Common sense in the financial markets? Shock horror!

Just like the, now legendary, Captain Chesley Sullenberger, age, wisdom and experience can count for far more than simulators, 28yr old "masters of the universe" and Phd grads. George Soros, oft criticised for "breaking the Pound" some years back nailed some of the gross inefficiencies that contributed to the financial crisis we now have to struggle through.

In an article in The Financial Times today, Mr Soros deftly picks through the mire of regulatory oversights, their lack of grasp of the asymmetry of long and short positions and the opaqueness of many derivative instruments. He described the snowball effect of hedge funds, fat with cash, combining to short bank equity with long CDS positions to take massive bearish bets on some of the largest financial institutions. This capital "bullying" had the, hardly unexpected, result of sapping confidence in the whole sector. This reduction in confidence further enhanced the hedge fund profits by demolishing the banks ability to lend and borrow forcing them into a corner. Soros calls this "reflexivity" and its something not modeled in orthodox financial theories.

Soros argues that the catalyst for the seizing up of the financial sector was the Fed and The Treasury allowing Lehman to go under. The inability of many CDS or any other form of OTC (over the counter) counterparty to settle their transactions rendered the system frozen. The lack of interbank lending looks set to continue until confidence returns.

The sheer size of the outstanding CDS contracts defies belief. When I spoke at The TraderTech conference late last year, the total notional outstanding CDS nominal exposure was more than $400 trillion, yes TRILLION Dollars. The nominal is not just IOUs but multiplicities of exotic structured instruments with, I kid you not, legal documents extending to well over a thousand pages (densely written and leaglese too). The opaqueness of these instruments requires tedious unraveling and without a clear picture of what is owned, the tendency is to mark down the asset price.

None of the cataclysmic problems were forecast by the financial models, whzz-kids, VAR specialists or Phds. With little management information feeding through to the boards of the big financial institutions, all seemed well in the world and profligate spending, borrowing and $1.2m office refurbs continued. It was always going to pop when the boards no longer understood the companies they were running.

Perhaps a little more common sense or standing back and seeing that there were some glaring inefficiencies feeding the bubble (rating agencies being a clear example - I'll be writing on that topic separately) would have stopped us getting so close to the systemic breakdown we now face.

I know that I'd prefer a 55yr old captain of my financial 747 if it encountered danger than a over-confident 28yr old with a first class degree in maths more concerned with getting over his hangover and wondering if Jenny Smith from payrolls is up for it. Perhaps Mr Soros, though wrong-footed at times is the Chesley Sullenberger of the financial world. Age, experience and an holistic approach to the capital markets is a breath of fresh air and I know who I'd trust in a crisis.