View Full Version : Sub-Prime Mortgage Bail-Out??
I'm not a financial or housing guru - we've only had one VA loan that was for under $100k, so a lot of the vocabulary about ARM's and other types of loans in this whole mess is completely over my head. I'll be the first to admit that maybe I'm just not getting it. But I'd really like to understand.
So here is what I don't understand - why am I, as a non-mortgage holding taxpayer, about to help pay for someone else's mortgage when they got in over their heads because they wanted more house then they can afford? Don't all these bail-out bills that are flying through Congress basically amount to the taxpayer bailing out those who made really dumb financial decisions in the race to keep up with the Joneses? I do realize that there were many predatory practices occuring as well on the part of the lenders, but - shouldn't they be the ones being punished? I support any bill that punishes those companies and their practices. But on behalf of the homebuyers, what happened to natural consequences? There are all those "truth in lending" papers that say EXACTLY what you are signing up for (or don't those exist when you get these crazy loans?). You can't afford it - you lose it. Right?
I guess I also understand that there would be a ripple effect that if a lot of people lost their houses the economy would suffer... but if my taxes go up, that's going to hurt too and I'm going to spend less - and isn't that going to cause a ripple effect? A lot of this smacks of election time pandering. Especially the part where there is bipartisan support for these proposals AND it is sounding to me like there is a lot of equivocation and rationalization going on in the Hill hearings. None of this makes me comfortable or happy.
Here is one of the articles out today on the issue - there are others but none seem to be getting a ton of attention even though I think this should be a major issue for taxpayers.
Lawmakers: Subprime plan is no 'moral hazard'
By Nina Easton
September 21 2007: 11:31 AM EDT
(Fortune) -- Barney Frank and Hank Paulson and Ben Bernanke want everyone to know this: They are not engaging in morally hazardous behavior.
"Nothing being contemplated rises to the level," said Frank, Democratic chairman of the House Financial Services Committee.
"I don't see a moral hazard," said Paulson, Republican secretary of the Treasury.
"I see no problem," said Bernanke, independent chairman of the Federal Reserve Board.
All this moralizing was coming not from a pulpit but from a room on Capitol Hill on Thursday morning, where everyone was straining to ward off concerns that the Federal Reserve's emergency relief for borrowers was not going to foster reckless behavior or inflation down the line.
Two days after the Fed's decision to cut the federal funds rate by a dramatic half point, the House banking panel had convened for a hearing on how the federal government should further confront the credit crunch sparked by out-of-control lending on subprime home loans -- a crisis that has already rocked Wall Street and now threatens to slow the economy.
As political pressure mounts on Washington to act, both parties are eager to demonstrate their plans to "do something" -- but not too much. No one wants to be accused of bailing out greedy lenders or irresponsible borrowers.
"Fiscal subsidies to lenders would be a moral hazard. I see no problem in helping people refinance," Bernanke said in answer to Barney Frank's determined questioning to prove that this threesome -- lawmaker, policy maker, central banker -- was not "encouraging misbehavior."
This was an important moment because it showed that beneath the predictable Democrat-Republican sparring over the subprime mortgage mess, there is a rarely seen (these days) coming-together of both parties toward a fairly muscular but limited federal response to complement the Fed's recent actions.
At the agency level, it consists of a P.R. campaign to get borrowers and lenders talking to each other, in the hopes they can reach refinancing deals rather than defaults. "Fifty percent of foreclosures occur without the borrower ever talking to the lender," said Paulson. "The most crucial message we can send to borrowers is to call your lender or mortgage counselor today."
The Administration is also broadening the role of the Federal Housing Administration (FHA), which insures mortgages for low- and middle-income borrowers. And the Democratic House acted quickly on the White House request for further reform.
Sure, there remains disagreement. The Democrats want Fannie Mae and Freddie Mac to ride to the rescue, while Republicans worry that these twin behemoths, operating under a perceived government seal of approval, could reduce market discipline.
More broadly, Frank opened his hearing extolling the benefits of "sensible regulation," while Paulson fretted that impulse going too far: "Today's solutions should not create tomorrow's problems."
