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Traden4Alpha
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Credit Derivatives & Subprime Crisis

February 2nd, 2008, 4:46 pm

QuoteOriginally posted by: TraderJoeHey Trad, you weren't an Analyst in another life were you? (Not a bad thing).I wasn't an analyst -- I just have a strong desire to interconnect quantitative methods with qualitative ideas. Hard numbers are the goal but the model must be right. Checking models usually means thinking about the qualitative/analyst side. Qualitative models create arguments of the signs of numerical results, but only if the real numbers work. When both the quantitative and the qualitative resonate, it suggests that the solution is correct and provides a strong signal on likely market/economic direction. When the two conflict, it suggests the market might bifurcate (depending on whether quant players or qualitative players put more money behind their positions). And, across it all, I try to understand the weakness and strengths of the entire portfolio of quantitative and qualitative arguments to build a toolbox that is just a bit deeper than the next guy's.
Last edited by Traden4Alpha on February 1st, 2008, 11:00 pm, edited 1 time in total.
 
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TraderJoe
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Credit Derivatives & Subprime Crisis

February 3rd, 2008, 9:34 pm

QuoteOriginally posted by: Traden4AlphaQuoteOriginally posted by: TraderJoeHey Trad, you weren't an Analyst in another life were you? (Not a bad thing).I wasn't an analyst -- I just have a strong desire to interconnect quantitative methods with qualitative ideas. Hard numbers are the goal but the model must be right. Checking models usually means thinking about the qualitative/analyst side. Qualitative models create arguments of the signs of numerical results, but only if the real numbers work. When both the quantitative and the qualitative resonate, it suggests that the solution is correct and provides a strong signal on likely market/economic direction. When the two conflict, it suggests the market might bifurcate (depending on whether quant players or qualitative players put more money behind their positions). And, across it all, I try to understand the weakness and strengths of the entire portfolio of quantitative and qualitative arguments to build a toolbox that is just a bit deeper than the next guy's.Do you run a hedge fund?
 
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INFIDEL
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Credit Derivatives & Subprime Crisis

February 6th, 2008, 12:11 pm

QuoteINFIDEL: The attractive conditions for selling loans on to securitizers were created by the securitizers, i.e. mainly Wall St. firms. They created the demand for subprime loans because they'd discovered a way to wrap the snake oil in such a way that the ratings agencies and everybody else would be fooled.WSJ today (Ha!):QuoteAt 11 a.m. on Jan. 23, more than 30 top Wall Street executives gathered for an emergency meeting called by New York Insurance Superintendent Eric Dinallo, who wanted to cobble together a rescue plan for troubled bond insurers.Mr. Dinallo left no doubt who he thought was responsible for the mortgage meltdown that has caused securities guaranteed by the insurers to fall in value as the housing market weakens. "You people created this mess," he told senior officials of Wall Street's top firms, including Citigroup Inc., Goldman Sachs Group Inc., Merrill Lynch & Co. and Morgan Stanley. "And the headline on this is going to be: 'How Wall Street Ate Main Street.'"
 
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TraderJoe
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Credit Derivatives & Subprime Crisis

February 7th, 2008, 12:36 am

Quote "You people created this mess,"They did, and the value of their companies have halved accordingly .
 
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INFIDEL
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 12:05 am

Here's a question. The Fed's cut its target cash rate drastically over the last few months, hoping that market forces will make it hit the target. Meanwhile, the U.S. mortgage interest rates don't seem to have changed much, whereas you'd think that the mortgage interest rate should fall substantially too. (Certainly in the opposite case, when central banks up the interest rate, homeowners batten down for increased monthly payments -- yet we're not seeing the opposite here in the U.S.) What's the market mechanism by which U.S. mortgage interest rates fall following the Fed's downward rate movement?
 
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Traden4Alpha
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 1:16 pm

