So its 1:15AM Monday morning, I've gotta get up for work at 7:30 and have finals to study for this week. BUT some interesting stuff came up in a forum tonight and so it shall be written.
Tonights topic: The Subprime Mortgage Fiasco
It's all a big, convoluted mess and my knowledge is definitely limited but I'll try to break it down. (Disclaimer: i'm not an expert or professional, just an amateur with a bizarre obsession for this kinda thing and i'm probably not telling the whole story or telling it exactly right either...)
1st: a Subprime Mortgage is one that is granted to someone with bad credit
Why would anyone in their right mind to that? Simple: to make money.
It seems this trend started back in the 80s around the time of the Savings and Loan scandals (another topic for further research). Some "brilliant" investors thought "Hey, if we can get all these loans together and sell off the debt, we'll be rich!" Thus the Collateralized Mortgage Obligation was born.
You can buy and sell these things on financial markets, sorta like a stock, but instead they are homeowners' debt packaged together. They floated around for about 20 years and then 9/11 happened. In response to the financial ruin, the Fed pumped up liquidity by a large margin. Seeing an opportunity, investment firms gave the green light to mortgage brokers to "lend money to anyone who could fog a mirror", meaning anyone no matter how much they suck at life and paying off loans.
Fast forward 5 years later to 2006. The housing market begins to slooooooow. It's been a buyers market for about 2 years now if not longer (meaning its really hard to sell a house). Combining this with a ton of borrower defaults (no surprise for people with horrible credit ratings), the the value of these CMOs began to tank. But it was too late. Everyone had them. From banks to mutual funds. Which means, anyone who's been planning to retire lost money on this (albeit just a little as its spread out over millions of funds).
But whenever something like this happens, its important to look at who gained.
In this case: Goldman-Sachs.
Mortgate firms and lenders started to go under en masse and declare bankruptcy in February of this year. The likes of Citigroup posts a $9 billion loss for the year. The fit hit the shan this summer and the panic alarm really went off in August. But somehow, Goldman still managed to gain by 79% in Q3 over last year.
An op-ed in the NYTimes had an interesting take on this:
http://www.nytimes.com/2007/12/02/business/02every.html?_r=2&oref=slogin&oref=slogin
Basically, its making the allegation that Goldman-Sachs is selling-short on the financial market.
Selling Short is best defined by example. Have you ever seen Casino Royale? The bad guy in the movie tries to make a ton of money by "Selling Short." He does this buy borrowing stock from MegaPlaneCompany for 3 months. He says "I'll sell this stock for you, and then at the end of three months I'll pay you back at whatever market price the stock is at the end of those three months." So if he borrows 10 shares valued at $10 each, sells them immediately and at the end of three months each stock is work $0, he pays MegaPlaneComany nothing and is $100 richer. BUT, if MegaPlaneCompany does something super-mega-awesome and the stock price RISES to $20 a share, then the bad guy has to pay MegaPlaneCompany $200 and loses 100 bux.
To ensure that he would make money, the bad guy arranges to blow up MegaPlaneCompany's new super-mega-awesome airplane. This would have investors reeling, thinking "Holy shit! This company's cursed!" and the value of the stock would plummet, mwahahahaha!
Luckily, James Bond comes to the rescue and FOILS the terrorist attack! The Plane debuts, people love it, the stock price goes up, the bad guy is millions of dollars in the hole, and the plot continues from there...
BACK IN THE REAL WORLD:
Replace the "badguy" with "Goldman-Sachs", "MegaPlaneCompany" with "Sub-prime Mortgages", and "James Bond" with no one. Kind despressing isn't it?
Things are bleak for a lot of people. Even if the poor borrower with bad credit didn't default, their mortgage is now shit cause it was bundled with everyone elses and sold on a market that is now totally busted. A few people have even begun to lose their houses, with many more to follow (Jim Cramer lamented this back in October, he advocated freezing debts temporarily and bailing out homeowners in danger; something President Bush has recently proposed as well).
And so we're now left with a piss poor housing market, a financial meltdown (a lotta companies going under or losing a lot of money), a credit crunch (now everyone's afraid to loan money), and an economic slowdown (a recession? <--to be considered in a later blog post)
But its not all bad news: The possible recession ahead of us may very well be balanced out by the decline of the dollar on the Foreign Exchange market (FoRex). But I'll save that for another post.
On that note, have a good night ;)
For further reading on this issue, here are some of my sources:
http://en.wikipedia.org/wiki/Subprime_crisis_impact_timeline
http://www.investopedia.com/terms/c/cmo.asp
http://www.bloodhoundrealty.com/BloodhoundBlog/?p=1147
http://investment.suite101.com/blog.cfm/subprime_meltdown_advice
http://www.dailykos.com/story/2007/12/7/44952/8234
http://www.marketwatch.com/news/story/goldman-sachs-q3-profit-rise/story.aspx?guid=%7B8A7CBFA1-BD49-40A0-86E0-B640650190F2%7D&dist=dist_smartbrief&dist=dist_smartbrief
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