But a promising give-and-take has already started. Paulson made it clear he was willing to accept a temporary increase in the dollar value of mortgages Freddie and Fannie can purchase -- letting them operate in the "jumbo loan" market to improve liquidity -- but only until that segment settles down. He also called on Congress to enact reform legislation aimed improving oversight of both agencies in the wake of accounting scandals.
Earlier this week, the House, by an overwhelming 348-72 vote, passed legislation to allow the FHA to back refinanced loans from borrowers who had bought mortgages with low "teaser rates" that had converted to financially crippling interest-rate levels.
While the White House raised objections to a portion of the bill that would dramatically increase the value of mortgages the FHA can insure, HUD Secretary Alphonso Jackson on Thursday praised the House action. Frank, meanwhile, went out of his way to make clear that the differences "can be negotiated."
Frank repeatedly signaled that he wants to broker a solution. The only finger-pointing he did during the hearing was aimed at the Senate, where a slower acting banking committee has passed a more limited response. Frank wants a broader approach -- fast -- so he can begin House-Senate-Administration negotiations on a final bill.
But the politics in the Senate are complicated by its hefty pool of '08 presidential candidates -- not just Hillary Clinton and Barack Obama, but also banking committee chairman Chris Dodd, all eager to score political points with primary voters. That could slow down the process.
Lucky for Frank, there was only one Presidential candidate at his hearing Thursday, though this '08 prospect wasn't buying into the morality play Frank was eager to sketch. Libertarian Republican Ron Paul of Texas complained that "abnormally low interest rates" -- including the Fed's rate cut this week -- led to a morally questionable bailout of Wall Street.
"We talk about market discipline, but there's no possibility to have market discipline," the candidate declared. "What moral justification do we have to deliberately devalue the dollar?"
In response, the cautious Bernanke left his own moral high ground for the safer moorings of policy commentary on the ills of inflation: "I agree with you that an economy cannot grow in a healthy stable way when inflation is out of control."
The loudest voices seem to be the ones that say the bail-outs should be bigger and higher dollar. Which just seems absurd.
Activists not happy with loan fix plan
Community groups say Bush administration and Congress are giving too little help to troubled borrowers.
By Les Christie, CNNMoney.com staff writer
September 20 2007: 5:13 PM EDT
NEW YORK (CNNMoney.com) -- Many community groups had little good to say about Washington's most recent response to the subprime mess.
Speaking before the House Financial Services Committee Thursday, Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson outlined their plans to help out troubled homeowners.
Bernanke spotlighted the Fed's efforts: urging mortgage servicers to be more flexible in modifying unaffordable mortgages, partnering with neighborhood and community groups to provide counseling to borrowers and reducing interest rates to provide liquidity and free up mortgage and credit markets.
The Bush administration has proposed modifications to the FHA loan program so borrowers with adjustable loans that reset to higher interest rates can refinance into more affordable fixed-rate loans. It's also putting tax breaks on the table for borrowers who are forgiven mortgage debt.
But, according to John Taylor, chief executive of the National Community Reinvestment Coalition (NCRC), some of the initiatives discussed on The Hill Thursday will have some positive impact, but they don't go nearly far enough.
"You have people talking about the FHA program and saying it will help 80,000 people. That's a drop in the bucket," he said. "Even industry sources [such as Moody's Economy.com] say there will be 1.7 million people losing their homes."
"We have passed the point where piecemeal solutions can work; significant measures are necessary to give working families a reasonable chance to stay in their homes."
Taylor criticized government efforts in an area in which his organization specializes: advising troubled borrowers. "We have to recognize that not everyone can be counseled out of debt. For some, we need to reduce the actual debt obligation," he said.
Another fix on the table from Paulson was temporarily raising the limits on the size of loans that Fannie Mae and Freddie Mac may buy. Both the government sponsored enterprises currently guarantee the purchase and trade of mortgages that don't exceed $417,000 and meet certain underwriting criteria.
Continued:
http://money.cnn.com/2007/09/20/real_estate/community_groups_weigh_in/index.htm
If they raised the limits wouldn't that mean the taxpayer would ultimately be on the hook for these higher dollar mortgages if and when the homebuyer defaulted? I always thought Fannie Mae and Freddie Mac were around to back first-time homebuyers, "starters" and lower-income buyers. Does that really stretch into the over $400k market unless you are being very irresponsible?
