Investment Banking feels the Pain

Billions of dollars of ‘sub-prime’ loans to homebuyers with poor credit records have been lost to defaults in the US.  This has had a huge knock-on effect in the UK, especially on Credit Derivatives, which have hit the wall due to the fact that they didn’t escalate their risk position.  This ultimately leads to lower revenues for the banks.

What does this mean for software vendors who sell in the Financial Services industry ?  Short term pain I’m afraid.  Projects have been postphoned and in some cases cancelled, and there is an expectation that consultants and developers on contracts will be released onto the market at the end of the year when their contracts expire.

It’s not all doom and gloom, vendors who have products that cater into Commodities, FX. Equities, and Prime Service (Extended Services to Hedge Funds) may still be able to prosper, but in general it could take up to 9-12 months for the market to settle again.

What are Credit Derivatives ?

We do a lot of work for companies in the Finance world, and particularly the Investment Banking sector.  We are often asked the “what are” questions from either new staff or from companies who want to understand that world a little better.  Given that we thought it would be fund to start a particular “What are”  section.

We’ll start gently with ‘what are Credit Derivatives ?’

Credit Derivatives exist on the assumption that  there is a market for risk.  In a nutshell risk-adverse parties sell on their risk at market price to organisations that are better placed to cope with it.  For example, if a bank is concerned that one of its customers may not be able to repay a loan, it might use a credit derivative to protect itself from loss by transferring the credit risk to a party with a higher tolerance.  The contract is legally binding and the documentation therefore has to be very robust.