David Kotok: Gold & US Credit Default Swaps in Euro
- 28 minutes ago
- 11 min read
August 3, 2026 | In this issue of The Institutional Risk Analyst, we feature a conversation with our colleague and fishing partner David Kotok. Some 25 years ago, David asked us to come fishing on West Grand Lake in Downeast Maine and we’ve had a conversation ever since. He is an American financial expert, economist, and author best known as the co-founder of Cumberland Advisors, where he served as Chief Investment Officer from 1973 through 2024. David holds degrees from the University of Pennsylvania’s Wharton School and School of Arts and Sciences.
West Grand Lake (June 2026)
This weekend, we updated the WGA Bank Top 50 listing for subscribers to the IRA Premium Service. The chart below shows some of the distribution of the top US banks by market cap starting with the highest scoring banks on the left side of the chart. The top score in the 102 bank test group for Q3 2026 was State Street (SST) followed by Bank of New York Mellon (BNK) and Charles Schwab (SCHW), the last of which we own in our portfolio.
The WGA Bank Top 50 | Q3 2026
Source: WGA LLC
One bank was acquired and three small banks were added to the group in Q3 2026. Subscribers may download the list for the full 102 bank test group on the Top Rankings page. Banks in the US tend to report earnings in the first couple of weeks after the quarter close, while nonbanks and corporates tend to release earnings later in the reporting period. You might say that the more obscure and complex business models hide in the back end of the 45 day reporting period.
The IRA: David, thank you for reaching out. You made some interesting points about the correlation between gold and other markets that Keith Weiner talked about in his interview (“Interview: Keith Weiner, Founder of Monetary Metals”). One of his key points is that it’s hard to convince large investment institutions to allocate gold to accounts because it doesn’t have a yield and behaves as a commodity at times. At other times, it’s a monetary asset. But it’s hard to benchmark gold. I’d love to hear your thoughts on this point and the larger issue of gold as an investment asset.
Kotok: Thanks, Chris. Always a pleasure to connect with a fellow fisherman and Leen’s Lodge veteran. I sent you way too much information with those 12 charts. I could have sent you a hundred, but I wanted to be kind. But there is a useful tool or benchmark for thinking about gold. This is an obscure market for American investors. Very few use it or look at it. It is the credit default swap (CDS) on the United States of America. The contract only applies to Treasury debt, not agency debt. There is a set of ISDA criteria to govern when they declare default. There has never been a default, but there have been close calls.
The IRA: At least not since WWI. We won’t go back any further.
Kotok: The CDS contracts on the US that have the most validity are priced in euro, and the trading is in Frankfurt. There’s a minor market in US dollars, but I ignore it. It doesn’t make sense to price the sovereign default risk of an issuer with its own currency. That makes no sense to me, but in America we have things that people do which don’t make sense as you and I have observed over many, many decades. So, I look at the CDS on the US denominated in euro. And there are three contracts: a one-year, five-year, and a ten-year CDS on a default by the US. And they are notional derivative contracts. I think of it as a form of credit insurance just like that credit insurance people use for municipal bonds. When we are not experiencing a debt ceiling political fight or not experiencing a shock of in Treasury finance, the size of that market is in the few billions.
The IRA: The size of the CDS market varies with the dysfunction of American politics, so that makes volume in US CDS in euro a very interesting indicator, especially when it comes to gold.
Kotok: Absolutely. You can see the reaction function in real time. When a certain politician attacks the Fed’s independence, the CDS price change is immediate. Every political event triggers a reaction. And the size of the market can quickly double or triple. So, it becomes measurable in trillions instead of billions. Remember, this is a credit insurance contract that focuses on the entire amount of outstanding Treasury debt. Currently, we are in the period between debt ceiling crises and the attack on the Fed by President Trump. The US CDS has calmed down after the Supreme’s decision to single out the Fed as a unique federal entity that is protected from POTUS executive whimsy. And so, the tradeable volume is back in billions, and pricing of CDS is less volatile. I use Bloomberg for source data on CDS. It’s the best composition and compilation and it’s consistently done. And so, right now, we’re in the billions and calm.
