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93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

nytimes.com

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Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#31

Post by joe_bleau »

gaius wrote: post #17
btilly wrote: post #5

When people say they will act one way and have financial incentives to act another, expect them to follow the financial incentives. Appropriate regulation can help for a bit. But unfortunately the regulated party has incentives to provide incentives (such as contributions to political campaigns) to gain control of the regulations. This leads to regulatory capture that then renders the regulations ineffective. In a pe…

which would mean that they wouldn't be paying out absurd bonuses No it wouldn't. Investment banks are huge and diverse businesses. If you're an FX trader, nothing whatsoever to do with mortgage-backed securities, and you've done your job well this year and made excellent profits (which for the bank as a whole offset their losses) then why shouldn't you get a bonus as usual? Of course the loss-making traders shouldn't…

I've wondered this too. As an employee of a small company, I really wish I could use the same argument (and trust me, I've tried). "Hey boss, I'm doing the work of two people, at about a 40% discount to market rates for the average embedded engineer. You don't seem to think I'm average, and there's no question that you're more than happy with my performance. I realize business is off right now and sales suck, but why shouldn't I get a bonus/raise?" "Cause we don't have any more money, and the government won't give us any."

I really like my job, but sometimes it's tough not to be jealous of the world of big money and government.

I guess my answer to your question might be: "because Joe two floors down blew up, and we wouldn't exist as a company anymore if not for the government bailouts".

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#33

Post by gvb »

WorkerBee wrote: post #19
_delirium wrote: post #10

Earlier quoted context omitted.

Not that I think everything was above-board, but to be fair, these are hugely correlated instruments: it's not reporting 93% of all AAA debt tanked, but 93% of all AAA-rated derivatives of subprime mortgages. Given the subprime-mortgage crash, it's not surprising that everything tied to subprime mortgages uniformly tanked too. The way an AAA-rated derivative of a subprime mortgage could exist to begin with was via "t…

but to be fair, these are hugely correlated instruments That makes them more risky, not so? How did they get the AAA rating then?

By recursion.

The initial iteration is that they pool a bunch of loans together to aggregate the risk. They know from history (short term history - a vulnerability that turned into a failure mode) that mortgage defaults are quite unlikely to happen in the first, say 5, years, so they can sell paper that matures in 5 years and be confident that it has a low failure rate from the (flawed) historical perspective. The longer term paper on the loans will historically have a higher probability of failure, so the longer term paper has lower ratings.

Then the recursion occurs.

1) Homeowners kept refinancing their houses (encouraged by the insatiable appetite for new mortgages to slice and dice into AAA-rated paper), so their loans never aged, they just kept getting reset.

2) The bankers took the remaining less-than-AAA-rated aggregated debt and used to create a new debt vehicle and then claimed all over again that the "new" debt (which was really old debt reheated) could be re-sliced into AAA-rated debt plus residual lower rated debt.

This quickly turns into a house of cards which inevitably failed when short term history (low failure rates based on long held mortgages and "perpetually" increasing house values) failed to model reality.

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#34

Post by hga »

DuncanIdaho wrote: post #28
aac74 wrote: post #23

Earlier quoted context omitted.

The way I read it is that Krugman is quoting someone to support his argument for ultra low interest rates. Krugman like all Keynesians thinks bubble booms are good and recessions are bad. He fails to mention the artificial carry trade in gold that central banks set up in the 90s to push gold prices down and stock prices up. Central banks at this time also promoted derivatives to create the illusion of low inflation b…

Now if I understand you right. You're saying that US and worldwide financial markets have been ran by Keynesians for the last 30 years, leading to massive explosion and refutation of all Keynesian theories? Let me guess - you also believe that Fascism and Nazism are right-wing ideologies? EDIT: I'm no economist (barely an amateur wiki-economist): but as far as I know (read, heard) Keynes actually argued that money su…

WRT to whatever Keynes argued, the idea that any system of mechanical management would avoid capture by the political system is fatuous. Which he should have known.

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#35

Post by grandalf »

gvb wrote: post #33
WorkerBee wrote: post #19

Earlier quoted context omitted.

but to be fair, these are hugely correlated instruments That makes them more risky, not so? How did they get the AAA rating then?

