Washington Post: Boom, Bust & Aftermath Part II



Part II of the WaPo Real Estate & Credit series we mentioned yesterday is out today. A few excerpts after the jump will give you a flavor of the article.


The Bubble
Zachary A. Goldfarb and Alec Klein
Washington Post,  Monday, June 16, 2008; Page A01   html


"The housing boom had powered the U.S. economy for five years. Now,
in early 2006, signs of weakness within the subprime industry were
harder to ignore. People with less-than-stellar credit who had bought
homes with adjustable-rate mortgages saw sharp spikes in their monthly
payments as their low initial teaser rates expired. As a result, more
lost their homes; data showed that 70 percent more people faced
foreclosure in 2005 than the year before. Housing developers who had
raced to build with subprime borrowers in mind now had fewer takers,
leaving tens of thousands of homes unsold."


"As his team analyzed the individual loan files, Zimmer said he was
struck by evidence of fraud, such as doctored bank statements.
"Fraudulent loans were a big part of the subprime mess," he said.
Mortgage brokers forged borrowers’ signatures and pumped up their
income, he said. People seeking to buy and sell a home for a quick
profit lied that they were going to live in the home — qualifying for
a lower interest rate. But People’s Choice calculated that it would
have been too complicated and expensive to go after fraud, Zimmer said."

The Fed:

and others at the Fed still did not see how severely the troubles would
cascade through the economy. The chairman did warn Congress of
"significant financial losses" in the subprime industry, saying there
were "implications of this for financial markets." He was right. Within
days, Countrywide Financial, the nation’s largest mortgage lender,
announced that its profit had fallen by a third as more homeowners
defaulted. The Bear Stearns hedge funds that had invested heavily in
the subprime market went under. The largest bank in France, BNP
Paribas, suspended three funds that held mortgage-backed securities."

Financial Institutions:

the credit raters — Moody’s, Standard & Poor’s and Fitch, which
over time had become high priestesses of the global capital markets —
astonished investors by abruptly downgrading many subprime-backed
securities that they had previously blessed. The rating companies,
which assign letter grades to all kinds of debt issued by companies,
municipalities and countries, came under criticism from investors who
questioned whether they had issued rosy assessments because they had
been paid by the banks whose securities they rated. The credit raters
responded that they have procedures in place to prevent conflicts of

Banks and investors also questioned whether there were
hidden weaknesses in the broader market for mortgage-backed securities
and other complex investments, such as collateralized debt obligations,
or CDOs, which combined various kinds of debt.

As a result,
banks, anticipating their own losses, began to hoard cash and refused
to lend. The fallout: A major part of the machinery of U.S. capitalism
— the $28 trillion credit market that ensures big companies can pay
their employees and buy equipment by taking out loans — nearly shut
down. In August, the credit crunch sent the stock market into its most
volatile period since the Enron days."

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Discussions found on the web:
  1. cinefoz commented on Jun 16

    Just think. In a couple of years, the Washington Post or another fine publication will provide an analysis of the oil bubble and the ignorance and denial about it at the peak. The only unknown at this time is potential wreckage to investors. High, low, or none? To consumers, it is massive. How much involves crooks and how much is due to incompetent regulation of the markets, or lack of regulation to be more precise?

    I’m still asking, can anyone explain why oil is apparently in a supply shortage while products made from oil are not? If someone claims they are, then please identify the allocation issues. Unrefined oil is completely useless. Or is this type of analysis complicated enough to make the average person fade out because it contradicts what everybody already knows?

  2. Speculator commented on Jun 16

    You have all the dumbies on CNBC saying the credit crisis is over. Just before that you had Alan Greenspan and George Soros saying this is the worst problem we have had since the 1930s. I think the credit crisis is going to take years to get through and the easy credit we have had in the last 5 years with housing and the comsumer are never going to come back. That’s why I think it is smarter to be short.

  3. Mel commented on Jun 16

    There are supposed to be two regulators protecting the investor–the government and the rating agencies. They share principal responsibility–and none of the pain. Both are artificial entities , their “leaders” became very rich and powerful, and seemingly can’t be touched. Punishment is “off the table.”

  4. wunsacon commented on Jun 16

    >> I’m still asking, can anyone explain why oil is apparently in a supply shortage while products made from oil are not? If someone claims they are, then please identify the allocation issues. Unrefined oil is completely useless.

    Cinefoz, I expect/expected demand destruction in the US for at least a couple of years and thus avoided refiners. Here are my hypotheses:

    (a) Export Land Model (See theoildrum.com) Exporting countries want to retain more energy for themselves.

    (b) The rest of the world’s population uses oil more efficiently than we do. (Not when you measure in FIRE-economy-inflated US GDP figures, which are bogus. Instead, adjust by purchasing power parity. … Just a hunch. Don’t have time to investigate the figures.) So, even Americans would (unknowingly) prefer reducing their oil consumption so long as they can continue importing cheap goods from abroad. The gist here is: people who are more “profitable” than Americans on a per-barrel basis have the ability to outbid us for it.

    (c) Dropping dollar. Producers don’t want to part with their commodity unless they get more in return. Non-US consumers feel safer buying oil futures than dollar-based assets.

    (d) War premium: who knows what will happen if someone attacks Iran?

    (a) thru (c) mean “the oil is available” but “just not coming to the US”. US-based refineries are getting less product, not able to pass costs along, and thus cutting production runs.

    As Americans swap out their SUV’s for Priuses, driving will be cheaper again, even without the price of oil coming down though. Americans will have just made better use of what they get from the world market.

    When you look at the way Americans waste energy, this outcome is not unexpected.

  5. dave54 commented on Jun 16

    LIQUIDITY GLUTTONS: After the tech-bubble crashed, the Fed cut rates to historic
    (~40 year) lows. Investors/financial institutions could then raise huge amounts
    of capital at (for example) about 1% in Japan. They were then anxious to lend
    to the highest (A-rated?) borrowers, like the U.S. Treasury [e.g. the Carry Trade],
    or buy bundled tranches of what was considered safe residential mortgages.

    However, as demand soared for the higher yielding home loan securities, riskier
    (sub-prime) mortgages were blended into the mix, because (for awhile at least)
    it seemed like the big international banks [Citi, UBS, HSBC, etc.] didn’t care
    or were unaware.

  6. Estragon commented on Jun 16

    Mel – “There are supposed to be two regulators protecting the investor–the government and the rating agencies.”

    I think you forgot the most important protector of the investor… the investors themselves.

    Principal/agent problems are central to much of the mess. That people expect (and to some extent have received) “protection” from governments etc. is part of the problem.

  7. donna commented on Jun 16

    BB didn’t see… bullshit. What the hell did they think was powering the economy?

    When we will have an economy not based on asset bubble inflation? Haven’t seen one for years now…

  8. daveNYC commented on Jun 16

    Love how they keep saying subprime. Yep, it’s all the fault of poor people. Poor people and shorts.

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