not be a poplular solution.

    Norman

  33. overtheedge | October 14, 2011

    Simplified version

    Derivitives are not tangibles, but rather sales of future cash flow. Hence there are several counter-parties. Most notable and the real threat is the insurance bought to limit exposure risk. Lehman was in the insurance business of the mortgage CDO sector. When the shtf, Lehman lacked the cash and access to cash to cover the settlements for loss.

    Herein is the problem. If the settlement for loss can't be covered by the derivitive insurer, the losses go straight to the bank's bottom line. Stock and bond-holders of the insurer are wiped out. Same for those with shares in the bank that is counting on the settlement.

    Chain reaction. In and of itself, this is good. Higher risk means higher potential for profits and loss. The insurance on derivitives was meant to reduce risks and insure profits. Yah, good luck with that.

    The problem is the fear factor among the depositors. They will run on the bank and wipe out what little remains on deposit. The majority of money depositted is already loaned out. In a strangled economy, the potential for default on the loans is high. Oh-ho, the deposits are insured by FDIC and the loan is insured by a counter-party already tapped out. FDIC will have to call on Treasury and Fed to roll the presses.

    Fact of life, you can only pile feces so high before it falls over. The real problem is each derivitive has too many counter-parties completely dependant upon each other to make good. Good luck with that.

    • Dennis Smith | October 14, 2011

      Credit Default Swap. Either an uninvolved party making a "casino" bet on a contract/interest rate or "insurance" by another name to avoid having to hold reserves to cover the insurance. Our wonderful regulators that have allowed insurance, without reserves to cover it, to be sold or even cleared through an open market have sold us into global depression. The default tsunami caused by the EU derivative collapse will inundate the global financial landscape. How long can you tread water?

  34. Bright Path | October 14, 2011

    Derivatives are not a net sum game when someone goes under. In the case of Lehman they ended up getting 9c per dollar on their derivative's book. Some zero net! The precise reason they went down was because their bets were heavily skewed.

    The BIS reported total otc derivatives to the tune of $1.14 QUAD in June of 2008. But following the crash in fall 2008 they must have concluded that the world wasn't ready to discuss a QUADworth of risk in anything financial. So in the Dec 2008 report the number was revised down by approx 50% by shifting to a marked to maturity model. Dec 2008 derivatives were reported as slightly under $700 TRILL.

    BP

  35. Carlos Comesana | October 14, 2011

    Please consider this. All existing derivatives to be considered a valuable intruments by law should be obliged to be inmediately reported in public exchanges and if no reported will be of no value. After that, total and individual positions should be offset and it would be possible to clear who are the winners and the losers including public and private financial institutions.Thereafter it should be neccessary to declare as a criminal fraud most of the transactions in derivatives. No rights can derive from a fraud. Final positions are to be compensated and positive or negative final balances are to be supported by the financial institutions that originated and traffic with such derivatives. Nationalizations, recapitalizations, mergers, back up lines or bankruptcies are in the menu to offer to the affected financial institutions. In my opinion there are not too many naif participants in this market. Claw backs may be legally allowed to take effect if the operations are declared fraudulent.

  36. Cesare Bonventre | October 14, 2011

    Goldman Sachs ADMITTED this year to counterfeiting over 617 Trillion in phony securities; and Chase over 100 Trillion

    Naturally, there were no prosecutions!

  37. AF | October 14, 2011

    @Jim Dunning

    If that were to occur, I would be delighted at the opportunity to buy those commodities at a steep discount, in between the crash of the Euro, then the Dollar! I have been waiting for that kind of opportunity. If the Dollar goes first, about the same result.

  38. Dr L. Lechtreck | October 15, 2011

    Exactly what is a derivative? You offered to define it and did NOT.
    Do all financial writers mean the same thing by "derivative"? Very likely not.
    Are you talking exclusively about the futures and options markets?
    You did not say so. Is it in NY and Chicago, or does t include London?

  39. AF | October 15, 2011

    Just how many hours does it take, for a comment to be "moderated" here ?

  40. Luutzen Nijdam | October 15, 2011

    Because the private FED creates money for US banksters cartel (helicopter Ben), which is like feeding the sharks, these debt and derivative bubbles have come to be. They will sink the financial serives industry.

    A transition to a constitutional FED controlled and audited by congress, and re-introductin of some form of Gold standard for sound money.

