Got this sent to me in an email. Thought Id share it with you guys...;
At last, what we've all been waiting for, an understandable explanation of
derivative markets .....
Heidi is the proprietor of a bar in Detroit . In order to increase sales,
she decides to allow her loyal customers - most of whom are unemployed
alcoholics - to drink now but pay later. She 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 and
soon she has the largest sale volume for any bar in Detroit. By providing
her customers' freedom from immediate payment demands, Heidi gets no
resistence when she substantially increases her prices for wine and beer,
the most consumed beverages. Her sales volume increases massively.
A young and dynamic vice-president at the local bank recognizes these
customer debts as valuable future assets and increases Heidi's borrowing
limit. He sees no reason for undue concern since he has the debts of the
alcoholics as collateral. At the bank's corporate headquarters, expert
traders transform these customer loans into DRINKBONDS, ALKIBONDS and
PUKEBONDS. These securities are then traded on security markets worldwide.
Naive investors don't really understand the securities being sold to them
as AAA secured bonds are really the debts of unemployed alcoholics.
Nevertheless, their prices continuously climb, and the securities become
the top-selling items for some of the nation's leading brokerage houses
who collect enormous fees on their sales, pay extravagant bonuses to their
sales force, and who in turn purchase exotic sports cars and multimillion
dollar condominiums.
One day, although the bond prices are still climbing, a risk manager at
the bank (subsequently fired due his negativity), decides that the time
has come to demand payment on the debts incurred by the drinkers at
Heidi's bar. Heidi demands payment from her alcoholic patrons, but being
unemployed they they cannot pay back their drinking debts. Therefore,
Heidi cannot fulfill her loan obligations and claims bankruptcy. DRINKBOND
and ALKIBOND drop in price by 90 %. PUKEBOND performs better, stabilizing
in price after dropping by 80 %. The decreased bond asset value destroys
the banks liquidity and prevents it from issuing new loans. The suppliers
of Heidi's bar, having granted her generous payment extentions and having
invested in the securities are faced with writing off her debt and losing
over 80% on her bonds. Her wine supplier claims bankruptcy, her beer
supplier is taken over by a competitor, who immediately closes the local
plant and lays off 50 workers. The bank and brokerage houses are saved by
the Government following dramatic round-the-clock negotiations by leaders
from both political parties. The funds required for this bailout are
obtained by a tax levied on employed middle-class non-drinkers.
Finally an explanation I understand ....
Chris 8)
At last, what we've all been waiting for, an understandable explanation of
derivative markets .....
Heidi is the proprietor of a bar in Detroit . In order to increase sales,
she decides to allow her loyal customers - most of whom are unemployed
alcoholics - to drink now but pay later. She 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 and
soon she has the largest sale volume for any bar in Detroit. By providing
her customers' freedom from immediate payment demands, Heidi gets no
resistence when she substantially increases her prices for wine and beer,
the most consumed beverages. Her sales volume increases massively.
A young and dynamic vice-president at the local bank recognizes these
customer debts as valuable future assets and increases Heidi's borrowing
limit. He sees no reason for undue concern since he has the debts of the
alcoholics as collateral. At the bank's corporate headquarters, expert
traders transform these customer loans into DRINKBONDS, ALKIBONDS and
PUKEBONDS. These securities are then traded on security markets worldwide.
Naive investors don't really understand the securities being sold to them
as AAA secured bonds are really the debts of unemployed alcoholics.
Nevertheless, their prices continuously climb, and the securities become
the top-selling items for some of the nation's leading brokerage houses
who collect enormous fees on their sales, pay extravagant bonuses to their
sales force, and who in turn purchase exotic sports cars and multimillion
dollar condominiums.
One day, although the bond prices are still climbing, a risk manager at
the bank (subsequently fired due his negativity), decides that the time
has come to demand payment on the debts incurred by the drinkers at
Heidi's bar. Heidi demands payment from her alcoholic patrons, but being
unemployed they they cannot pay back their drinking debts. Therefore,
Heidi cannot fulfill her loan obligations and claims bankruptcy. DRINKBOND
and ALKIBOND drop in price by 90 %. PUKEBOND performs better, stabilizing
in price after dropping by 80 %. The decreased bond asset value destroys
the banks liquidity and prevents it from issuing new loans. The suppliers
of Heidi's bar, having granted her generous payment extentions and having
invested in the securities are faced with writing off her debt and losing
over 80% on her bonds. Her wine supplier claims bankruptcy, her beer
supplier is taken over by a competitor, who immediately closes the local
plant and lays off 50 workers. The bank and brokerage houses are saved by
the Government following dramatic round-the-clock negotiations by leaders
from both political parties. The funds required for this bailout are
obtained by a tax levied on employed middle-class non-drinkers.
Finally an explanation I understand ....
Chris 8)
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