Sub Prime Loan Debacle

In 1983, Salomon Bros. and First Boston created a financial debt vehicle known as a CMO which is short for Collateralized Mortgage Obligation. This entity served us well until pressure on mortgage lenders from Congress to loan mortgage money to people who ordinarily would not qualify for such a loan. A CMO is a standalone entity collateralized by a group of mortgages. Investors buy bonds issued by the CMO that pay off according to the amount of risk that the investor wants to take. The higher risk bonds pay higher interest. The layers of different categories of risk are 'tranches'. Investors in the bonds include Investment institutions, Banks, and Thrifts. The bonds sold worldwide to investors. The marketing of these bonds became the vehicle for financing our housing market.

There was a time that these bonds were very attractive. They paid off handsomely to the investors. For this reason, the bonds sold far and wide even after so many loans to credit unworthy people. The housing boom was a very real staple of the American economy and there was broad enthusiasm for the bonds at all levels of risk. The enthusiasm for houses caused house builders to build at a frantic pace and the investors loved what was happening. The lenders wanted to put people in houses so bad that they created interest only and adjustable rate mortgage loans. A person could move into a new house with no money down, and a very low teaser rate to start with. The demand for new homes was so great that the average price for houses went up as much as 125% in some locations.

For a while, the outlook was rosy. But there were signs that the good times were ending. On several occasions, President Bush and others tried to reign in Freddie Mac and Fannie Mae, but the Democrats rebuffed them.

When the bubble burst, it was like a snowball gathering steam as it rolls down the hill. The high risk borrowers started defaulting on their homes. Home values quit going up and it wasn't long before home values started to decline. To the investors, this was bad because with the decline of some of their income stream, their position went from happy to over leverage.

Leveraging may be new to some of you, so I will try to relate in common terms what it means. Every day we leverage our income by using credit cards and borrowing against our income. It is a method of increasing our purchasing power. As long as our income continues and we do not borrow more than we can afford, then we are able to maintain equilibrium. Losing our income for any reason makes our debt unmanageable, and we become over leveraged. Even though we may have lost our income to the most innocent situations, the loans we have made still have to be paid. Good management will always help in those situations such as maintaining enough money by saving to help bridge troubled times. However, saving is the exception rather than the rule.

Many people go into bankruptcy because of over leverage. Investment firms are no different. Investors are in the same boat as you would be if you lost your job. Investors had heavily leveraged those CMO securities, so when the securities started losing value, it wasn't long before the investors became over leveraged. Those bonds were the securities the investors used for borrowing, just as you would use your projected income for borrowing.

As stated above, the high-risk borrowers were at the crux of the problem. Not the least of considerations was the increased demand for housing from low income and minorities that formed part of the whole picture. Housing prices increased, and Congress increased the pressure on lenders to loan more to poor and minorities. So when the high-risk borrowers started defaulting on their loans, foreclosures started rising. At first, homebuilders had a hard time keeping up with demand, but as the empty houses due to foreclosures increased, the housing supply increased. Anytime there is more supply than demand, prices go down.

But that was only the start of the dominoes that were beginning to fall. Several borrowers, who bought houses on the prospect that the home values would go up, bought those homes with low teaser rates that would balloon after the teaser period. Then when the house value appreciated enough, they would refinance at a better rate. But instead of increasing in value, homes started losing value. Soon those borrowers with ARM (Adjustable Rate Mortgages) and teaser rate loans found themselves saddled with more debt than the house was worth. Rather than try and pay for a piece of glass at diamond prices, they opted to accept the credit rating hit and default on the loan. Of course, the result was even more empty houses and further lowering of home prices.

The investment houses were by now in full panic. Over leveraged and securities losing value every day meant they were in trouble. Some of our largest banks and investment firms went bankrupt because they couldn't cover their debt.

Domestic firms were not the only ones to lose money because of those bonds. Banks and investment firms worldwide had invested in them. Bad experiences with CMO bonds made scrutinizing creditors fashionable again. Banks no longer trusted other banks with loans because they couldn't trust that the borrowing bank would still be in business when it was time to repay the loans. Credit became frozen starting the chain of events to restore confidence back into the system.

Because of the 'no money down', teaser rates, and ARM loans a large number of homeowners had bought homes with no personal financial stake in them. By March of 2008 an estimated 8.8 million homeowners — nearly 10.8% of total homeowners — had zero or negative equity, meaning their homes are worth less than their mortgage. This provided an incentive to "walk away" from the home, despite the credit rating impact.

In conclusion, all I can think of is thanks Democrats, your tinkering with the home markets for political gain has cost all of us dearly. Your refusal to allow us to develop our domestic energy supplies has severely crippled our economy. I would love to ask you, "Why are you so Hell bent on the destruction of this country?" By dumbing down the population with your stupid social tinkering, the electorate can't even make an informed decision when voting. You have nurtured the vitriol from the far left and let it fester to the point that just getting along with somebody with a different viewpoint is difficult. I just hope that I am not the only person who sees these things. It is my opinion that if things continue the way they are, nothing good will come of it.

Cheers,

-Robert-