The Reaper
09-22-2007, 17:52
I can understand a base system of welfare for people who truly get knocked on their rear-end due to unfortunate circumstances (for example the guy who pays his taxes, works hard, etc...but his house burns down and his wife is terribly burned and he has to sell everything he owns to take care of her, etc...) well in something like that, I can see giving Federal assistance.
I disagree completely.
Why is this a Federal responsibility, and where in the US Constitution does it grant the authority for the government to pay people for their own failure to plan?
I am pretty sure that it isn't in the Federalist Papers, either.
TR
TR--Well said Sir.
A personal responsibility, not a Federal one. If folks only looked into people's eyes...:rolleyes:
Holly
While many of these loan companies may give out loans that they shouldn't, they also provide a service in a sense IMO.
I mean, home ownership is something that can greatly benefit a person financially. What many of these companies did was to allow people who, traditionally, would never have been allowed to buy a home, to buy a home, and thus greatly improve their financial condition.
Unfortunately, people don't want to take personal responsibility and instead use the loans to purchase homes they cannot afford.
If the company is giving out loans to people who it technically shouldn't, I don't know if those companies should be punished. How much intelligence does it take to figure out if with your current income if you will be able to make the mortgage payments?
What's getting me (among other things about all of this) is that during the heyday MANY mortgage companies were saying things like -
- No money down
- 125% of the home's value
- "stated income" loans
and all of this lured in people who were otherwise unable to qualify for homes and really had no business buying homes, or buying in the market they were looking to buy. None of that greatly benefitted a person financially. Buying a home only benefits a person financially if they do it reasonably and unless I'm mistaken, none of these bail-outs are for the reasonable loan to the person who bought reasonably.
The mortgage company on the other hand was making BANK of off the interest and other fees. So now that the going is tough they want me to pay for everyone's stupidity. I'm not feeling so happy about it. This might sound harsh, but I don't feel the need to keep someone in a house they can't afford. I'd sure like to live in some of these houses.
What's getting me (among other things about all of this) is that during the heyday MANY mortgage companies were saying things like -
- No money down
- 125% of the home's value
- "stated income" loans
If it sounds too good to be true, it is. Amazing how many people ignored that simple little fact...and now we the taxpayers need to bail them out? Not so much.
The Reaper
09-22-2007, 20:09
However, I do believe there are instances where people can be truly knocked on their butts that they lacked the time to prepare for or simply couldn't prepare for. For example, if the husband and wife were both twenty-four years-old, I doubt they'd have had time to prepare for such an instance financially...?
Are you familiar with a product availale to the public called insurance?
Or should I expect the government to bail me out if my house burns down, or I wreck my truck?
TR
GratefulCitizen
09-22-2007, 20:40
The insistence upon government bailouts is the natural consequence of how children have been raised in recent generations.
Specifically, when children are protected from the natural consequences of their choices, they never learn from their experience.
When every kid is declared "winner" after the race, they never learn accurate self-assessment, nor are sufficiently motivated to improve.
When children are lavished with attention for being a helpless victim, and an attitude of helplessness is rewarded with immediate rescue, they never learn to overcome.
These attitudes become hard-wired.
A multitude of naive, deluded, lethargic, helpless victims are loosed upon society....
and are given the right to vote.
<edited for grammar>
Perhaps I can offer a different view on this.
The bailout purports to be helpful to borrowers, and this is true to some small degree. Helping people about to lose their homes is good political theater.
Actually, the problem lies in the derivatives market. To understand that issue better, let’s look at what happens with a mortgage.
An aspiring homeowner goes to a mortgage broker and applies. The mortgage is approved, and a fee is generated for the broker – which may be an individual, a bank, or a brokerage firm. The loan (mortgage) is then packaged with other loans and sold to investors. So far, so good, right? The purchasers of the package of loans have a responsibility to know the characteristics of the security they’re buying.
However, it’s possible to take a package of loans and put them together in a different way – for example, a CDO (Collateralized Debt Obligation). A CDO is broken into parts called “tranches”, which have different priorities for being repaid. Therefore, the highest quality tranch is paid before anyone else; however, they get a lower yield. Lower quality tranches get more yield, but accept more risk of not getting paid. The quality (or rating) is assigned according to a mathematical model created by the company selling the securities. Rating firms do not independently evaluate the model.