The IRA: Even with the almost daily “look at me” outbursts from President Trump? That is surprising.
Kotok: I was also surprised. But CDS is binary. We either default or we don’t. And the users are sophisticated international institutions. I believe they ignore the verbiage and crazy middle of the night social media postings. We either pay or we don’t. That is all the CDS players care about. If you look at the CDS chart, you can see the price reaction in the market-based price of a contract. It is simply a change in price of default risk insurance on America. Note that the market-based pricing mechanism says the risk is not zero anymore. It is small but it is not zero. That is the market’s opinion. You can see that in the one year contract when the debt ceiling fight ran down to the last minute. The Treasury General Account (TGA) at the Fed was under a hundred billion. In the eleventh hour, the one-year CDS traded over 100 basis points. Market agents were paying up for the protection. And remember, the agencies are not covered here. This is only about default on US Treasury debt.
The IRA: Noted. The Treasury is getting ready to end the isolation of the Treasury General Account within the Fed and offer the cash out to the repo markets, a rather telling commentary on the state of things. Makes sense in terms of market liquidity, but illustrates irrelevance of the Fed in terms of US interest rate policy. Prior to 1921, the Treasury used to keep public cash deposited in banks, but we digress.
Kotok: So, what I’ve done is to construct a term structure history of CDS starting with the Great Financial Crisis. My baseline is the Great Financial Crisis period. If we were ever going to have a shock test level of CDS, that was it. In my opinion, any earlier history is not relevant. At that time, in 2008, or thereabouts, the term structure of CDS, whether it was one year, five-year, ten year, was flat. And if you look at that pricing in 2008, it was six or seven or eight basis points. Single digit basis points. In other words, markets were not pricing a possible default in any meaningful way.
Source: Bloomberg
The IRA: The spread has widened since then. But very few Americans even know that there is a market price for American default. If you and I were to line up 100 Wall Street Journal reader-level investors and ask them, how does a derivatives contract settle on the credit default swaps of the United States, at least 99 would fail the test.
Kotok: Yes. Maybe it is the obscurity that makes the CDS in euro so valid? The settlement provisions, if there ever is a default, are very clear but very intricate. And therefore, they have a cost. Because you need to settle with a certain Treasury security, there is a baseline settlement cost structure. In a US Treasury secured structure for US sovereign CDS, that settlement provision is maybe the six or seven or eight basis point cost. You must deliver a specified Treasury security. It’s defined very clearly by ISDA. So, we have a floor. CDS on the United States will never trade at zero.
The IRA: So how does your work on US CDS relate to gold?
Kotok: We can use the CDS pricing to estimate the probability of a US default. More importantly, since we have a term structure of CDS, we can measure the pricing of time to default. And that’s why a 10-year CDS is now 50 basis points and the five-year is, let’s say, 40 basis points, and the one-year is 20 basis points. The term structure is no longer flat. It is upward sloping.
The IRA: Right. Nobody in Washington wants to talk about the federal debt.
Kotok: So, if you subtract the roughly six or seven, eight or nine basis point noise for a settlement cost from the CDS price, the difference is the embedded cost of the credit risk or credit insurance on the United States of America. And you have four charts from me which show the one-year, five-year, ten-year CDS with annotations to show the price volatility. And the fourth chart above compares present day with 2008.
The IRA: The sellers of CDS are those large institutions that hold in portfolios a sleeve of US Treasury debt. They own various maturities, and they have allocations, and they have their own risk management systems. Large sovereign wealth funds allocate more or less along the lines of the distribution of global reserves held by central banks. So, the US is maybe fifty-fifty-five percent of global reserves these days.
