TABLE OF CONTENTS
CHAPTER 1 – Abstract 3
CHAPTER 2 – Introduction 4
CHAPTER 3 – Body Paragraphs 4
CHAPTER 4 – Discussion 5
CHAPTER 5 – Conclusion 8
Sub-Prime Mortgage Crisis: What Went Wrong?
The crisis of subprime mortgages has become a huge problem in the U.S. financial industry in the last few years and has affected the global financial market too. The smaller mortgage companies fell one by one until Bear Stearns also fell; then the “Titanic” of the mortgage world – Lehman Brothers – also fell. The ripple effect of the fall of Lehman Brothers coupled with the near death of AIG, nearly crashed the financial market and sent ...view middle of the document...
Technological advances and new statistical techniques, made it easy to evaluate risks for a new class of riskier residential mortgages for borrowers with less than stellar credit called subprime mortgages). (Mishkin) Eventually, these mortgages were bunched together and sold as securities backed by the mortgages (mortgage-backed securities - MBS). Investors made a lot of money on MBS but then, they got greedier and started trading in collateralized debt obligation.
“On November 12, 1999 President Bill Clinton signed the Financial Services Modernization Act (also called Gramm-Leach-Bliley Act of 1999) repealed the Glass-Steagall Act of 1933 which had prevented the coupling of commercial banks and investment banks. The major effect of this act is that, the repeal allowed commercial and investment banks to consolidate.” Then in 2000, before President Clinton left office, he signed the Commodity Futures Modernization Act which was supposed to help resolve a dispute between the Securities Exchange Commission (SEC) and the Commodities Futures Trading Commission (CFTC). Instead, it exempted any derivatives from regulation. Now, commercial banks, a lot of them that had merged with investment banks, were big and rich enough to underwrite securities and sell insurance and sell insurance they did!
B. Mortgage companies along with mortgage originators came up with clever ways to sell mortgages and particularly, subprime mortgages. They were made attractive and easy enough for people with questionable credits get access. They are then bunched and sold. “Real estate speculators used stated-income loans to buy properties that would otherwise have been out of reach, hoping to flip them quickly, before their lack of income caught up with them. Far more frequently, however, mortgage originators used stated-income loans to put people into homes that were far beyond their means, knowing full well that the chance of the borrower ever paying back the loan was practically nil. “(Nocera)
C. Some of the securities popular during the boom were mortgage backed securities (MBS), collateralized debt obligation (cdo), which are unregulated asset-backed securities and credit default swaps (CDS), default swaps are insurance-like contracts that promise to cover losses on certain securities in the event of a default. These securities must also be grouped in one of the top two ratings as determined by an accredited credit rating agency such as Standard and Poors,...