Someone sent this to me. I see it posted in other places it online, perhaps changing the name of the bar owner and where the bar is located (e.g. Heidi in Chicago or Detroit). But whatever. It gives you something to think about.
Understanding Derivatives — A Primer
Terry is the proprietor of a bar in Kona.
He realizes that virtually all of his customers are unemployed alcoholics and, as such, can no longer afford to patronize his bar.
To solve this problem, he comes up with a new marketing plan that allows his customers to drink now, but pay later.
Terry keeps track of the drinks consumed on a ledger (thereby granting the customers’ loans).
Word gets around about Terry’s “drink now, pay later” marketing strategy and, as a result, increasing numbers of customers flood into Terry’s bar. Soon he has the largest sales volume for any bar in Kona.
By providing his customers freedom from immediate payment demands, Terry gets no resistance when, at regular intervals, he substantially increases his prices for wine and beer, the most consumed beverages.
Consequently, Terry’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 Terry’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 DRINK BONDS.
These “securities” then are bundled and traded on international securities markets.
Naive investors don’t really understand that the securities being sold to them as “AAA Secured Bonds” really are 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 still are 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 Terry’s bar. He so informs Terry.
Terry then demands payment from his alcoholic patrons, but being unemployed alcoholics they cannot pay back their drinking debts.
Since Terry cannot fulfill his loan obligations he is forced into bankruptcy. The bar closes and Terry’s 11 employees lose their jobs.
Overnight, DRINK BOND prices drop by 90%.
The collapsed bond asset value destroys the bank’s liquidity and prevents it from issuing new loans, thus freezing credit and economic activity in the community.
The suppliers of Terry’s bar had granted him generous payment extensions and had invested their firms’ pension funds in the BOND securities.
They find they are now faced with having to write off his bad debt and with losing over 90% of the presumed value of the bonds.
His wine supplier also claims bankruptcy, closing the doors on a family business that had endured for three generations, his 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 multibillion dollar no-strings attached cash infusion from the government.
The funds required for this bailout are obtained by new taxes levied on employed, middle-class, nondrinkers who have never been in Terry’s bar.
Now do you understand?
Stuff From Hsoi 