Kotok: Correct. So, that’s why I use the euro CDS. Now what did I do? I took the CDS pricing in euro and then I tested it against the gold price in euro because I had to get to a common currency. And I said, well, what happens here? Is there forecast power from this term structure of CDS? And the answer is yes.
The IRA: So, there is a useful benchmark for gold, but few people in the US ever think outside of dollars. How did you test your results?
Kotok: What I found was the CDS pricing for a US default suggests a future change in the gold price. CDS pricing is a leading indicator of gold. But remember, relationship is denominated in euro, both items, not dollars. Naturally, I wanted to look for causality. I wanted to run Granger. But you know, causality is a bad word. I don’t like the word causality. It’s a mathematical term. It doesn’t say A causes B. What Granger Causality says is if something happens, we can establish a probability that something else will follow. We do not know why. Granger says here’s the likelihood of the linkage. It means every time this happened, this followed, so we can have some probability as to how much. If Granger is one, then it happens all the time. 100%. If Granger is minus 1 it never happens. If zero it is a coin flip.
The IRA: And what was the result?
Kotok: With the CDS term structure denominated in euro to forecast the price of gold denominated in euro, at intervals from three months out to 22 months, I found Granger of about 0.6.
The IRA: Impressive. That is a very strong mathematical number. Very strong. It says sixty percent of the time you’re going to be right.
Kotok: Yes. And I have a period of between 3 and 22 months where Granger is high before it starts to fade. Well, the interesting thing, you know, to Keith’s comment is that for an institutional guy, if you show him this, he will say, “Great, you have causality.” How does that make them include gold in their bucket for their clients?
The IRA: And?
Kotok: The conclusion I have is that this is not short-term trading vehicle. What it tells you is that reactive functions with gold are driven by forces quite different than other types of asset classes. And we already have a sense of that. But they are there. And they are in an intertemporal relationships which have a quite different time span than typical traders are accustomed to observing.
The IRA: Western traders are impatient. They want to know when the gold price is going to go up tomorrow so they can buy it today and they want to sell it. Americans are like that, David. The rest of the world is not. The rest of the world cares about US default and they are long-term holders of gold because they are worried about US default. I think that is what you’ve hit on here.
Kotok: Well, that’s exactly well said. But there’s a second element to it. We have a market-based pricing mechanism. So, we can make assessments of what those folks think, not by what they say, but by how they act when they set the price of the buy and the sell and come together with a price. And the CDS price gives us a pricing reference for credit insurance on the United States. And what do we know about it? We know as you go out in time, the price goes up. We know that we have a directional curve. We know we have a unit-based price per year because we have one, two, three, four, five years. We can interpolate three points and make a term structure. And we know it has mathematical efficacy because Granger is not zero, it’s a positive number.
The IRA: So, based upon the CDS curve for credit default swaps on the United States priced in euro, institutional investors should be allocating to gold? We agree with that position, but most Americans never think of their investment horizons outside of dollars. The progressive project of FDR to brainwash Americans into thinking of fiat legal tender dollars as equal to gold succeeded, which is why we are working on a new book on gold. What is the basic message we should take from your work?
Kotok: Chris, it’s very strong math. What it says to me is every manager of institutional portfolio -- every institutional portfolio -- has to think about holding some gold. If they want to protect themselves against extremes of default risk, some allocation must be made permanently to gold. Now, should it be 3% or 4% or 5%? I don’t know. We can do what the europeans are doing and go 50% into non-dollar assets. In other words, we are in dollars. So, the only way to address US default risk is for us to own gold or something else. Because for us to own the CDS in dollars, you know, it doesn’t work. But for us to use the CDS in euro price for guidance tells us what the rest of the world thinks about us. And that is critical.
The IRA: No, owning dollar CDS to protect against a US default sure doesn’t work. But the euro CDS forecasting power with respect to gold is fascinating. Thanks David.
We’ll be featuring the rest of our conversation with David Kotok about dollars, gold and Chinese yuan in our upcoming book, which will be serialized in The Institutional Risk Analyst later this year.
The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.