By recursion. The initial iteration is that they pool a bunch of loans together to aggregate the risk. They know from history (short term history - a vulnerability that turned into a failure mode) that mortgage defaults are quite unlikely to happen in the first, say 5, years, so they can sell paper that matures in 5 years and be confident that it has a low failure rate from the (flawed) historical perspective. The lo…

Excellent explanation. Also, I think it's relevant that the models that undergirded the ratings also had to assume some probability distribution of mortgage market price volatility... which was generally perceived as being far more stable than it turned out to be...

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#36

Post by alphaBetaGamma »

WorkerBee wrote: post #19
_delirium wrote: post #10

Earlier quoted context omitted.

Not that I think everything was above-board, but to be fair, these are hugely correlated instruments: it's not reporting 93% of all AAA debt tanked, but 93% of all AAA-rated derivatives of subprime mortgages. Given the subprime-mortgage crash, it's not surprising that everything tied to subprime mortgages uniformly tanked too. The way an AAA-rated derivative of a subprime mortgage could exist to begin with was via "t…

but to be fair, these are hugely correlated instruments That makes them more risky, not so? How did they get the AAA rating then?

Yes, all (ex) AAA-rated derivatives of subprime mortgages are highly correlated. No, that (in itself) does not make them more risky. You just do not want to invest %100 of your portfolio in them.

E.g. U.S. Government debt is currently AAA rated. But all bonds and treasuries are highly correlated: in five years either 0% or 100% of US Gov debt will still be AAA.

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#37

Post by jsm386 »

Alex3917 wrote: post #2

Headline is inaccurate, it's 93% of subprime-backed mortgage securities.

Especially ironic/inaccurate given the full context of the quote: And no, that’s not hyperbole: of AAA-rated subprime-mortgage-backed securities issued in 2006, 93 percent - 93 percent! - have now been downgraded to junk status.

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#38

Post by yummyfajitas »

joe_bleau wrote: post #31
gaius wrote: post #17

Earlier quoted context omitted.

which would mean that they wouldn't be paying out absurd bonuses No it wouldn't. Investment banks are huge and diverse businesses. If you're an FX trader, nothing whatsoever to do with mortgage-backed securities, and you've done your job well this year and made excellent profits (which for the bank as a whole offset their losses) then why shouldn't you get a bonus as usual? Of course the loss-making traders shouldn't…

I've wondered this too. As an employee of a small company, I really wish I could use the same argument (and trust me, I've tried). "Hey boss, I'm doing the work of two people, at about a 40% discount to market rates for the average embedded engineer. You don't seem to think I'm average, and there's no question that you're more than happy with my performance. I realize business is off right now and sales suck, but why…

Try asking for the bonus Wall St style: "Hey boss, you know I am worth a lot. Pay me more or I quit. "

Your boss may find the money, or your new job will pay more.

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#39

Post by fname »

If anyone listened to the hearings, they quoted a part from the book, "The Big Short: Inside the Doomsday Machine" which discusses some of what the author thinks were the inner workings. I've been reading through it now and cannot recommend it enough.

http://www.amazon.com/Big-Short-Inside-Doomsday-Machine/dp/0...

Re: 93% of 2006 AAA-rated subprime mortgage-backed securities now rated junk

#40

Post by pauldino »

aac74 wrote: post #23
DuncanIdaho wrote: post #20

Earlier quoted context omitted.

Now I don't understand what your motive is - but your quote is taken waaay out of context... Original quote: "The basic point is that the recession of 2001 wasn't a typical postwar slump, brought on when an inflation-fighting Fed raises interest rates and easily ended by a snapback in housing and consumer spending when the Fed brings rates back down again. This was a prewar-style recession, a morning after brought on…

The way I read it is that Krugman is quoting someone to support his argument for ultra low interest rates. Krugman like all Keynesians thinks bubble booms are good and recessions are bad. He fails to mention the artificial carry trade in gold that central banks set up in the 90s to push gold prices down and stock prices up. Central banks at this time also promoted derivatives to create the illusion of low inflation b…

Who prints their money? The US Treasury, literally. Panama has pegged its currency 1:1 to the US dollar since independence and doesn't even bother printing its own paper money, using US notes instead.
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