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China Energy (OTC BB: CGYV): Apparently, Enough is Enough

CGYV ended up being a very pleasant surprise today as the stock finally traded up quite nicely for one day out of nowhere. I have written about this several times- the irrational pricing in this particular stock has been fostered by the death of several of their early stage institutional investors, which has led to irrational selling at huge losses.

CGYV made a 30% move today off yesterday's sub $1 close for no apparent reason. Amazing. We really need something like a 300% move to get back to a reasonable level, but I'll gladly take the one day rebound. 

I'm not convinced the forced liquidations are completely at an end. Caution is still warranted, so I wouldn't go all in just because we had one decent day. I would not be a buyer with less than a six month time horizon. The macro environment in the background is making everything dicey, so you have to be a little longer term if you're going to act.

Perhaps today is a signal that the sellers have simply run out of stock. I'd suggest waiting a day or two for confirmation.
 

Credit Default Swaps: The Big Scam

The media has been yapping a lot lately about Credit Default Swaps, and how much they have contributed to worldwide credit black hole. Do you understand what a credit default swap really is, and the role they played in today's liquidity crisis?

I finally read a pretty succinct description of these things, and I'll share it with you. 

Your European banker meets up with his friendly broker from AIG. The European banker wants to buy a portfolio of sub prime mortgages, but it's too risky for his taste. He gets together with the AIG guy and asks how much it would cost to insure the portfolio against a loss.

The AIG offers him a new product they cooked up- the Credit Default Swap. For about 2% of the value, AIG sells the banker this product. The Credit Default Swap (CDS for short) is backed by the full faith and credit of AIG, who has a AAA rating from the rating agencies. Furthermore, despite being an insurance product, they were not regulated.

Since the US mortgage market had been basically default free for many years, the fancy AIG computer model suggested they couldn't lose on this insurance. 

With the CDS attached, demand swells for these mortgage portfolios, allowing mortgage originators to offer more and more of them at more favorable terms as real estate prices escalated to extreme heights. Then, the bubble burst. When real estate stopped going up, interest rates starting going up and homeowners had mortgages they couldn't pay.

AIG was highly complicit in the scam. They booked hundreds of millions in profits on insurance they couldn't pay. When the 2005 to 2007 mortgages turned out to have far higher default rates than historical norms, AIG didn't have the money to pay off on the claims. Lehman Brothers and Bear Stearns were huge investors, and they have simply vaporized.

AIG, the insurer, was considered by our government to be too big to fail. If they had gone into bankruptcy and defaulted on the insurance they had sold, the unthinkable might have happened- depositors might not have been able to get their money out of failed banks.

So, who's fault is it? Here's a partial list:

• AIG, and other insurers who invented these products they couldn't insure in order to book massive profits
• Mortgage originators, who sold mortgages to unqualified buyers who couldn't afford them
• Home buyers, who committed to mortgages they couldn't afford to pay
• Rating Agencies, who didn't bother investigating the companies they were rating and the obligations of those companies
• Government, who's lax lending regulations, fostered during the Clinton Administration, allowed banks to loan 40 times their reserves, vs formerly 12 times their reserves. 

The world will slowly work its way through the demise of this massive credit bubble. Once all the losses have been booked, market prices adjusted accordingly, banks are reliquified to the point of going back to reasonable lending standards, and the foreclosure rate goes back to normal, improvements will come. The bar will be set pretty darn low at that time, so small signs of progress should translate to huge gains in the markets.

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