So there are entities with bets on higher interest rates in place, and this is against other entities that are betting interest rates will remain low or even head lower from here. The fixed income markets are massive. And everybody says, ‘We are delta-hedged’ and all of this other nonsense. But having run an arbitrage operation and having had to be dealt a hedge, I can tell you that nobody is really hedged, they just say they are.
There is serious concern at the moment over derivatives exposure because of the move higher in interest rates. So there are probably entities who are screaming right now because of what has taken place in the interest rate markets. And if they had to actually report, as opposed to just papering over in some fashion, the mark-to-market losses that they are experiencing, this would not only be extremely painful, but possibly it would possibly destabilize to the entire financial system.
In other words, one thing central planners can’t allow is for the ‘too-big-to-fail’ to appear to be failing again because that’s a very slippery slope. Confidence in banking is everything. Everyone now knows, particularly after 2008, that the financial system has far too much leverage.
As soon as the people lose confidence in the system, panic will ensue, and so that just can’t be allowed to happen. The system would implode again, and this time it would be much more serious than in 2008 because the sovereigns no longer have the firepower to bail everybody out. That’s what is different now. I don’t know precisely what is happening behind the scenes right now, but I would imagine it to be quite chaotic.”
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