Are CDS Poison?
Research for Online Investors

by John Dalt

7/15/09

Maxine Waters D-CA has introduced a bill in the House to ban Credit Default Swaps (CDS). Ms. Waters is a nut job, but she is right on this, we do not need the ability to bet on a company’s ability to repay their loans.  This may be anti-free market, but remember what CDS can do.

Toxic Congresswoman recognizes Toxic Assets

The financial sector seized last fall when credit slowed because no one knew who was solvent.  Who owned CDS on which assets?  No one knew where the problems were.  Do not forget the government bailout of AIG to the tune of $180 billion so they could pay off the CDS they had issued.  $13 billion of this bailout money flowed to Goldman Sachs.  Goldman (GS) had bought CDS on real estate backed securities (RBS) they had sold to their clients.  GS knew the paper was toxic, so they placed a bet against it.

T he other problem with CDS is the creation of an incentive to destroy the company when you own CDS against the debt.  This happened in the Chrysler bankruptcy, as some bond owners would not settle for less than face value of their bonds.  They bought CDS to insure the face value of the bond.  Thus, they had no incentive to settle for forty cents on the dollar or even ninety cents on the dollar.  They would be paid on the CDS, if the bond became worthless.

U.S. auto sales rose 2.3% in June, with total retail sales increasing 0.6%.  Intel (INTC) is losing money, just not as much as last quarter.  INTC lost $398 million compared to a profit of $1.6 billion in the same quarter last year.  INTC CEO Paul Otellini said, “…our strongest first to second quarter growth since 1988 and a clear expectation for a seasonally stronger second half.”

China Investment Corp. (state owned) paid $1.5 billion for 17.2% of Teck Resources last week.  Teck Resources is a Canadian miner of gold, copper, coal, and zinc.  I wonder who gets the supplied first, at the best prices, when the inevitable shortages develop.

Netflix (NFLX) is of interest to Amazon (AMZN), Netflix stock jumped 7% on rumors of a buyout.  Netflix has 100,000 titles available through the mail, with 12,000 titles available to stream to customers.  Amazon has 40,000 titles available to stream to customers.  Amazon would gain 10 million subscribers with the purchase of Netflix.

Hank Paulson, former Secretary of the Treasury, will testify before the House Committee on Oversight and Government Reform tomorrow concerning Bank of America’s purchase of Merrill Lynch. Paulson will be defending his statements made to Ken Lewis, the CEO of Bank of America.

Included in Paulson’s prepared remarks, "I believe my remarks to Mr. Lewis were appropriate…It would be unthinkable for Bank of America to take this destructive action for which there was no reasonable legal basis and which would show a lack of judgment…would call into serious question the judgment of Bank of America's leadership."  Hammerin’ Hank does not think negotiations ever brought them close to taking steps to remove management.  Is that the test for government?  You can threaten, as long as you don’t get close to destroying a business.  Wow.

The U.S. Treasury Department released guidelines for the “cash grant” program.  This program allows solar developers to claim money directly from Treasury for up to 30% of the value of a project in lieu of the investment tax credit.  We currently own solar in the long-term and SwingTrader portfolios.  You should join us.  Some of the leading players in solar are: STP, SPWRA, FSLR, and ASTI.  STP has a contract to develop four solar power plants to produce 1.8 gigawatts in China.

It looks like the U.S. passed the $1 trillion deficit milestone in the last few days, do you feel richer?  Oh! Bama, Pelosi and their enablers are spending everything you and your children will ever have.  Every attempt to pay for a larger government involves “tax the rich”; guess what, you are the rich.  Buy GLD and SLV.

“The politicians don’t just want your money.  They want your soul.  They want you to be worn down by taxes until you are dependent and helpless.  When you subsidize poverty and failure, you get more of both.”
---James D. Davidson—National Taxpayers Union

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions.  It may contain errors and you should not make investment decisions based solely on what you believe you have read here.  Do your own research, it is your money.  If you lose it, it is your responsibility, not ours or your grandmothers!  The editor may or may not have a position in any securities discussed.  The editor may have held a position in a security earlier, or in the future

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