    VOTE RON PAUL, GOP's nr. 1 (unofficial)

    The gold standard was in my economy college textbooks, 25years ago. What is the matter with politicians and bankers Today??? The are sick of greed and implementin Satanic (= rothschild) policies of austerity.

  41. Lawrence | October 16, 2011

    This is old newz. The financial system has been well and truly compromised for some time now. Gold and silver ARE real money despite what you may be told. They are commodities too yes, but they revert to the best and most faithful medium of exchange in a crisis. Igonre it at your peril

  42. DanH | October 16, 2011

    Is it really "only $600 Trillion"? LOL

    The latest estimate on derivatives that I've heard is more than DOUBLE that amount!!

    Try $1.4 QUADrillion in notional value! The BIS and FASB are a JOKE.

    Do yourselves a favor… go to YouTube and enter "Quants" in the searchbox and look for the Quants, the Alchemists of Wall Street.

    A fascinating video on the quantative analysts (mathematical geeks) that wrote some of the CrAZy formulas that defined (and in many cases hid or falsely reduced) the risk associated with these damned derivatives contracts.

    BTW China and Vietnam REFUSE to allow any derivatives unless there is something tangible involved (such as a real product) AND there must be a clearing house, rules and a reliable form of settlement with oversight and enforcement. They HATE fraud and won't tolerate it.

    Over here in the US financial markets…. our government and the SEC DON'T CARE and it's business as usual'. Another area of financial perversion is when the BANKS and Wall Street are BIGGER than the Productive Industries that produce the True Wealth.

    Remember… Wall Street produces NOTHING and DESTROYS.

  43. Vietnam2 | October 16, 2011

    I've been posting about derivatives for many years now. Bernie Madoff said the US government was behind the biggest PONZI scheme ever. (as he was sent to prison) JP Morgan started the derivative trades, which is ironic because JP Morgan was thought by many to creat the market crash in 1929. So over $100 trillion derivatives trade prior to 2000. However, in 1999, the Glass Steagall act was repealed, led by phil gramm (R) TX, former Senate finance chairman. (he is NOW getting taxpayer retirement money for deregulating this PONZI scam.) It passed the Senate 90-8 with 2 abstained. (one of those 8 Senators should be the POTUS) Clinton signed it. Investment banking firms became depository banks and lenders. (most of the sub-prime shops were owned by these firms so they could launder the money made off derivatives.) In 2000, the gramm, leach, bliley act and the CFM act was passed. GLB prevented the SEC from regulating derivatives and CFM allowed 40-1 ratios. Thus, the HUGH figure on derivatives. Over $645 TRILLION tradeed between 2000 – June 2008. AIG defaulted on a CDS payment in July 2008 and ithe PONZI scam started unraveling. The financial crisis hit on Sept 8 2008 because banks around the world stopped trading with eeach other overnight becasue they knew they had been screwed by wall street The US housing market was killed with these deregulated derivatives. So on top of the amount of derivatives, add the losses from the housing market and jobs lost. Plus, add the loss of property taxes for local and state tax revenues. Which led to Harrisburg, etc financial troubles. Also, President of Greece, George Papandreous stated last year that derivatives were the big reason his country was in trouble. Wall Street told him to shut up or Greece would pay heavily for his words. Now Greece is paying 23% to service their debt. How can they improve their economy and where does the 23% go? This is not only greed but evil involved in the derivative market. Look at Iceland!! One poster said Henry Kissinger was involved in this financial disaster and many of you probably don't know about the Bohemian Club in CA. Or, that all the republican president's since Hoover have been members. Kissinger along with George Schultz is a member. George Schultz met with GWB prior to the 2000 election and annointed GWB president. He also met Obama with Kissinger in Jan 2011 at the WH. I read where Obama and McCain met at the Bohemian Club in July 2008 just before McCain selected Palin as his running mate. One way to insure defeat is to pick a brilliant VP.

  44. Bob Burnitt | October 16, 2011

    We need to arrest, indict, try, and execute these people for TREASON. And that includes the "regulators" and the "Statesmen".

