Counterparty

Boy is it hard to learn all the vocabulary associated with this mess in the market, but I do find it all interesting.  For example, counterparty is a useful word.  It means: The other participant in a contract or swap.  So it is the union of buyers and sellers.  If  you’re  the seller the buyer is your counterparty, and visa versa.  It’s a particularly useful word when it becomes unclear who in the transaction is the buyer and who’s the seller, for example when your engaged in barter.  Pass a neighbor on the street, exchange greetings, and you become counterparties.  I like that there is a word for the participants in transactions where the commodities changing hands are harder to quantify.

When Mary smiles at Sally and Sally fails to return the greeting then Mary’s feelings are hurt. Mary took the risk that Sally would reciprocate.  That was her counter party risk.  A more concrete example of counter party risk: the local ice cream company recently went bankrupt and left it’s suppliers with worthless accounts receivables.  Those vendors might have purchased insurance to protect them from that loss.  I gather that in England you can buy insurance that your marriage won’t end in divorce.  I find myself imagining brats sitting on the playground wall placing bets on the chances Mary and Sally smile at each other when they pass.

Bets on the chances that a transaction between parties will go south for one reason or another go by many names.  One that’s in the news these days is credit derivatives.  As long as you can find somebody you sell you the insurance (or to make the bet with you) pretty much any counter party risk what so ever can be hedged.  Betting on the progress of Sally and Mary’s body language is at one end of the spectrum at the other end you can place bets on the chance a government will decline to pay back  its  debt.

The markets for those are signals about the reputation of a given counterparty.  Better than  eBay  reputation scores.  The German government has a better reputation then the US government for example.

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