Leonard writes that "[t]he hedge funds are basically betting on the likelihood that there will be a housing sector collapse" and that "the smartest players on Wall Street see the housing market about to implode". Really? Just because some funds bet on a deterioration in the housing sector doesn't mean that they think it will it to "collapse" or "implode". There's no doubt we've reached a peak and that the creditworthiness of borrowers has declined but, so far, it's looking like things are stabilizing and not yet going over a cliff.

Assuming the lenders will pass the additional cost of derivative insurance on to the borrowers, or even tighten their lending policies, let's accept the premise that the subprime business was selling paper at a discount. Pushing up derivative insurance would tend to fairly value these loans, which has the net effect of pushing new borrowers out of the market, and calling existing loans into question. Now the possibility is raised that the whole thing can begin to spiral out of control, while loans are called in, confidence falters, the premium on insurance rises, and the cycle begins anew. The tug of war between the buyers and sellers of derivatives is usually won by the side with the most reserves, which that institution can bring to bear in the market, to influence the outcome in their favor.

There are always situations which confound the hedge funds, like the massive position some hedge funds took in GM, short the stock, and long the bonds, which were destroyed when Kirk Kerkorian offered to take a stake in the company. The general opinion on Wall Street was that the aging investor made a bad move, the market always expects rational behavior, but that wasn't the case, and it didn't bring down the system either. There is always a losing side to any derivative play, and while sometimes while it seems so unlikely, the investor forgets that someone is on the other side of that play, and they aren't going to just sit back and watch their investment come to naught, even if it does require an extreme and seemingly irrational act.