The Credit-Default Swaps or CDS Market

Credit-default swaps got a bad reputation for a faulty political-scapegoating reason during the 2008 financial debacle. Yet, they are still being used, because they serve a useful, legitimate purpose.

The problem with credit-default swaps is that the market is little understood. It provides a form of insurance that bonds will pay off, particularly when the bonds are being issued by governments whose credits are very shaky

Without them, countries on the brink of bankruptcy such as Greece and Portugal, Spain and Italy, would have problems selling their bonds at any price. ( See the Earl J Weinreb NewsHole® comments.)

Bonds and the Duration Principle

Further comments on how professionals in the financial industry constantly get the bond market wrong.

Take high yield corporate bonds, called “junk” for an unfortunate reason having to do with lower ratings. The fact they have lower ratings is compensated by higher yields. If you buy them in a fully diversified, low-cost mutual fund or ETF, and you reinvest dividends, you have factored in much risk.

If the default rates of the holdings were to rise to an unusual high from lower level, the higher yields more than make up for the risk. Yet, all the media will discuss is the risk of default and not the built-in compensation.

I have previously commented how the media hardly discuss how you can avoid that loss, along with any inflation hit, with proper use of bond duration.

This is possible with low-cost mutual funds and use of dividend reinvestment. The media, instead, offer superfluous discussions about such instruments as TIPS which are expensive and not really needed. ( See the Earl J Weinreb NewsHole® comments.)

Professional and Media Errors With Corporate Bonds

The professionals in the financial industry constantly get the bond market wrong. Remember: I’m referring to professionals, not amateurs.

They make up well over 80% of the market so they should know better. And the media are usually also in error, when reporting about them.

At the first sign of economic problems, there is talk about corporate defaults and the effect on the bond market. How bond prices are bound to fall because of the risk of possible defaults. And with that talk, the bond market weakens and prices do fall.

But remember: The possibility of default is very quickly factored into bond prices. And the lower the price, the higher the yield, as a direct relationship.

Furthermore, the media hardly ever discuss how you can avoid loss, along with any inflation hit, with proper use of bond duration. ( See the Earl J. Weinreb NewsHole® comments.)

Financial Trade Taxes

Periodically, liberal politicians and powerful unions try to tax financial transactions whenever they can and thus discourage what they call “excess speculation.” The estimated tax revenue this would bring the government is just under $200 billion over about five or six years.

A similar move is thought of in Britain and Europe from time to time, amidst their left-thinking politicians.

The consequences of such taxes on economies is the problem. Securities trading is integral to economics. Such taxes would therefore be indirectly felt by everyone.

All this hides the fact that speculation in a capitalistic society does not cause problems. It merely reflects pricing, something politicians of the left never comprehend. Capitalism’s presence may appear to help boost rising prices, but works the other way just as easily, when prices fall. ( See the Earl J. Weinreb NewsHole® comments.)

Financial Liberalism a Secular Religion?

Experience and common sense has always proven that liberal or left-oriented financial thinkers have almost always been wrong. Their actions usually have unintended consequences that are damaging in the long term, even to their own interests, and to their political constituents.

They are ingrained in liberal minds and no further education will dissuade that thinking. Sometimes they may be merely a political device for getting votes when running for office, or organizing workers on behalf of unions.

For many it has become a secular religion. ( See the Earl J. Weinreb NewsHole® comments.)

Turn Down Financial Media Noise

One of the problems with constant TV chatter is looping stock market reports. Salesmen selling financial ads make matters worse.

One of my investment rules is to avoid what I call media noise. Once you have an investment strategy in place, and you are set in that strategy, why let incessant media chatter and nonsense dissuade you from your original goals?

It becomes almost impossible to be disciplined when you have both ad salesmen and an avalanche of “experts” of all stripes and objectives throwing investing ideas at you all the time. ( See the Earl J. Weinreb NewsHole® comments.)

Market-Makers, Advisers and Brokers

Here is some Finance 101. The subject came up during the public show trial staged last year by the Democrat Congress featuring the executives of Goldman Sachs. It showed the general ignorance of many members of Congress and the inability of most of the media to educate the public.

When a financial company creates a form of security and places it up for sale, it is technically a market-maker, not an adviser and, therefore, has no fiduciary responsibility. Neither is it a broker, unless it sells the security.

Up to recent SEC admonitions, brokers have had no fiduciary responsibility. They do have to sell what is deemed ”suitable” for the customer. Therefore, a broker cannot sell risky securities, for example, to widows and orphans without their express knowledge. They can sell suitable risks to highly sophisticated investors.

Goldman Sachs, under the Congressional spotlight, were market- makers. They were also dealing with seasoned institutions who knew risks and frequently sold short, in the hope markets would fall; often with both positions at the same time, as a hedge.

Advisers, on the other hand, generally give advice and suggestions only. They are not market-makers, nor are they brokers.

Something for politicians to learn. ( See the Earl J. Weinreb NewsHole® comments.)