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"The banks could have bought insurance against rising interest rates, but they didn't. " See, this always worried me. How do you buy insurance against rising i

"The banks could have bought insurance against rising interest rates, but they didn't. " See, this always worried me. How do you buy insurance against rising interest rates? Or more precisely, WHERE to you buy insurance against rising rates? If the answer is "from other banks" (which it presumably is), then there is no hedge in any meaningful sense. My reasoning is that it's a closed-loop system. They can't all pay off each other without counterparty default somewhere along the line. I guess what I'm trying to say that rising interest rates are bad in the sense that it creates losses (be they realised or unrealised) that are systemic to the whole banking system. There needs to be some outside party that can soak up the losses. That outside party is The Fed

rcme 4y ago
> See, this always worried me. How do you buy insurance against rising interest rates? Or more precisely, WHERE to you buy insurance against rising rates? You buy what’s called an interest rate swap. And yes, there is always counterparty risk. But that doesn’t mean you can throw your hands in the air and say “risk management isn’t important because you can never fully remove counterparty risk.” And in the cases of the insolvent banks, it’s not like they did everything in their power to reduce risk. They didn’t. I’m not against having the government support the banks. But I think that, if a bank needs government support, then it should give up its equity to the government to get it.
ElevenLathe 4y ago
You can also do things that are not really "insurance" but reduce your interest rate risk like buying shorter-term assets (T-bills for example), laddering them, and seeking out depositors that aren't all concentrated in one industry or region. Each of these things reduces your interest rate risk and means lower returns (and therefore "costs money") but is not an insurance product and doesn't really introduce novel counterparty risk.

rcme 4y ago

> See, this always worried me. How do you buy insurance against rising interest rates? Or more precisely, WHERE to you buy insurance against rising rates? You buy what’s called an interest rate swap. And yes, there is always counterparty risk. But that doesn’t mean you can throw your hands in the air and say “risk management isn’t important because you can never fully remove counterparty risk.” And in the cases of the insolvent banks, it’s not like they did everything in their power to reduce risk. They didn’t. I’m not against having the government support the banks. But I think that, if a bank needs government support, then it should give up its equity to the government to get it.

ElevenLathe 4y ago

You can also do things that are not really "insurance" but reduce your interest rate risk like buying shorter-term assets (T-bills for example), laddering them, and seeking out depositors that aren't all concentrated in one industry or region. Each of these things reduces your interest rate risk and means lower returns (and therefore "costs money") but is not an insurance product and doesn't really introduce novel counterparty risk.