    I am or WAS a Real Estate Apprasier in Texas, I had to QUIT the business. After working for over 200 lenders I could NOT find even ONE that was hoest, that thing is rotten from the bottom to the top and back down again. Our sovereign wealth GOLD is GONE. I believe it has been GONE since WWII. I will guarantee you it is. Keynesian Economics is the BASIS for all of this FRAUD. When you have a philosphy that printing money and all spending and debt is good, then you are bound to have a disaster. This IS a disaster ALL READY, RIGHT NOW!!! We will not see the end of this in our lifetime. Bob Burnitt Ellis County Texas

  45. pat moore | October 16, 2011

    Derivatives do not negate each other when the winning party requires cash settlement, even digital cash that has to be on someone's balance sheet. The leverage is the problem; leveraged losses cannot be covered with cash that is not leveraged and thus, bleeds into the cash held in reserve. Unregulated CDS contacts are just leverage on steroids. Mortgage backed securities gave us a taste of the ripple effect…… first out gets the cash, the rest can't get the cash because there is never enough to go around.

  46. mick vines | October 16, 2011

    Good for you Over the edge best explanation of this problem so far

  47. Alice Wolf | October 16, 2011

    Hi, anyone ready for a solution to this crisis? The only practical way out of the mess and a plan to give the human race a decent future for generations to come, and a clear description of the role of man in the Universe, look no further than larouchepac.com. This site has articles and videos on the Alexander Hamilton Credit System, and what that really is, articles on the creative impulse that distringuishes mankind from the animal kingdom, and the principle of Glass Steagall, how to reinstate it and what to do following that move. The NAWAPA project is described in detail, and the reality of where our solar system is at present in the Galaxy. Daily updates and commentary plus unusual scientific features are presented every week, a Weekly Report, the LaRouche Show, the list goes on and on. Do yourselves a favor, check it out.

  48. Hektor | October 17, 2011

    Remember 2008….bankrupcy of a US bank LEHMANN and what is happening now is the 2nd act of this because of all the bank bailouts governements had to make.
    Remember too there is only one country where the 2nd largest creditor is the central bank of that same country which is the US and the FED.
    This concept where a central bank can hold the debt of its own country is more than questionnnable and futur will show if at the end of the game the most indebted nation wont be the US.

  49. Italics Mine | October 17, 2011

    Tell me again what a "derivative" is, and who invented it to get rich quick?

  50. ClavisRa | October 26, 2011

    Financial debt is an illusion. The world cannot bankrupt itself in debt. If the 1.4 Quad derivatives house of cards crashes down we still have the same amount of money, as a world, as before, just a mix of winners and losers. Same resources to invest as before. So, what exactly is the real risk of all of this massively leveraged debt? We just have to fix our accounting practices, fix our financial rules so we have an orderly system that makes sense to all players so business can proceed–and make sure we don't destroy real wealth like able businesses while rearranging our financial house. Gambling is a vice for a reason and needs to be weeded out of our markets and financial system.

    All the wealth of our world comes from our natural resources, our people, our governments and our companies, i.e., what is in our world, and how it is organized and employed. Our economic and financial systems should reflect that transparently.

  51. david tarbuck | November 6, 2011

    Derivatives, swaps, treasury bills/bonds, government deficit/debt, &c. The whole rat bag is just what Karl Marx identified as "ficticious capital", or to use a more contemporary term "junk cash"! to attempt to pass this paper off as real 'capital' is just plain FRAUD!

    In Marx' time "ficticious capital was primarily the debts of governments and landed gentry for wars and other ways of living beyond their means but as these usually maxed out ar 15% or less of a country's GDP, absorbing them and the misery they inflicted upon REAL producers was containable; I.e. it did not implode the total mass.

    TODAY though, as K.Fitz Gerald, M hutcinson, S Gallani have frequently pointed out, the NUMERICAL amount of this (worthless) paper (& electronic) rubbish at $700trillion is some ten times the WORLD"S GDP of $70trillion.

    Now even the most vugar appologist for bankers' "business as usual" will be forced to concede there is just nowhere near any REAL value to secure this mess; a mess that was created by not facing up to periodic crises as normal and looking for (humane) ways through what must be faced head on, or if put off will only be exponentially worse the next time around. Past put-offs are now catching up; it is no longer containable!

    That is what we have on hand today where the (Central) bankers are trying to off load worthless paper as debts on the backs of those (enterpreneurs and workers) who are the ONLY source of REAL value.

    REAL value consists of living (current) labour plus accumulated labour, put to use as means of production (capital) and NOTHING else; so in order to realise "value" for paper rubbish in itself worthless, it is necessary for the financial establishment (Central Bankers, Ministers of Finance and their private conterparts,&c.) to attach their paper in the form of liability on to the backs of workers and enterpreneurs. I.e. let the REAL producers live in the streets and eat garbage whilst they replace ficticious capital with real capital. This is occuring in most visibly in Athens, but conditions in New York, Detroit, Cleveland, Lisbon, Milan, Madrid &c. are catching up.

