This Sounds Very Familiar

It appears that there is yet another complex financial instrument finding favor in international finance, the "Synthetic Risk Transfer" , which sounds a lot like the Credit Default Swap (CDS) that was described by Warren Buffet as a, "Financial weapon of mass destruction."

When Wirecard went belly up a few years ago, Deutsche Bank ended up with a loss of just €18mn — miraculously little for a bank that had up until then made a habit of ambling into nearly every major financial cow pie in the world.

And this had been a giant pile of manure right on its own doorstep. Deutsche had previously underwritten Wirecard bonds, arranged loans for the company, and handed its chief executive a giant margin loan. Fellow German lender Commerzbank took a €175mn hit.

How did Deutsche manage to avoid this doo-doo? FT Alphaville gathers that it was probably at least partly thanks to something known as a “synthetic risk transfer” — one of the hottest bits of high-octane financial engineering these days. Deutsche Bank declined to comment.

In SRTs, a bank offloads some or all of the risks of some of its loans to ease how much capital it has to set aside for regulatory purposes. The loans remain on the bank’s balance sheet, but the buyer of an SRT typically promises to cover a chunk of the losses if the loans go bad. The buyers are investors such as insurance companies, hedge funds and (increasingly) private credit funds, which take on the risk in exchange for a fee.

Come to think of it, this sounds exactly like a CDS, only skeevier.

And they manage to invoke, "Saroff's Rule," "If a financial transaction is complex enough to require that a news organization use a cartoon to explain it, its purpose is to deceive." (With The Simpsons no less)

………

The advantage for GGG Capital is that it can harvest returns of typically 10 to 15 per cent without much work (beyond the initial due diligence on the loan pool) The loans remain on the Banque Alphaville balance sheet, so it does the ongoing work of monitoring the borrowers. And if they go bad, Banque Alphaville has to handle the actual clean-up, since they’re still on its balance sheet. GGG Capital is just there to reimburse the bank for losses (up to a point).

For Banque Alphaville, the advantage is (if the structure passes muster as a “true” risk transfer) that regulators will then require less capital to be set aside for the loans.

So basically, by papering over risk by paying a fee to an insurer (who is not actually an insurer), and who, if the whole things goes titsup, might not be able to make good on their promise, you can boost returns, and generate more bonuses for senior management.

All you have to do is set everything up for an economic crisis.

This sounds a f%$#-tonne like the sh%$ that f%$#ed us in 2008.