CNBC just reported that the Lehman debt has been valued at 9.75%. This means that companies that sold CDSs covering Lehman debt will owe 90.25% of the debt they insured. This amounted to around $130 Billion (I think). If this cascades, there have been reports that $400 Billion is being held in reserve by those that wrote the CDSs. Unfortunately, there are more CDSs written than there are bonds, so you cannot estimate the cost of the CDS losses just knowing the cost of the debt. If the losses get near that $400 Billion, then the CDS market explodes. I’m hoping the losses are around $100 Billion. Again, there’s no way to estimate the CDS losses from the amount of debt, because firms were not limited to a single CDS contract for their bonds. They could buy an unlimited number of CDSs to cover their bonds. As an analogy, imagine holding 6 auto insurance policies on your car, but in the event of an accident, all of the policies paid out the full amount. So a $1000 fender bender would pay you $6000. This bizarre multiplier effect is what has so many people scared of the CDS market.

UPDATE

Now I’ve heard that the CDS auction involved $400 Billion. The estimate is $360 Billion in payouts. That’s really close to the estimated reserves. Now it’s time to net the losses (some sellers of CDSs were also buyers, so the number may be substantially less).