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The key is that investors need to know the truth about the risk level of the loans they're buying. That's where Fannie and Freddie screwed up. They misrepresented over $1 trillion worth of mortgages as low-risk when they were not. Cue the 2008 financial crisis...
Risk is relative. Are FHA and VA loans riskier than a loan with a 20 year down stroke? Does the FHA /VA insurance mitigate some of that risk? Were FNMA/FHLMC standards a secret?
Wall Street and institutional investors had/have the ability to see the quality, lack thereof, of underlying mortgages, in any pool. We are not talking about unsophisticated general public, here.
As the bubble inflated FNMA/FHLMC's market share substantially declined because many of the loans being written did not qualify.
As the balloon busted, the repayment of all mortgages became less certain.
Here's a simple example:
Homeowner made a 25% down payment and he remained current with his payments. The market value of his home appreciated to the point he now had a 50% equity stake. He decided to withdraw the equity on his home and found a lender willing to lend him the value of the 50% equity stake. For all intents and purposes, this owner no longer has any equity in his home. No problem because the homeowner assumes he will continue to see double digit annual appreciation, forever.
Except, that's not what happened. His local market tanked and he now owes 2 different lenders more than the property is worth. The homeowner believes he got screwed. He stops paying his mortgages. The property is in a judicial foreclosure state and it takes 27 months to foreclose. In the interim, homeowner continues to live in the home and does not pay his mortgage/taxes.
Once foreclosed, he decides to stay put until he is offered cash for keys or the bank gets a court order to evict him. The bank chooses the former and pays him $5000 to leave and not put dead fish in the walls.
The homeowner essentially stole the proceeds of his home equity loan, lived rent free for 3 years and got paid to move out. And non of this had a darn thing to do with FNMA/FHLMC.
This situation repeated millions of time across the U.S.
Yeah, but those were mostly sophisticated investors and they were eyeing "easy money" from these. GE got into them bigtime and got burned. Hard to feel sorry for them.
Any number of experts were warning about their quality way before the collapse too.
Data on the underlying loans within any FNMA/FHLMC pool were available to Wall Street and all investors. Wall Street used this data to mine, slice and dice mortgage pools into new investments they created.
We are talking about the most sophisticated investors in the world.
quote:
So what is a bank to do? Well the answer is as simple as it is worrying – just sell the risk. Get rid of it.
Exactly. They were unloading crappy loans to Fannie and Freddie because the GSEs were obligated to buy them under HUD's blatantly unrealistic Affordable Lending Goals. http://www.huduser.org/publications/pdf/gse.pdf
Then when the GSEs had the crappy loans, they sold them as MBS securities issues, but didn't disclose the fact that they were high risk loans.
Subsequently, when the dominos started to fall and because the GSEs were quasi-U.S. Government agencies, the worldwide investors expected the U.S. Government to guarantee the investments. And so, the U.S. Government did:
How could that not do anything other than implode, given the GSE's HUGE presence in the secondary mortgage / MBS-issuer market?
We have three very different investment products, here :
1) MBS pass- thru certificates guaranteed by FNMA and FHLMC sold to Wall Street, and
2) FNMA and FHLMC's portfolio of investments of their own capital some of which included substantial positions in private label MBS rated AAA by the independent rating agencies guaranteed by the likes of Bear Stearns, and
3) FNMA and FHLMC's own corporate stock traded on the NYSE and bought/sold by the general public and institutional investors.
The lion's share of their respective capital was not diversified and instead concentrated in the housing market, a lousy investment strategy.
As the air began to leak out of the housing bubble, #2 was the first to blow. FNMA's and FHLMC's own capital evaporated because they chose to invest in junk which destroyed #3. Without capital, their guarantee of #1 was worthless without the mother ship.
With all the noise about the bubble, so many assume that every home in the U.S. was distressed.
The worst of the bust was concentrated in several geographical areas throughout the country. Some markets were hardly impacted. And some of the markets hit hard have recovered, and then some.
We have three very different investment products, here :
1) MBS pass- thru certificates guaranteed by FNMA and FHLMC sold to Wall Street, and
2) FNMA and FHLMC's portfolio of investments of their own capital some of which included substantial positions in private label MBS rated AAA by the independent rating agencies guaranteed by the likes of Bear Stearns, and
3) FNMA and FHLMC's own corporate stock traded on the NYSE and bought/sold by the general public and institutional investors.
The lion's share of their respective capital was not diversified and instead concentrated in the housing market, a lousy investment strategy.
As the air began to leak out of the housing bubble, #2 was the first to blow. FNMA's and FHLMC's own capital evaporated because they chose to invest in junk which destroyed #3. Without capital, their guarantee of #1 was worthless without the mother ship.
With all the noise about the bubble, so many assume that every home in the U.S. was distressed.
The worst of the bust was concentrated in several geographical areas throughout the country. Some markets were hardly impacted. And some of the markets hit hard have recovered, and then some.
Here's what the SEC had to say about it:
Quote:
"The Securities and Exchange Commission has charged six former Fannie Mae and Freddie Mac executives with securities fraud alleging that the executives knew and approved of untrue or misleading statements regarding the companies' exposure to risky investments such as subprime loans. As part of the indictments, Fannie Mae and Freddie Mac have signed Non-Prosecution Agreements with the SEC whereby the companies agreed to accept responsibility for their actions."
Its not about the various bad actors in the scenario and greed at the banks, government corruption and consumer greed etc.
Do you feel blame is solely the cause of predatory lending? Predominantly?
I don't.
Neither do I. The root cause was HUD's entirely unrealistic affordable lending goals (posted earlier in this thread) imposed on the GSEs. Six GSE executives actually had to lie to continue the viability of the GSEs under HUD's affordable lending edicts.
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