QuoteOriginally posted by: INFIDELHere's a question. The Fed's cut its target cash rate drastically over the last few months, hoping that market forces will make it hit the target. Meanwhile, the U.S. mortgage interest rates don't seem to have changed much, whereas you'd think that the mortgage interest rate should fall substantially too. (Certainly in the opposite case, when central banks up the interest rate, homeowners batten down for increased monthly payments -- yet we're not seeing the opposite here in the U.S.) What's the market mechanism by which U.S. mortgage interest rates fall following the Fed's downward rate movement?Yes, U.S. 30-year mortgage rates are now higher than they were a month ago. The reason that long-term rates have not fallen is due to inflation fears -- that the lower rates will mean a declining dollar (inflation of imported goods prices) or that lower rates will juice the economy a little too much. The challenge, for a central banker, is that long-term rates are set by the market and if the market fears inflation, then long-term rates can stay high or increase after an easing of short-term rates. Nonetheless, the decline in short-term rates does encourage mortgage lending -- with a strong spread between long-term and short-term rates, banks are encouraged to lend money (i.e., borrow from the Fed at 3% and lend at 6%).What does help, in the current mortgage environment, is the reduction of the U.S. Prime Rate, which has dropped from 7.25 to 6.0% in the last month (down from 8.25% a year ago). Prime is more closely tied to short-term, Fed-controlled rates. Most ARMs and variable interest rate consumer loans are tied to Prime (usually Prime + some percentage depending on credit rating, type of loan, etc.). Thus a lower Prime rate helps reduce mortgage costs for ARM borrowers. The Prime rate reductions aren't a panacea, though. Many ARMs started with ultralow teaser rates (I remember ones below 3% in the mortgage boom heyday). Thus, a reset from 3% to 8%(Prime+2%) can be just as financially devastating and a reset from 3% to 10.25%.It's tough to be a central banker.
 
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INFIDEL
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 1:42 pm

QuoteTraden4Alpha: Nonetheless, the decline in short-term rates does encourage mortgage lending -- with a strong spread between long-term and short-term rates, banks are encouraged to lend money (i.e., borrow from the Fed at 3% and lend at 6%).So, in the opposite case, if a central bank increases the overnight rate, does the rate at which banks lend money increases only because they want to preserve their profit margin? Or are there other reasons too?
Last edited by INFIDEL on February 7th, 2008, 11:00 pm, edited 1 time in total.
 
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INFIDEL
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 1:45 pm

QuoteWhat does help, in the current mortgage environment, is the reduction of the U.S. Prime Rate, which has dropped from 7.25 to 6.0% in the last month (down from 8.25% a year ago). Prime is more closely tied to short-term, Fed-controlled rates.What causes the Prime to fall?
 
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Traden4Alpha
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 4:06 pm

QuoteOriginally posted by: INFIDELQuoteTraden4Alpha: Nonetheless, the decline in short-term rates does encourage mortgage lending -- with a strong spread between long-term and short-term rates, banks are encouraged to lend money (i.e., borrow from the Fed at 3% and lend at 6%).So, in the opposite case, if a central bank increases the overnight rate, does the rate at which banks lend money increases only because they want to preserve their profit margin? Or are there other reasons too?The spread is a strong function of:1. The risk of default (including the costs of such events and the recovery ratio on any collateral or civil proceedings)2. The risk of inflation (especially for longer-term loans)3. Administrative costs of creating and servicing the loan (arguably dropping in the web-enabled age)4. Market competition for both capital and borrowers.5. Bundling (e.g., a bank might offer a "low-cost" loan if the borrower signs up for other, high-margin services at the bank)The Prime rate is set by banks as the rate they charge their most creditworthy customers (i.e., those with default risk = "zero"). Usually the big banks all declare the same rate and that's published as "the prime" rate. I've not studied it extensively, but it looks to very closely track Fed rate +3%. It's a bit messy, because some banks will lend at Prime minus something which suggests that Prime is not the rock-bottom required profit margin for low-risk borrowers.
Last edited by Traden4Alpha on February 7th, 2008, 11:00 pm, edited 1 time in total.
 
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torontosimpleguy
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Credit Derivatives & Subprime Crisis

February 8th, 2008, 4:31 pm

QuoteOriginally posted by: Traden4AlphaThe challenge, for a central banker, is that long-term rates are set by the market [...]I don't know all mechanics since it is mostly hidden.My understanding is that these rates are not really set by the market. As I guess FED gives informal advice to banks what rates are needed to economy at that stage.
 
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INFIDEL
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Credit Derivatives & Subprime Crisis

