Its often said that one bad apple spoils the whole basket. Very true indeed, as it turns out that Lehman Brothers' story didn't end with just a bankruptcy. Severe repercussions are to follow :
Many investment funds and financial institutions took on insurance policies on Lehman's debt. This meant, that if Lehman were to default on its payment (which it already has), its insurers are to step in and pay approximately $600 billion in claims.
The chances of payment of such a huge sum seem grim, as these insurance products were 'Over-the-counter' products with no or little regulation. This may just prove to be the last straw for the unregulated market for CDS (Credit Default Swaps). Even if they were to pay the claims, they'll be paying billions of dollars for assets that have considerably reduced in value, and will eventually color their balance sheet red with losses.
The latest auction on Friday, 10th October, saw Lehman's bonds diminish to 8 cents on a dollar. This effectively means that 8 cents will be contributed by Lehman and the other 92 cents by various counter-parties and insurers that had placed bets against the debt of Lehman. A paradox : High value of credit default swaps, but the low price paid by Lehman in the bond's auction mean that the other players in the financial markets (counter-parties and insurers) have billions of dollars in obligations.
Moreover, these swaps are highly intricate and private contracts between the bank and a counterparty so no regulator or clearing house keeps track of them. The real estimate of the CDS Market is therefore not known, and we can just guess the magnitude of Lehman's undoing in this financial turmoil.
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