How risky US home loans caused global tremors

[rodeodance]

Source: afp




How risky US home loans caused global tremors

by Adam Plowright 2 hours, 33 minutes ago

PARIS (AFP) -

........The human face of the current financial crisis is likely to be a low-earning American, possibly someone who took on a mortgage they could ill-afford and whose mortgage broker did inadequate checks on their ability to repay.

The link between these people and turmoil in financial markets involves a piece of financial trickery that has enabled banks and funds all over the world to make investments that are essentially bets on borrowers repaying their mortgages.

Funds looking for a high-risk, high-return investments have bought unknown numbers of innovative securities called mortgage-based securities (MBS) or asset-based securities (ABS), and their variants such as collateralized debt obligations (CDOs).

Questions about the scale and scope of these investments -- i.e. who has bought them and how much are they exposed -- is behind the volatility on world stock markets with investors waiting to see who has been caught short......

Read more: http://news.yahoo.com/s/afp/20070810/ts_afp/marketsfinanceworld_070810164849;_ylt=AmJ2lhvxdCLprmYPyim9jmqs0NUE

[closeupready]

1. How do mortgage-backed and asset-back securities work exactly?

I've always been curious how people make money on these arragements? Anyone even know?

[Fresh_Start]

3. Financial institutions get their money upfront

by selling the ABS instead of having to wait the life of the loan (30+ years in mortgages)

The ABS gets the stream of payments coming from the portfolio of loans included in the security.
If loans go bad beyond the expected rate, the purchaser is screwed cause they don't get the income stream expected.
If prepayment beyond the expected rate occurs, the purchaser has assumed the prepayment risk.

[closeupready]

4. What financial incentives exist to purchase such a security?

What financial incentives exist to sell them? That's probably where the ugly stuff lies.

[Fresh_Start]

9. long term higher interest rate return

than less sexy securities

[sam sarrha]

2. did the Bush Crime Family make special deregulations to achieve this mess

[David__77]

5. Only a housing depreciation can correct this in the long run.

We're seeing the beginning of that.

[onager]

6. Some good articles on this bubble...

I was curious about what happened, too. It was the Usual Suspects, the Wall Street yobbos who created an exciting new "product," in their own terminology.

Basically they sold packages of mortgages, in three tiers. Leaving out the usual Wall St. jargon, they were packages of low-risk, medium-risk and high-risk mortgage debt belonging to you, me and John and Jane Q. Public. Those packages were "sliced up" and offered as investments.

If you can guess which tier triggered the meltdown, you're probably (over)qualified to run a major investment bank or hedge fund. Send your resume to Neil Bush immediately!

But the experts can explain it a lot better than me. Business Week has a great long article (5 pages) explaining it all in plain English, but I couldn't find the article.

I really love this one, from The Economist:

THE symbolism is almost too perfect. According to TheStreet.com, a financial website, John Devaney, a hedge-fund manager, has put his 142-foot yacht Positive Carry up for sale, along with his 16-bedroom mansion in Aspen, Colorado. Funds run by Mr Devaney's group, United Capital, have had to halt payouts to investors after making heavy losses on mortgage-backed bonds.

Ironically, Mr Devaney's early life pointed to the excesses that were to come. He used his student credit card to buy a house, on which he took out a second mortgage...

http://www.economist.com/business/displaystory.cfm?story_id=9587542

But don't expect the lenders to castigate homeowners for taking on too much risk. "It's tremendously un-PC to say this, but this entire circle of blame starts with individual borrowers who wanted more for less, wanted it big, and wanted it now," says Mason. "They got greedy."

http://news.yahoo.com/s/bw/20070730/bs_bw/jul2007pi20070726003656

CDOs are pools of debt instruments -- such as bonds or loans -- that are repackaged into different slices carrying various levels of risk. These slices, or tranches, are then sold to investors such as insurance companies and hedge funds. Managers hold most of the underlying debt until maturity, while monitoring and sometimes trading the securities.

http://online.wsj.com/article/SB118610257427186861.html?mod=most_viewed_markets24

[cliss]

7. "Caused global tremors."

Caused? This is isleading. The wording makes it sound like it's in the past tense, it's over Whew thank God we can sit back and relax it wasn't so bad after all honey.
Not.
The tremors have just begun. This is the Perfect Storm, which is going to suck in most countries around the world because they are all interconnected.

It's just the first raindrops, baby.

[clayton72]

8. Uhh...

I find it hard to believe that the situation is all that bad. Yes, a number of folks out there took out loans they shouldn't have, but even if they walk away the institutions still get the house. And what percentage of the economy are we talking about here? Yes, this is causing jitters right now and may trigger an adjustment to the bullish market, but I don't think words like collapse are appropriate.

[neuvocat]

10. Foreclosures in May were at 90%.

Last month the foreclosure rate was 550%. Not 50, 550.

[acmavm]

11. Adam is weaseling a tad in this article. Especially this part...

<snip>

"...and whose mortgage broker did inadequate checks on their ability to repay."

<snip>

The problem is these brokers, and there were some established big boys paying in this game, didn't friggin' care if they could pay or not. I am thinking about a temp job I had for over 9 months for a title company. The title company was tied to a big financial institution. I didn't do title searches, I just entered info in the computer. And while doing that I 'noticed' something really whacky. Not only on new mortgages but on refis, people were getting loans for HUGE (to me) amounts of money. And they were getting those whacked balloon payment loans or the ones that required a huge payment at the end of the loan. And the few I knew didn't have jobs that paid that well. I mean, these people were local. I knew a few. That's the only reason I was confused as to how they were getting all that money and how they were gonna pay it back.

And some were immigrants. The couple I knew of were legal immigrants who had jobs weren't of the type where they could pay off a low six-figure loan (anymore than I could). It seemed like they were being taken advantage of big time. And then there were the scams like the ranch house down the street next to Fred the mailman. About four families went in and bought it (and most of them all still live there). Here, that's not legal to have that many people sharing a single family dwelling.

I know that greed caused a lot of people to take out loans they couldn't afford. But these mortgage brokers knew it too. And they encouraged it.

What I resent about all this is my house increased in value by 30-some thousand dollars in just one year tax-wise. And I know damn good and well the bastids in this county are never going to re-evaluate it back down again now that the bubble has burst.