    Taxpaying workers in France, Germany, Finland, Slovakia, Canada, countries not yet on the brink as well as those in the thick are also catching on an beginning to resist the prospect of being swindeled out of their futures and forced to work for subsistance only (or less) for the next 20 years or more.

    OWS and Occupiers everywhere are a significant factor in that resistance;

    Peace be with them!

    If they

  52. fred | March 3, 2012

    If your couterparty fails your are exposed to the gross position- duh……
    How many counter parties are MF globals? Answer- Plenty

  53. Buck Itall | May 11, 2012

    $600,000,000,000,000 sounds more like a financial BIG BANG, than pressure waiting to explode. Come to think of it, isnt that the estimated wealth of the Royal family of banking, the Rothschildes?

  54. Larry | August 6, 2012

    A derivative is a financial instrument that is derived from some other asset, index, event, value or condition (known as the underlying asset). Rather than trade or exchange the underlying asset itself, derivative traders enter into an agreement to exchange cash or assets over time based on the underlying asset. A simple example is a futures contract: an agreement to exchange the underlying asset at a future date.
    Derivatives are often highly leveraged, such that a small movement in the underlying value can cause a large difference in the value of the derivative.

    This is the definition from Wikipedia; and commonly believed amongst most citizens. What is omitted is perhaps the key warning that should be intuitively obvious even to the most unsophisticated citizen.

    The value is derived from something that has intrinsic value. It does not duplicate the value, nor does it have intrinsic value of its own. In fact if one person receives money from a derivative someone else will lose the same amount. The net value of all derivatives is zero. And when Frontline says the total value of the derivative market is x, it is simply defining the extent of the fraud.

    As an example, a simple derivative is an option to buy IBM stock for 100. Currently the stock is traded at 101 and thus the option is worth 1. IBM makes computers, employs people, repairs the computers already purchased, pays taxes, owns buildings and equipment, has plans for the future that will create useful things in the future. It has intrinsic value to those who own it and more importantly to rest of the world who benefit from its existence. The option exists in contemplation of the market, both of which are non-existent concepts our thinking. It has no intrinsic value.

    To attribute a total value to a derivative or all derivatives is to not understand this fundamental concept. This gargantuan deception comes about because the losers are not known even to themselves; and according do not record the loss. The prospective winner records the gain as market appreciation. If this cumulative self-deception amounts to the reported 27 trillion the entire world will suffer at every level. This is not an issue of regulation, it is unsurpassed stupidity. It makes Bernie Madoff look like child’s play.

    • James | January 29, 2013

      "The value is derived from something that has intrinsic value. It does not duplicate the value, nor does it have intrinsic value of its own." I think the effect in the end is the same, that is it does create value where there is none- and this is why- the banks involved are often operating at a high debt to equity ratio. So bank A has a 30 to 1 debt to equity ratio, but is ALSO too big to fail then in the end they ARE operating as a dictator in the game.

      • James | January 29, 2013

        The taxpayers and the masses who own small portions of stocks, pensions, other investments etc. are covering the risks- which have been used to elicit investments from investment bankers! So how is this not creating value, or at least a kind of cash flow of sorts that bankrolls the whole sham for those in the right position?

  55. James | January 29, 2013

    They need to somehow tax these trades so at least then the tax payers can see something from this- lower taxes while stimulating the public sector jobs which should increase consumerism. Even though some economists argue that consumerism almost always precedes job increases… it's a cycle anyways.

    • James | January 29, 2013

      This way this magical intrinsic value will be spread throughout infrastructure and the whole system will be self sustaining, but would support all of society more equally. And then debt forgiveness (portions not all) can be used to reboot the system if it ever gets overinflated. This way other institutions won't be forced to take on the extremely risky debt when the owners choose to default on investments that are net negative.

  56. Ra | September 22, 2013

    It’s done deliberately to necessitate an overhaul i.e. refurbish existing systems of planet viz.(1.)Economic, (2.)Military and (3.)Political . As was done last which began with Great Depression (1929-30), Worldwars, Creation of Israel, Failure of League of Nations and mantling of UNO, Coldwars. And continues nowadays as Largescale organized terror attacks and Great Global Recession (2008-09), to overthrow all independent governments of Middle-east and so on. So it’s planned for now and ahead too to go on. Thus don’t panic because – All Masses are to be ruled by Elite Classes!

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