February 9th, 2008, 2:49 am

Thanks Traden4Alpha. Back on the litigation subthread, here's Lehmann getting caught telling lies in Australia: Sub-prime a non-event: Lehman (the link probably won't last long).(The Weekend Australian, Feb 9)QuoteSub-prime a non-event: LehmanSusannah Moran | February 09, 2008 US-OWNED fixed interest broker Lehman Brothers' Australian office assured Wingecarribee Shire Council that the sub-prime crisis last July was a "non-event" for investors such as them because the "high-grade" financial products the council had bought from Lehman were not exposed to the US crisis, court documents allege.Unfortunately for the NSW rural council, the bond market had other ideas about the Collateralised Debt Obligations (CDOs) that Lehman had persuaded the council to buy, which is why the council has taken the unusual step of suing the US broker.At the time, Wingecarribee Council, located in the Southern Highlands of NSW, had already lost millions of dollars on CDOs they bought via Lehman Brothers and 12 days later the bank confessed that the CDOs were exposed to the US sub-prime mortgage market, according to documents obtained by The Australian that outline allegations against Lehman Brothers by the council.The court case is being closely watched by other Lehman clients keen to recover millions of dollars of losses.The documents reveal, for the first time, the extent of the allegations made against Lehman, and claim that the investment bank, which reported $1 billion in global income last quarter, reneged on a verbal agreement to buy back the CDOs.By the time Wingecarribee was told of the exposure last July it had already suffered a 62 per cent loss on the value of a $3 million Federation CDO, according to the documents. Only days earlier the council had been sold another CDO by Lehman.Wingecarribee invested about $67 million with Lehman last year, but lost millions on the products. It is suing Lehman for misleading and deceptive conduct and for breaches of the Australian Securities and Investments Commission Act. Yesterday Federal Court judge Steven Rares was told that Lehman had not yet spoken to the two men who were to be its key witnesses in the case - neither of whom still work for the bank. These key witnesses are believed to be David Rosenbaum and Stewart Calderwood.Mr Rosenbaum was the business development director and Mr Calderwood was fixed interest director.The council claims that Lehman promised its investments would have "extremely high levels of transparency", would ensure the capital was preserved and that no more than 15 per cent of its portfolio was held for more than seven years, in line with council guidelines. The $3 million Federation CDO has a "final" maturity date of 2047.The council says it had early concerns about a reference to CDOs and asked for clarification, mentioning "our lack of experience with these products".After it was sold a CDO in February, the council claims, Mr Calderwood told it the investment was a floating rate note and the value of the capital would be returned at the date of maturity.After that, the council claims, it did not take any further steps to exclude CDOs from its investment portfolio.In July, when newspapers were reporting the turmoil in the US market Lehman emailed the council, saying "some commentaries have sought to lump all grades of CDOs ... in a single basket". "There is no linkage in the risk-profile of (Lehman Brothers') high-grade, corporate risk-based CDOs with the risk profile of low-grade CDOs that have invested in the sub-prime part of the residential MBS market."The impact on the Federation CDO was "relatively minimal", Lehman said. "The current market events may cause some short-term mark-to-market volatility, but this should be a non-event for our buy-and-hold investors."The council claims it was not told until August 24 that it could lose some capital.Lehman Brothers, which is yet to file its defence in the matter, did not return calls yesterday.Mr Calderwood and Mr Rosenbaum could not be reached for comment.
Last edited by INFIDEL on February 8th, 2008, 11:00 pm, edited 1 time in total.
 
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TraderJoe
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Credit Derivatives & Subprime Crisis

