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Bit of a worry...

The discovery of huge hidden losses at General Motors' finance arm
has raised fresh fears of bankruptcy at the world's biggest
carmaker, sending tremors through the credit derivatives markets.

The struggling group asked for a filing delay after admitting to an
extra $2 billion (£1.1 billion) in accounting errors at its finance
arm GMAC, raising total losses last year to $10.6 billion. The news
triggered a sharp spike in the cost of default insurance on GMAC's
bonds, rising 75 basis points overnight.

Car-parts supplier Dana Corp. defaulted last week on $2.5 billion of
debt, following Delphi and Tower Automotive last year.

Concern that General Motors may now be sliding towards the brink --
linked to an estimated $200 billion in credit derivatives -- has
renewed fears that the overheated credit swap market could seize up
in a crisis.

Global investors are already jittery after the crash of the
Icelandic krona, which sparked flight from hot assets as far afield
as Hungary, Turkey. and New Zealand.

There is concern that monetary tightening in Europe, Japan, and
America in unison might drain much of the excess liquidity fuelling
the global asset boom.

Timothy Geithner, president of the New York Federal Reserve, warned
in a recent speech that the $300,000 billion derivatives market had
raced ahead of the infrastructure needed to support it.

He said the plethora of new instruments may have led to a more
dangerous concentration of risk.

"They have not ended the tendency of markets to occasional periods
of mania and panic. They have not eliminated the possibility of
failure of a major financial intermediary. And they cannot fully
insulate the broader financial community from the effects of such a

"There are aspects of the latest changes in financial innovation
that could increase systemic risk in some circumstances, by
amplifying rather than dampening the movement in asset prices," he

The New York Fed was caught off guard in 1998 when the Russian
default caused global bond spreads to widen further than computer
models had programmed.

Long Term Capital Management -- a hedge fund with two Nobel
laureates on its team -- was left on the wrong side of almost $100
billion in trades on Italian, Spanish, and Portuguese bonds, among
others, until it was rescued by the emergency rate cuts. The Fed
said at the time the meltdown had put the entire global financial
system at risk.

This time Mr Geithner is demanding that the International Swaps and
Derivatives Association clean up its act before -- not after -- any
credit crunch. He said the "most conspicuous" problems were in the
$12,400 billion market for credit derivatives, which has doubled in
size every year for the last decade. A "significant" proportion of
total trades do not even match up, he said.

Credit derivatives are an easy way to bet on credit quality without
having to buy actual bonds, which are less liquid. Mr Geithner said
the risk was very heavily concentrated, with America's 10 biggest
banks holding $600 billion in potential credit exposure (on $95,000
billion of notional trades), equal to 175 percent of their financial

"The same names show up in multiple types of positions. These create
the potential for squeezes in cash markets, magnifying the risk of
adverse market dynamics," he said.

Market traders are scathing about such warnings, accusing the
watchdogs of basic ignorance. "Regulators have been going on like
this for five years now," said one veteran.

Unconvinced by such blithe assurances, the investor Warren Buffett
has been warning since 2003 that derivatives are a ticking "time
bomb," although his new metaphor is New Orleans' burst levee.

This month he was explaining it has cost Berkshire Hathaway $404
million to extract itself from derivatives inherited through General
Re, the reinsurance group.

He said: "We are a canary in this business coal mine. Our experience
should be particularly sobering because we were a better-than-
average candidate to exit gracefully.

"General Re has had the good fortune to unwind its supposedly liquid
positions in a benign market. It could be a different story for
others in the future," Mr Buffett said.



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