This gets far nastier. CDOs can be repackaged into new CDO securities (called CDO squared), and the new CDOs have tranches that, in turn, have different priorities for repayment. There are, as I understand it, CDO3 (CDO cubed) and CDO4 securities.
The problem? No one – not the Fed, not treasury, not the banks, not anyone – knows how to evaluate the securities. If someone wishes to sell them (or, for that matter, buy them), how does one come up with an appropriate price? It’s as if I strolled up and said I had a coin for sale, but couldn’t (or wouldn’t) provide other details. It might be a pure gold coin, of recognized type – or it might be a shiny penny. Unless you knew what you were buying, how could you possibly make a bid? So, to be safe, you’d offer a very low price. However, that means that the seller would take a horrific loss – and if the seller happened to be managing money for others, those clients (investors, whatever) would be quite unhappy. Lawsuits would be the order of the day.
Oh, but it gets worse. The derivatives are leveraged – a lot. So a small loss on the underlying security can completely wipe out capital. This happened to a hedge fund managed by a major Wall Street firm. By the way – state pension funds, banks around the world, and lots of other financial entities bought these things (CDOs and their cousins, CLOs).
We were, in fact, looking at a general failure of the global financial system. We probably aren’t out of the woods yet. I have been betting on inflation for some time, and it is developing apace. This is bad for the country – and devastating for the folks trying to live on a fixed income or a meager wage. If you think ammo is expensive, wait a year.
And if you want to look at the problematic aspect, ask what our national creditors will do as we debase the currency. Will they continue to hold trillions in U.S. debt securities, or will they sell? Will they continue to buy U.S. debt securities? Because if they sell (or even quit buying) long-term U.S. rates will go up a lot, no matter what the Fed does. If that occurs, times are likely to get hard.
Now….should the federal government bail out all these people? Probably not. Will there be a price to pay? Sure – massive inflation. Probably a weaker economy. But the consequences of not acting aren’t pretty either. So will politicians choose to defer the day of reckoning, even at the risk of making it worse? I’ll leave that answer to others.
Here’s a link for your reading “pleasure”.
LINK (http://www.thestreet.com/s/the-credit-crisis-could-be-just-beginning/newsanalysis/investing/10380613.html?puc=_googlen?cm_ven=GOOGLEN&cm_cat=FREE&cm_ite=NA)
Thank nmap!
I can't say I understood much more then about 50% of what you wrote on the first pass, but it's what I was looking for - I knew there had to be a lot more to this whole deal then what I was reading.
I think I'll take a bunch more passes at it and go to the link you suggested. This is clearly a very complicated issue.
My pleasure, Shar.
As you say, it is a complicated issue - one that's still developing.
If you want to do more reading, you might wish to consider a free e-mail newsletter I subscribe to. LINK (http://www.2000wave.com/gateway.asp)
The last two issues (Thoughts From The Frontline and Mauldin's Outside The Box) can be viewed at LINK (http://www.investorsinsight.com/)
The twist on all this - the one that takes the complexity up another notch - is the effect on our relations with other nations. For decades, Saudi Arabia has pegged its currency to the dollar; but with the latest rate cut, KSA decided not to follow the Feds lead. LINK (http://in.reuters.com/article/businessNews/idINIndia-29672620070923)
So, they're happy with increased oil prices, since the price increases offset the dollar decline. OK for them, perhaps, but maybe not so good for us. And does this connect with other developments in the Middle East?
By the way - food is subject to international trade as well. I think it is no coincidence that wheat is making new highs, as a hungry world buys U.S. grain.
My expectation is that we're going to see a crunch about May, 2008...
Eagle5US
09-23-2007, 07:31
My expectation is that we're going to see a crunch about May, 2008...
OK...So, I am a potential home buyer planning on purchasing a home between April and Jun of 2008.
Other than significantly complicating my mortgage experience...what does this mean for those of us who are responsible with our money and actually honor our word when we sign our name to a promissory note?
