Insolvent Banks Worth Billions? Where's the FDIC?

by: Ryan Avent

This comes from an interesting post by Felix Salmon:

What that says to me is that bonds are the new stocks, and stocks are the new call options. Bonds give you a high return for high risk, while with stocks you’re really levering up, running the risk of being wiped out entirely in return for the possibility that your investment could multiply in value in a matter of months.

That’s not healthy. The stock market should be a way for investors to allocate their capital over the long term in fundamentally healthy companies. Right now, however, it’s a casino. And the slightly safer market, in corporate bonds, is exactly the market we want to discourage from coming back: systemically speaking, equity markets are much less dangerous than debt markets.

In any case, we’re certainly nowhere near the point at which you can judge the health of a bank by looking at its share price. Which means that we’re nowhere near the point at which requiring large shareholdings is the best way to give management a strong incentive to make their bank healthier.

Mr. Salmon is referring to a situation in which an insolvent bank's share price shows the firm to be worth $6 billion, while credit spreads tell the real tale, in terms of institutional risk. I suppose I don't understand how this is possible; why isn't it assumed that the FDIC will soon come knocking?

This article originally appeared on The