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You don't need to be a direct party in a contract to be affected by it. You can insure against possible negative outcomes of someone else's contracts. e.g.) P
by jkimmel 10y ago
You don't need to be a direct party in a contract to be affected by it.
You can insure against possible negative outcomes of someone else's contracts.
e.g.) Party A and Party B sign a contract that Party B will pay Party A $X by some date. Party A has seperately agreed to pay you $0.9X shortly afterward.
You are a savvy businessperson and realize that Party A will not have $0.9X to pay you if the Party B fails to make their payment.
Party B is on the rocks after a nasty reorg, and you think the probability they fail to pay is significantly greater than 0.
You want to protect your business against this event. To do so, you purchase a Credit Default Swap from Party C for $0.05X that ensures the full $0.9X payment.
While Michael Barry was "speculating" using CDS's, you could also argue that he was "insuring" his firm against a housing crash, which did tank most investment vehicles.
- iofj 10y agoWhy are these parties allowed to make contracts like that without putting up collateral ? I can pay a bum on the street 10 dollars to sign his name on a contract like that (that he'd take over these payments in the case of bankruptcy). He would not pay up if it does happen. Apparently the situation is the same with these banks. Isn't this fraud ? They're signing insurance contracts they know they might not be able to pay up. Why don't we demand that they put the money into a locked account like every landlord on the planet does with tenants ? If you don't have that guarantee on a locked account, not used for anything else, then why is that contract accepted as hedged risk ?