CDS demonization watch, insurable-interest edition

May 7, 2009

A common meme among CDS pundits is that since credit default swaps behave in some ways like insurance policies, they should be regulated as insurance policies, and no one should be allowed to buy credit protection unless they have an insurable interest in the credit in question — that is, unless they loaned money to it.

Nemo, however, turns that meme on its head, and has decided that if you do have an insurable interest, and then act to collect on your insurance, then you’re “a criminal enterprise”:

Morgan Stanley bought insurance against BTA’s default and then caused that default. If you are wondering how this could possibly be legal, then good.

When he says that Morgan Stanley “caused” a default, he just means that the bank called in its loan, as is its right. But because Morgan Stanley was prudent and bought insurance against the default, its losses won’t be as big as they otherwise would have been. In what way is this supposed to be even unethical, let alone criminal?


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