February 21st, 2008, 12:15 am

On worst case scenarios, and other black swans.QuoteAmerica's economy risks the mother of all meltdownsBy Martin Wolf Published: February 20 2008 02:00 | Last updated: February 20 2008 02:00"I would tell audiences that we were facing not a bubble but a froth - lots of small, local bubbles that never grew to a scale that could threaten the health of the overall economy." Alan Greenspan, The Age of Turbulence.That used to be Mr Greenspan's view of the US housing bubble. He was wrong, alas. So how bad might this downturn get? To answer this question we should ask a true bear. My favourite one is Nouriel Roubini of New York University's Stern School of Business, founder of RGE monitor.Recently, Professor Roubini's scenarios have been dire enough to make the flesh creep. But his thinking deserves to be taken seriously. He first predicted a US recession in July 2006*. At that time, his view was extremely controversial. It is so no longer. Now he states that there is "a rising probability of a 'catastrophic' financial and economic outcome"**. The characteristics of this scenario are, he argues: "A vicious circle where a deep recession makes the financial losses more severe and where, in turn, large and growing financial losses and a financial meltdown make the recession even more severe."Prof Roubini is even fonder of lists than I am. Here are his 12 - yes, 12 - steps to financial disaster.Step one is the worst housing recession in US history. House prices will, he says, fall by 20 to 30 per cent from their peak, which would wipe out between $4,000bn and $6,000bn in household wealth. Ten million households will end up with negative equity and so with a huge incentive to put the house keys in the post and depart for greener fields. Many more home-builders will be bankrupted.Step two would be further losses, beyond the $250bn-$300bn now estimated, for subprime mortgages. About 60 per cent of all mortgage origination between 2005 and 2007 had "reckless or toxic features", argues Prof Roubini. Goldman Sachs estimates mortgage losses at $400bn. But if home prices fell by more than 20 per cent, losses would be bigger. That would further impair the banks' ability to offer credit.Step three would be big losses on unsecured consumer debt: credit cards, auto loans, student loans and so forth. The "credit crunch" would then spread from mortgages to a wide range of consumer credit.Step four would be the downgrading of the monoline insurers, which do not deserve the AAA rating on which their business depends. A further $150bn writedown of asset-backed securities would then ensue.Step five would be the meltdown of the commercial property market, while step six would be bankruptcy of a large regional or national bank.Step seven would be big losses on reckless leveraged buy-outs. Hundreds of billions of dollars of such loans are now stuck on the balance sheets of financial institutions.Step eight would be a wave of corporate defaults. On average, US companies are in decent shape, but a "fat tail" of companies has low profitability and heavy debt. Such defaults would spread losses in "credit default swaps", which insure such debt. The losses could be $250bn. Some insurers might go bankrupt.Step nine would be a meltdown in the "shadow financial system". Dealing with the distress of hedge funds, special investment vehicles and so forth will be made more difficult by the fact that they have no direct access to lending from central banks.Step 10 would be a further collapse in stock prices. Failures of hedge funds, margin calls and shorting could lead to cascading falls in prices.Step 11 would be a drying-up of liquidity in a range of financial markets, including interbank and money markets. Behind this would be a jump in concerns about solvency.Step 12 would be "a vicious circle of losses, capital reduction, credit contraction, forced liquidation and fire sales of assets at below fundamental prices".These, then, are 12 steps to meltdown. In all, argues Prof Roubini: "Total losses in the financial system will add up to more than $1,000bn and the economic recession will become deeper more protracted and severe." This, he suggests, is the "nightmare scenario" keeping Ben Bernanke and colleagues at the US Federal Reserve awake. It explains why, having failed to appreciate the dangers for so long, the Fed has lowered rates by 200 basis points this year. This is insurance against a financial meltdown.Is this kind of scenario at least plausible? It is. Furthermore, we can be confident that it would, if it came to pass, end all stories about "decoupling". If it lasts six quarters, as Prof Roubini warns, offsetting policy action in the rest of the world would be too little, too late.Can the Fed head this danger off? In a subsequent piece, Prof Roubini gives eight reasons why it cannot***. (He really loves lists!) These are, in brief: US monetary easing is constrained by risks to the dollar and inflation; aggressive easing deals only with illiquidity, not insolvency; the monoline insurers will lose their credit ratings, with dire consequences; overall losses will be too large for sovereign wealth funds to deal with; public intervention is too small to stabilise housing losses; the Fed cannot address the problems of the shadow financial system; regulators cannot find a good middle way between transparency over losses and regulatory forbearance, both of which are needed; and, finally, the transactions-oriented financial system is itself in deep crisis.The risks are indeed high and the ability of the authorities to deal with them more limited than most people hope. This is not to suggest that there are no ways out. Unfortunately, they are poisonous ones. In the last resort, governments resolve financial crises. This is an iron law. Rescues can occur via overt government assumption of bad debt, inflation, or both. Japan chose the first, much to the distaste of its ministry of finance. But Japan is a creditor country whose savers have complete confidence in the solvency of their government. The US, however, is a debtor. It must keep the trust of foreigners. Should it fail to do so, the inflationary solution becomes probable. This is quite enough to explain why gold costs $920 an ounce.The connection between the bursting of the housing bubble and the fragility of the financial system has created huge dangers, for the US and the rest of the world. The US public sector is now coming to the rescue, led by the Fed. In the end, they will succeed. But the journey is likely to be wretchedly uncomfortable.*A Coming Recession in the US Economy? July 17 2006, www.rgemonitor.com ; **The Rising Risk of a Systemic Financial Meltdown, February 5 2008; ***Can the Fed and Policy Makers Avoid a Systemic Financial Meltdown? Most Likely Not, February 8 2008ft.com
 
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Traden4Alpha
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Credit Derivatives & Subprime Crisis

February 21st, 2008, 12:56 am

More gloomy trends:Why Not Just Walk Away from a Home? describes the growing problem of people that owe more on their mortgage than the house is currently worth and the appearance of services that will help you voluntarily foreclose. These for-pay services suggest that blowing out of a bad mortgage may be the smart financial move (especially if you can work the system to get as much as 8 months of living in the home without making any payments).Meanwhile, oil, gold, and commodities are on their way up, so the Fed said it may not be able to cut rates as much or as long as it might like.It will be an interesting spring!
 
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bogracer
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Credit Derivatives & Subprime Crisis

February 21st, 2008, 5:40 am

Gotta love rational economic behavior
 
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TraderJoe
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Joined: February 1st, 2005, 11:21 pm

Credit Derivatives & Subprime Crisis

February 27th, 2008, 10:58 pm

Negative Equity - Sad but true.
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