The case for credit derivatives, by Dan Caplinger
In general, when you’re looking for a scapegoat, you want to grab the highest-profile person you can find. But with the current financial mess, the real culprits are hiding in the shadows: those who created all those lovely little credit derivatives that still hang over the heads of most financial institutions.
Who they are remains mostly unknown. An article in Portfolio magazine recently discussed the role of a guy named Bill Demchak, currently vice chairman at PNC Financial (NYSE: PNC), who used to work in a group at JPMorgan Chase (NYSE: JPM) that pioneered credit derivatives. But you won’t find household names among this group of credit-derivative forefathers.
What you will recognize, though, are the results. Credit default swaps have run rampant, causing panic as their values imply cataclysmic business failures ahead. Just this week, swaps on Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) traded at levels that treat the company as a junk-bond issuer. Some even argue that swap holders are actively pushing for companies from Six Flags to Ford Motor (NYSE: F) to default — just so their swaps will pay off.
Don’t blame Bernanke
I understand that pointing at some back-room invention from Wall Street isn’t as pleasing as fingering a leader like Ben Bernanke for the financial crisis. Plenty of my fellow writers at the Fool have mocked Bernanke relentlessly over the years.
But the derivatives that are behind this debacle have been around a lot longer than the three years that Bernanke has headed the Fed. Even if you really want to blame a policymaker, Bernanke’s not your best choice. History will show that while Bernanke had the misfortune of being around when the spit hit the fan, the missteps of the Fed under his predecessor, Alan Greenspan, created the environment where Bill Demchak and others could build their financial Frankenstein.