Explanation of Derivative Markets

Heidi is the proprietor of a bar in Detroit. She realizes that virtually all of her customers
are unemployed alcoholics and, as such, can no longer afford to patronize her bar. To solve
this problem, she comes up with a new marketing plan that allows her customers to drink now,
but pay later.

Heidi keeps track of the drinks consumed on a ledger (thereby granting the customers’ loans).
Word gets around about Heidi’s “drink now, pay later” marketing strategy and, as a result,
increasing numbers of customers flood into Heidi’s bar. Soon she has the largest sales volume
for any bar in Detroit .

By providing her customers freedom from immediate payment demands, Heidi gets no resistance
when, at regular intervals, she substantially increases her prices for wine and beer, the most
consumed beverages. Consequently, Heidi’s gross sales volume increases massively.

A young and dynamic vice-president at the local bank recognizes that these customer debts
constitute valuable future assets and increases Heidi’s borrowing limit. He sees no reason
for any undue concern, since he has the debts of the unemployed alcoholics as collateral.

At the bank’s corporate headquarters, expert traders figure a way to make huge commissions,
and transform these customer loans into DRINKBONDS, ALKIBONDS and PUKEBONDS. These securities
are then bundled and traded on international security markets.

Naive investors don’t really understand that the securities being sold to them as AAA secured
bonds are really the debts of unemployed alcoholics. Nevertheless, the bond prices continuously
climb, and the securities soon become the hottest-selling items for some of the nation’s leading
brokerage houses.

One day, even though the bond prices are still climbing, a risk manager at the original local
bank decides that the time has come to demand payment on the debts incurred by the drinkers at
Heidi’s bar. He so informs Heidi.

Heidi then demands payment from her alcoholic patrons, but being unemployed alcoholics they
cannot pay back their drinking debts. Since Heidi cannot fulfill her loan obligations she is
forced into bankruptcy. The bar closes and the eleven employees lose their jobs.

Overnight, DRINKBONDS, ALKIBONDS and PUKEBONDS drop in price by 90%. The collapsed bond asset
value destroys the banks liquidity and prevents it from issuing new loans, thus freezing credit
and economic activity in the community.The suppliers of Heidi’s bar had granted her generous
payment extensions and had invested their firms’ pension funds in the various BOND securities.
They find they are now faced with having to write off her bad debt and with losing over 90% of
the presumed value of the bonds. Her wine supplier also claims bankruptcy, closing the doors on
a family business that had endured for three generations, her beer supplier is taken over by a
competitor, who immediately closes the local plant and lays off 150 workers.

Fortunately though, the bank, the brokerage houses and their respective executives are saved
and bailed out by a multi-billion dollar no-strings attached cash infusion from their cronies
in Government.. The funds required for this bailout are obtained by new taxes levied on employed,
middle-class, non-drinkers who have never been in Heidi’s bar.

Now, that wasn’t hard to understand was it?

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