Mastery

GM: More Bailout-Worthy than Citigroup

I take fundamental issue with the author's assertion that "credit default swaps are clearly destabilizing." Actually credit default swaps help to reduce market risk by transferring credit risk from the debt market to the equity market and hence remove market risk not add to it. Thus a holder of GM loans or bonds can be protected from the credit risk implicit in that position by a credit default swap hedged with either equity put options or equity short positions or a short sale of GM bonds. Thus risk has been removed from the market and not added to the market. The inheritently destabilizing effects of CDS come instead when insurance companies like AIG or MBI who were active in these markets take way too much leverage or assume way too much risk for their capital.