Merrill Making a Big Bet on Mortgages

"They probably have two of the best rolodexes on Wall Street in credit markets trading," Callahan says.

Nierenberg and De Mare declined to comment, and Thomas Montag, who heads Merrill's trading business and is possibly its second most-important executive after CEO John Thain, did not respond to a request for comment.

Whether there will be an appetite for the type of hedges Callahan describes remains to be seen.

Because the securities require so much work to understand, hedges are not easy to find or create, says Janet Tavakoli, another fixed-income consultant. The most effective hedge involved shorting the ABX index, which tracks mortgage securities, but it has fallen so far it is not clear that shorting it is a wise strategy anymore, she says.

"Traders moving around? You're really just rearranging deck chairs," she says. "Those are the same traders who didn't have a clue in the first place, they don't have more of a clue now, I assure you."