Thursday, June 14, 2012

I am not sharing earth shivering news but its a hard fact. But in the so-called modern-day age of high-tech wonders and medical miracles, we now have a titanic problem the world has never seen before: derivative liability on a scale that boggles the mind.
What is even more puzzling is the fact that 90% of the people have absolutely no understanding or the slightest clue how this is now going to affect us.
And the punch line: From a timing perspective, I think 2012 and 2013 will usher the most challenging times for the financial markets globally. 
After hearing this, I have started to wonder about the recent revelations regarding J.P. Morgan Chase and their $2 billion derivative loss (or was that $4 billion?). The latest news seems to indicate $20 billion loss, but suddenly it's starting to sound like just the tip of the iceberg, similar to how the 2008 derivative meltdown started.
For those not familiar with the current derivative liability hanging over the head of the financial system, here are the facts: There is nearly $1 quadrillion (that's 1,000 trillion) of unsecured derivative liability in the world.
This number is absolutely insane! A million seconds is roughly 12 and half days. A billion seconds is 32 years. A trillion in terms of seconds represents 32,000 years. A quadrillion is 1,000 times 32,000 years in terms of seconds.  It's hard to get one's head wrapped around such a number.
The Top 5 U.S. banks make up $230 trillion ($230,000,000,000,000) of this quadrillion dollar liability.
Here is the breakdown of this number as accurately described by noted retired writer Paul Roberts who was famous with the Washington Post...Paul Roberts enlightens us about another $230 trillion:
However, the $230,000,000,000,000 in derivative bets by U.S. banks might bring its own surprises. JPMorgan Chase has had to admit that its recently announced derivative loss of $2 billion is more than that. How much more remains to be seen. According to the comptroller of the currency, the five largest banks hold 95.7% of all derivatives held by banks. The five banks holding $226 trillion in derivative bets are highly leveraged gamblers.
For example, JPMorgan Chase has total assets of $1.8 trillion but holds $70 trillion in derivative bets, a ratio of $39 in derivative bets for every dollar of assets. Such a bank doesn't have to lose very many bets before it is busted.
Assets, of course, are not risk-based capital. According to the Comptroller of the Currency report, as of December 31, 2011, JPMorgan Chase held $70.2 trillion in derivatives and only $136 billion in risk-based capital. In other words, the bank's derivative bets are 516 times larger than the capital that covers the bets.
It is difficult to imagine a more reckless and unstable position for a bank to place itself in, but Goldman Sachs takes the cake. That bank's $44 trillion in derivative bets is covered by only $19 billion in risk-based capital, resulting in bets 2,295 times larger than the capital that covers them.
Bets on interest rates comprise 81% of all derivatives. These are the derivatives that support high U.S. Treasury bond prices despite massive increases in U.S. debt and its monetization.
U.S. banks' derivative bets of $230 trillion, concentrated in five banks, are 15.3 times larger than the USA GDP size 15.1 trillion. A failed political system that allows unregulated banks to place uncovered bets 15 times larger than the U.S. economy is a system that is headed for catastrophic failure. As the word spreads of the fantastic lack of judgement in the American political and financial systems, the catastrophe in waiting will become a reality.

Disclaimer: This is just a research piece and not an investment advice. All financial transactions carry  a RISK


  1. I like the analogy to time in seconds. Nice way of explaining. However, Titanic is a mild adjective to describe the proportion or magnitude!