Eagle
Eagle,
For the "Good" homebuyer times could be great for you. If anything this will make your mortgage decision easier, there wont be 8 pages of programs to choose from, only 2 pages now. The Real Estate market is going to slow dramatically next year (National Assoc. of Realtors expects 25% less sales) and what is already a strong Buyer's market will become more so. You will not have to compete against other Buyer's looking beyond their means and if you can put down more than 5% and have good credit there are still plenty of great loans out there. Home sellers often need at least 6 months to realize the market has changed and need to offer more realistic prices for their homes.
Many in the industry still expect quite a few MAJOR lenders will be insolvent after the first qtr. next year so choose you're lender well and consider locking in your interest rate. Always keep in mind the long term and choose your next home with location in mind. There are still sub-markets that will appreciate in almost any area.
All this advice may or may not help if you live in Las Vegas, Arizona or any of the other "Bubble" markets.
Lanyard
Licensed Real Estate Broker in Colorado
Equal Housing Opportunity
OK...So, I am a potential home buyer planning on purchasing a home between April and Jun of 2008.
Other than significantly complicating my mortgage experience...what does this mean for those of us who are responsible with our money and actually honor our word when we sign our name to a promissory note?
Eagle
Eagle5US
09-23-2007, 11:56
Eagle,
For the "Good" homebuyer times could be great for you.
Lanyard
Licensed Real Estate Broker in Colorado
Equal Housing Opportunity
Well that's good to hear. We'll be buying in El Paso. Thanks for the good word:lifter
Eagle
82ndtrooper
09-23-2007, 12:40
I disagree completely.
Why is this a Federal responsibility, and where in the US Constitution does it grant the authority for the government to pay people for their own failure to plan?
I am pretty sure that it isn't in the Federalist Papers, either.
TR
Failure to plan, and crude sales practices is on the shoulders of the lenders, not the United States tax payer. Remember, any money the Federal Government has is not there's it's OURS !! We pay the taxes, and the democrats invade the social security system for welfare programs, but of course, there are no reasons to reform the social security system. Yeah, it's not broke. Not until I apply for it in 20 years.
I was asked about an adjustable rate mortgage some 5 years ago while standing beside a retail real estate salesman and his wife who wrote mortgages for his customers. They were both shocked that I told them they would most likely regret that decision in 5-6 years. His wife as it seems was selling adjustable rate mortgages like hot cakes, hence the reason for their additional prosperity.
One of my closest friends, married with one child did in fact refinance with an adjustable rate mortgage. Today they have two new cars, two jet ski's, a boat, and a new home. Not to mention the new Harley Davidson. 5 years later, their mortgage is now costing them more than it would have cost to have refinanced with a fixed rate.
Just this week they recieved their foreclosure letter. They are three months behind on the mortgage. They have no liquid assets, nothing to leverage another loan off of to pay the arrears, and are seeking help from family to pay their mortgage. Every thing they have is through a loan. If I were their family, I'd start by helping to list all their toy's in the classified adds.
I have no sympathy for stupidity, or materialism.
I have no sympathy for stupidity, or materialism.
Well said 82ndtrooper.
I was about to refinance our home with an ARM. After everything was said and done, they were going to tack on an additional $10,000 to the loan, only cutting the monthly payment by less than $100. NO THANKS!
People are so wrapped up in the "now" and all these materialistic things. They don't look at the big picture. (Or they see the big picture and they don't care) They are screwing themselves in the end...along with all of us honest taxpayers.
GratefulCitizen
09-23-2007, 14:03
Failure to plan, and crude sales practices is on the shoulders of the lenders, not the United States tax payer. Remember, any money the Federal Government has is not there's it's OURS !! We pay the taxes, and the democrats invade the social security system for welfare programs, but of course, there are no reasons to reform the social security system. Yeah, it's not broke. Not until I apply for it in 20 years.
This "failure to plan" is pervasive in American society.
I see planning (risk assessment) as involving 3 stages:
1. Known liabilities -- how much you know it should cost you.
2. Known potential liabilities -- bad luck that you can foresee.
3. Unknown potential liabilities -- bad luck that you can't foresee.
So often, people will get through stage 1 with a little wishful thinking and plow forward without any further planning.
Most wise souls will deal with stage 2.
Stage 3 is ostrich territory. No matter how unfair or unexpected, you're still responsible.
Prepare the best that you can.
Have the best SA you can.
(These lessons are taking slowly to my 15-year old. It seems natural consequences are the only teacher to which he'll listen.)
