Thursday, 8 March 2012

Gold breaks $1,700, no CDS showdown?

Sitting here in my Hackney flat relying on free news, Google Finance and free gold spot price charts from the likes of BullionVault I'm wondering why gold is moving up before the Greek deal.

According to the London Stock Exchange the sales of PHAU, ETF Securities' physical gold ETF, are almost exactly level with buys - at around £2.7 million or 16,200 shares.

Meanwhile Reuters reports that the private bond holders deal with Greece looks like it's going OK although the required 95% threshold to meet the costs will not be met.

Beyond a 75% acceptance it can force other bond holders into the deal.

Reuters reports: "It also remains to be seen whether enforcing the deal will trigger credit default swaps (CDS) insurance that some investors hold, adding an element of uncertainty over its wider impact."

Michael Hewson at CMC Markets is sure this cannot be averted: "If the CAC’s (collective action clauses) are invoked then the International Swaps and Derivatives Association (ISDA) will have no choice other than to declare a default, or run the risk of causing a run on the rest of the European bond market, and destroying the credibility of the CDS market."

Bloomberg reports that investors using CDS to insure their bonds against default are exiting the CDS market () taking their money now - apparently the price of a default is 95% in the price paid for the insurance.

London-based fund manager Patrick Armstrong bought Greek bonds a while ago.

Yesterday he told Bloomberg that he’d been betting against banks rather than using default swaps on Greece to hedge his holdings.

But Bloomberg seems to be saying that the Greek CDS market has shrunk (sellers of CDSs buying contracts to cover their positions and vice versa) - so if there is a default and CDSs are triggered, what effect will this have on banks? As far as I can tell from this information, whether the CDSs are triggered there's not going to be any huge fall out.

I suppose this means that escape routes out of the problem, including shorting banks, won't work now unless they have already worked - (and an expensive CDS is an insurance policy that has already paid out).

What I suppose I haven't got my head around is how the CDS market works. I believe, until recently, an investor had to own the bonds they were insuring against in order to collect a CDS payout. That came to an end and now anyone can bet against a bond by buying a CDS, it's not an insurance policy.

But if the market relies on one party being a buyer and one party being the seller the pressure is taken off big institutions as sellers of this insurance - they are more like managers of buyers and sellers. Or is there still an underlying CDS market? A work in progress...

Anyway, may be the less-scary-than-expected CDS problem explains why Gold has got to $1,700 per ounce - which isn't exactly jubilant anyway.

No comments:

Post a Comment