Part 1: The problem
Part 2: The solution
The current financial crisis is the result of bad mortgages and illiquid mortgage-backed securities. These videos explain what is happening, why many people are worried about widespread bankruptcies, why the Wall street bailout will not fix the problem, and what the real solution is.
Outline:
- Foreclosures have increased dramatically in the last few years
- Some homeowners have monthly payments > 35% of their income
- Some homeowners have ticking-time-bomb mortgages: huge balloon payments or adjustable interest rates that will make their mortgage unaffordable
- Predatory lending also contributed to homeowners getting into mortgages they could not afford
- The unexpectedly large rise in foreclosures combined with the misleading or fraudulent mortgage documents and ratings means that no one knows the value of mortgage backed securities (MBS)
- No one wants to take the risk of buying the MBS, so some banks have run out of cash and failed
- Many people are worried that if enough banks fail, then it will set off a chain reaction of bankruptcies–mortgage banks, investment banks, insurance companies, lending banks, and government lenders–each bankruptcy knocking over another institutions in an out-of-control spiral.
- The government solution was/is to stop the chain reaction by purchasing the MBS from institutions. This will have two effects.
- The direct effect is to infuse cash into a specific bank, allowing it to continue operating.
- The indirect effect is to raise the mark-to-market value of MBS, increasing the asset values of banks, and allowing them to write more loans, generate more cash, and continue operating
- The government solution might stop the chain reaction, but it does not solve the underlying problems: bad mortgages and illiquid MBS
- A better solution is to fix the bad mortgages, which would make it possible to determine the value of the MBS, and then they would be liquid again.
- How to turn bad mortgages into good mortgages:
- Prevent foreclosure if the homeowner is paying 35% of their income (35% of their income at the time of the loan or now, whichever is greater)
- Allow homeowners to force a restructure the loans. Go to court to change the monthly payment to 35% of their income. Interest rate is Freddie Mac 30-yr plus 1%. This gives them an OK rate, and if they can get a better rate on the market, then they will do it.
- Sample audit the existing mortgages to determine the extent of the fraud and the bad mortgages to determine what the real value of the MBS are
- Probably do not lower the principle because that makes it harder to calculate the value of the MBS
- Make it easier for homeowners to sue for fraud. If the homeowner wins, then the mortgage bank has to pay attorney fees
- Make it easier for buyers of MBS to sue the sellers of MBS for fraud
- There are other possible plans to turn bad mortgages into good mortgages
Hey this is Nont. I think this would have been relevant, in say, 2007. Not so much in 2008, when insolvency and debt swaps and the deleveraging of the $500 trillion derivatives market are swarming everything else. What this video is talking about is a little like regulating bullets after you’ve been riddled by a machine gun. The bullets aren’t the problem anymore.
Except mortgages and homes are not bullets. Until we start to take seriously that over 2 million families could lose their home this year alone, we will not find a good solution.
Great post Hunter! it really explains thing up for me, specially since i’m watching all this market falls and economic crises from outside the US… you’re right about the impact world wide… you can see it everywhere today… and the constant speculation is aggravating even more the situation… I agree with most of your proposals for preventing this from happening again… I believe it is as relevant today, that it would have been last year, since the problem is still there… what i couldn’t see quite clearly, perhaps beacause I didn’t pay enough attention or because it’s not quite easy to understand, is what to do right now with those who are affected already. And if you where to Audit MBS, tagging different “packages” of mortgages wouldn’t that create a depreciation of those who have more bad morgueges than good mortgages affecting those few in that particular MBS?…
it’s always interesting to read your posts! I hope you’re doing great my friend!
Best Regards!
Ben.
Thanks Benjamin!
For people that are currently in foreclosure, if they immediately start paying 35% of their monthly income, then they would keep their house.
Yes, the audit of the MBS would almost certainly show that the MBS is worth less than the original sale price. But, if anyone buys an MBS right now, it is as a substantial discount from the original sale price, so mark-to-market prices means that all MBS have extremely low values. By making the mortgage values more predictable and then auditing the MBS, the value of MBS would almost certainly rise from their current mark-to-market levels.