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Strategies & Market Trends : The Residential Real Estate Crash Index -- Ignore unavailable to you. Want to Upgrade?

To: ChanceIs who wrote (76840)	4/30/2007 4:15:19 PM
From: Perspective	Respond to of 306849

Swaps sound like financial WMDs. Where the hell are the regulators?!? If they aren't concerning themselves with this threat, what the heck are they doing? Every time I hear somebody recite how much smarter we are than our grandparents, or how many more safeguards we have, my gut response is that we've probably figured out ways around all those expensive lessons they were trying to teach to us. Margin requirements? Sure, we got those. Limits on stock swap agreements? Well, those haven't been a problem. Yet. BC <Suppose a hedge fund wants to bet that IBM stock will rise. Under the SEC rule governing margin lending, the fund couldn't borrow more than $50 for every $100 of IBM stock it buys. A "total-return swap" on $100 of IBM shares would cost $5 or less for many hedge funds, at least initially. If IBM shares were to rise, the return per invested dollar would be better than if the hedge fund bought the IBM shares outright using a margin loan. If IBM shares were to fall, however, the derivative leverage would work in reverse: The hedge fund would have to pay the counterparty an amount equal to the decline in share value -- plus the agreed-upon fee. Mr. Buffett contends that the proliferation of such swaps is dangerous. "Total-return swaps make a mockery of margin requirements," he says. The widespread use of swaps, he maintains, makes the leverage that preceded the 1929 crash "look like a Sunday-school picnic." Hedge funds are under no obligation to publicly disclose derivatives transactions or borrowing levels. But Citadel Investment Group, a $13.5 billion Chicago hedge fund run by Kenneth Griffin, had to do so when it sold bonds last year. A bond offering document said the fund's leverage ratio -- the value of its assets compared to its capital from investors -- stood at 13.5 to 1, due in part to its use of derivatives. That raised eyebrows in an industry where 5-to-1 leverage is considered aggressive. Citadel's filing noted that once certain other financial agreements were taken into account, the leverage ratio was about 7.8 to 1.> BC