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Credit Default Swaps: Proudly the Tool of the Devil Again

Lots of people are staking out positions around (and mostly against) investor David Einhorn’s FT-reported anti-CDS musings in his latest investor letter. I agree with David in many ways – and his writing is as fun as usual – but I don’t accept all of David’s reasons (although I agree the ability to so directly influence the path to default can be problematic).

Two of my main CDS issues (which are fixable):

1. They are congenitally under-reserved , which creates asymmetric risks.
2. It is possible to write swaps (far) exceeding the notional value of the thing for which you are writing all the swaps. That’s … not good, like being able to create total policies far exceeding the value of a house, thus making it urgent to burn the house down as soon as possible.

Anyway, here is Einhorn’s original, followed by two takes on opposite sides:

• Einhorn against credit default swaps (FT)
• Ehrenberg: Deal with it Dave (IA)
• Yves: First, let’s kill all the credit default swaps (NC)

Feel free to find yet another position to stake out in comments.

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