Credit default swaps the future of a New York Insurance Exchange?

Six months ago I wrote about the impending return of an insurance exchange to New York. Eric Dinallo, New York Insurance Superintendent, had discussed his wish to resurrect the exchange in Manhattan and to attract the worlds biggest insurers and reinsurers back to New York with the promise of capital markets trading. Now it appears that some of his plans are coming to light thanks to an interview with Sam Friedman of the National Underwriter.

The interview, on Sams blog, discusses Eric Dinallo’s desire to bring credit default swap (CDS) trading to New York under the umbrella of a new exchange. Dinallo argues that credit default swaps could be treated as insurance rather than investments, which would subject them to tighter capital adequacy standards and solvency rules. He believes they remain useful risk management tools as long as they are subjected to the correct oversight.

It’s an interesting proposition. While credit default swaps came close to bringing down the financial markets as we know them, after they nearly destroyed AIG and others, they do have a place in a risk management arsenal when used with prudence. Treating them as insurance is an interesting statement; insurance guarantees a payout (in the event of disaster), when treated as investments these instruments imploded when subjected to disastrous conditions leaving no recompense for the investors.

What do you think? Would a New York Exchange be better advised to try and become a center of excellence for insurance-linked security trading or are credit default swaps a viable alternative market under the right regulatory controls?

Read the full interview here.