OK...So, I am a potential home buyer planning on purchasing a home between April and Jun of 2008.
Other than significantly complicating my mortgage experience...what does this mean for those of us who are responsible with our money and actually honor our word when we sign our name to a promissory note?
Eagle
I think you need to consider a number of issues.
First, is your income stream secure? Could a recession cause your job to evaporate? Is your income likely to keep up with inflation, or not? I don’t need to know the answer to such questions, but as a buyer you might wish to consider them.
Second, I’d urge you to get a fixed rate mortgage. An ARM might have a lower initial cost; it could, in principle, have a lower total cost than a fixed rate mortgage. That said, interest rates seem susceptible to an increase here. First, because of the inflationary factors mentioned previously; second, the demographic bulge of the baby boomer generation. With regard to the boomers, their investing habits may have been part of the reason for the 20-year “virtuous cycle” (strong stock market, low interest rates, high economic growth) that we seem to be exiting. The implication is that we’ll see a trend to higher rates from quite some time.
Third, be aware of the risk of inflation. There is a real risk that the value of the things we buy – food, gasoline, whatever – will increase significantly over the years ahead. This can lead to a crunch if someone has a big mortgage along with other bills. You’ll be glad to know that Texas is one of the national leaders in producing wind-generated electricity, so this may buffer you from some of the impact of high fuel costs. Also, Texas has no income tax – so local areas tend to tax properties aggressively. I would suggest not buying as much house as you can afford.
Finally, by May of 2008 I expect cash to be King, with good credit being nearly as good. Therefore, you’ll have the opportunity to hammer the sellers hard. A person on the verge of losing their house is more motivated to sell – and will sell at a lower price – than might otherwise be the case. Take a trip down to the courthouse and look at the foreclosure notices. If you have the time, attend an auction and observe – see what houses are going for. Realtors can be valuable contacts, and might steer you to a good deal – but it’s worth remembering that, per the laws of agency, realtors represent the seller. Except in the special (and rare) case where you (the buyer) directly compensate the realtor, any realtor you use will get partial compensation from the commission generated when the transaction is done. That means the seller is paying the commission, so all the agents involved in the deal are obligated to work for the seller’s best interest. Also, their commission is impacted by the price paid. Don’t expect them to encourage efforts to get the best deal. If my premises are validated, you can get a house for a really good price – if you avoid falling in love with any particular house and negotiate aggressively.
Good luck, and welcome to Texas!
Eagle5US
09-23-2007, 16:59
Good luck, and welcome to Texas!
A most excellent post! Thank you!
We had already planned on a fixed rate note and are already scouting homes off of the internet for a local contact (Realtor) is looking at for us. We are watching homes get discounted about 10K per month that they have stayed on the market. Not to say that any of the homes on our list (yes we have MANY potentials on the list) will still be there in 6 months...but we are trying to observe and look for patterns.
We have also found that Tejas taxes homes aggressively as you stated. But-it is what it is and we have loved Texas every time we have been stationed there in the past. This will, however, be our first home buying experience there.
Thank you again for a most excellent post.:lifter
Eagle
The way I see it the Mortgage companies were offering these Finance E-1 and up, LES Accepted as Down Payment home loans. People jump all over them. The Mortgage companies got rich and continue to do so. But instead of just the idiots who signed these loans making them rich, we all get to chip in.
On another note. Hillary's Heath care plan that targeted everyone making over $400,000 per year to pay for it. She calls that the Rich by the way. Just got lowered to targeting everyone making more then $250,000 per year. I guess $250,000 per year is considered rich now.
I guess in a few more months I am going to be rich also. I can't wait. Isn't getting a non fixed interest rate considered gambling. Is anyone who signs these loans actually surprised when they go up.
That sounds like a textbook example from the books Rich Dad, Poor Dad and The Millionaire Next Door, saying how people tend to buy liabilities instead of true assets
Thats a good one to use when you walk in with a new Gun.
82ndtrooper
09-23-2007, 18:09
Perhaps I can offer a different view on this.
The bailout purports to be helpful to borrowers, and this is true to some small degree. Helping people about to lose their homes is good political theater.
Actually, the problem lies in the derivatives market. To understand that issue better, let’s look at what happens with a mortgage.
