Comments on: Subprime Problem Explained

By: Math Impaired : Productivity501

Math Impaired : Productivity501 — Thu, 21 Aug 2008 13:30:36 +0000

[...] had their cars repossessed and use that as a list of potential clients. (I’ve written a more detailed explanation of the subprime mess in a previous [...]

By: Marc

Marc — Tue, 08 Jul 2008 12:06:36 +0000

Another critical point that could almost be seen as the big bang of the housing bubble is the explosive growth around the world. The boom in many parts of the international market has not only created enormous amounts of wealth, but that wealth is highly concentrated in high net worth individuals and foreign wealth funds. With the funds they have sloshing around, the directed money management resources available to them did not do a good job at investing broadly and deeply, leading to enormous pressures on the international financial markets to “find” them places to invest their money.

With lax lending regulations, thanks to congress, US and other financial houses were giddy to “find” places for the sloshing money to seep into their system. With immense profits to be gained from money being pushed down the pipe, ethics and rules fell by the wayside. The system thus gave birth to sloppy pass-through and collateralized mortgage backed securities that were swapped and combined with the zeal of a fool. Along with the careless lending regulations, the low interest rates the Fed was pushing to spur the economy was nothing more than grease on the slip and slide

Historically speaking, US house prices have appreciated around the 3-5% mark. If your house has appreciated more since ~2003, then you might want to consider that you could be in real trouble!

By: Tom Peck

Tom Peck — Tue, 19 Feb 2008 14:39:55 +0000

Good explanation of how mortgages are converted into securities that can then be resold to investors.

I would add the role that the rating agencies and analysts played in all of this. Using mathematical models (which we now know were deeply flawed), the various buckets in your example were given very high ratings (AAA, AA or A grade). Even the red bucket got a high rating.

This allowed very large investors, such as state pension funds, to purchase these securities, since they have rules that only let them buy safe investments. With the stock market in the doldrums and interest rates on CDs very low, these mortgage backed securities looked like a good, safe investment. The money started pouring in.

This resulted in pressure on the mortgage companies to generate more of the stuff to meet demand. That is what led the mortgage companies to relax their lending standards and make more and more sub-prime loans.

Now, many of the loans have gone bad. As your bucket example clearly shows, the people owning the red bucket will get nothing, even the yellow bucket looks dangerous. As you point out, the actual ownership of the mortgage is in doubt, so the investors don’t even have the traditional fallback position of seizing the house.

I think you are wise to stay out of the real-estate market for a while longer.

By: Aaron

Aaron — Tue, 19 Feb 2008 12:43:16 +0000

Another reason why this whole mess is happening is because Congress required lenders to give loans to high-risk borrowers.

Many high-risk borrowers + variable interest rates = many defaults