[quote=partypup]Maybe I’m missing something, but this whole making-money-on-IOUs scheme would seem to depend on CA’s continued solvency.The state’s debt rating was just downgraded this week to a couple of notches above junk. Doesn’t this concern investors? I wouldn’t touch any IOUs issued by a subprime borrower, which is what CA has now become.
What happens if, on Oct 2, Arnie announces that CA has exhausted its ability to borrow and roll over existing debt. If you were “entrepreneurial” enough to lay out 5K of your hard-earned cash for 7K in IOUs, you’d find yourself holding an empty back.
Coincidentally, the U.S. fiscal year begins Oct 1. If the U.S. has trouble raising $1 trillion for its gaping deficit (and all signs are now pointing to a failed auction in the coming months), how do you think that will bode for CA’s ability to borrow?
Oh, and if the printing presses are going 24/7, I very much doubt a measly 3.75% return will be worth the energy and effort involved in this operation.
Bottom line: we won’t really know which way the wind is blowing for the feds or the states until this Fall. If one domino starts falling, they all will.[/quote]
Actually, the funny thing is as follows. IF people feel CA IOUs is “stable”, there really isn’t an opportunity to make money off of this…Because holders of IOU will just either hold on or sell it to someone that would buy at a slight discount (folks currently offering par value or slightly below par)…However, IF CA does end up in junk status, then you would probably have a lot more holders of these IOUs all the sudden freaking out… Sell sell sell..That’s where you end up getting your deeper discounts. In that situation though, the question one needs to ask is as a buyer of these IOUs, how much are you willing to risk the money you put into these IOUs when CA is rated at junk status. If you have say speculative money, just figure you risk not getting it back. As such, I wouldn’t recommend putting your entire life savings in this one basket.
In any investment, if there is no risk, there is no reward. Therefore, if you take on risk, the reward (or potential reward) must adequately compensate folks for taking that risk… Hence why I said folks asking just par value of these things is not properly considering the inherent risk if CA does default.
It’s a moot point though IF they decide to classify these IOUs as a security