An aspiring homeowner goes to a mortgage broker and applies. The mortgage is approved, and a fee is generated for the broker – which may be an individual, a bank, or a brokerage firm. The loan (mortgage) is then packaged with other loans and sold to investors. So far, so good, right? The purchasers of the package of loans have a responsibility to know the characteristics of the security they’re buying.
However, it’s possible to take a package of loans and put them together in a different way – for example, a CDO (Collateralized Debt Obligation). A CDO is broken into parts called “tranches”, which have different priorities for being repaid. Therefore, the highest quality tranch is paid before anyone else; however, they get a lower yield. Lower quality tranches get more yield, but accept more risk of not getting paid. The quality (or rating) is assigned according to a mathematical model created by the company selling the securities. Rating firms do not independently evaluate the model.
This gets far nastier. CDOs can be repackaged into new CDO securities (called CDO squared), and the new CDOs have tranches that, in turn, have different priorities for repayment. There are, as I understand it, CDO3 (CDO cubed) and CDO4 securities.
The problem? No one – not the Fed, not treasury, not the banks, not anyone – knows how to evaluate the securities. If someone wishes to sell them (or, for that matter, buy them), how does one come up with an appropriate price? It’s as if I strolled up and said I had a coin for sale, but couldn’t (or wouldn’t) provide other details. It might be a pure gold coin, of recognized type – or it might be a shiny penny. Unless you knew what you were buying, how could you possibly make a bid? So, to be safe, you’d offer a very low price. However, that means that the seller would take a horrific loss – and if the seller happened to be managing money for others, those clients (investors, whatever) would be quite unhappy. Lawsuits would be the order of the day.
Oh, but it gets worse. The derivatives are leveraged – a lot. So a small loss on the underlying security can completely wipe out capital. This happened to a hedge fund managed by a major Wall Street firm. By the way – state pension funds, banks around the world, and lots of other financial entities bought these things (CDOs and their cousins, CLOs).
We were, in fact, looking at a general failure of the global financial system. We probably aren’t out of the woods yet. I have been betting on inflation for some time, and it is developing apace. This is bad for the country – and devastating for the folks trying to live on a fixed income or a meager wage. If you think ammo is expensive, wait a year.
And if you want to look at the problematic aspect, ask what our national creditors will do as we debase the currency. Will they continue to hold trillions in U.S. debt securities, or will they sell? Will they continue to buy U.S. debt securities? Because if they sell (or even quit buying) long-term U.S. rates will go up a lot, no matter what the Fed does. If that occurs, times are likely to get hard.
Now….should the federal government bail out all these people? Probably not. Will there be a price to pay? Sure – massive inflation. Probably a weaker economy. But the consequences of not acting aren’t pretty either. So will politicians choose to defer the day of reckoning, even at the risk of making it worse? I’ll leave that answer to others.
Here’s a link for your reading “pleasure”.
LINK (http://www.thestreet.com/s/the-credit-crisis-could-be-just-beginning/newsanalysis/investing/10380613.html?puc=_googlen?cm_ven=GOOGLEN&cm_cat=FREE&cm_ite=NA)
Tranches, CDO's, CLO's and derivitives give me headache. They did in graduate school and they still do today.
You probably would have been better off explaining REIT's. Nice dividends, but the prices/valuations of the property's are no longer providing capital gains/growth.
Remember, banks love loans on the balance sheet. It is an asset not a dept and this is what is reported in 10Q and Annual Statements, and certainly the quarterly's. The more loans, the more assets to report. They'll take the risk in low interest rate climates, but not in high interest rate climates.
but it’s worth remembering that, per the laws of agency, realtors represent the seller. Except in the special (and rare) case where you (the buyer) directly compensate the realtor, any realtor you use will get partial compensation from the commission generated when the transaction is done. That means the seller is paying the commission, so all the agents involved in the deal are obligated to work for the seller’s best interest.
I think this was changed around 2005 or 2006. I think that, like Colorado, you can get an Agent that represents the Buyer exclusively. ( http://www.trec.state.tx.us/questions/faq.asp ) The Buyer's agent actually get paid (ususally) by the Listing Realtor. When a home goes into the local multiple listing service (MLS) the listing agent offers to share their commission with any agent that can bring a Buyer to the deal.