Finance Discussion Continued

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Dave

Dave is a part-time blogger that writes about whatever suits him at the time.

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49 Responses

  1. Avatar b-psycho
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    says:

    To continue my thread of the other discussion…

    Personally I’d like to see the finance sector itself made simpler, smaller & less relevant to everyday life in the first place. I admit that is a hard nut to crack though, given the depth of financialization of life over the years.Report

  2. Avatar zic
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    says:

    First off, I’d like to apologize to Ethan. And to thank him; he’s been sizzling of late. I love seeing the flying car appear; it means I’m in for some good read. My admiration is growing, and I’m grateful and humbled by the effort hes putting into blogging.

    Pretty awesome explanation, Dave.

    I still think it’s not putting enough emphasis on the disconnect between the underlying securities and the derivatives being sold; that’s evident by the amount hedged by investing institutions vs. the amount loaned to home buyers. This is reflected in Greenspan’s “I was wrong,” partial confession, which I quoted in the previous thread, the important part bolded in my blockquote:

    “As much as I would prefer it otherwise, in this financial environment I see no choice but to require that all securitizers retain a meaningful part of the securities they issue,” Greenspan said. That would give the companies an incentive to ensure the assets are properly priced for their risk, advocates say.

    (follow the link back for a link to the source of that quote.)

    A lot of the confusion here is language, too. Few people speak the language of finance, and those that do have a pretty clear idea of ‘derivative’ as something built on the underlying security, not built because of it but unattached to it. As I said in the previous thread, synthetic derivatives were more akin to betting on sports then to banking.

    I’m tired, so I’ll need to re-read this when I’m slightly more cogent; but I question this:
    While this is still up in the air, the qualified mortgage rules seems to rule out most of the “exotic” loan types that ended up causing so many problems a few years back. My hope is that the ratings agencies will only assign AAA or investment-grade ratings to securities where 100% of the loans are Qualified Residential Mortgages. In my opinion, this would go a long way to solving a lot of problems that plagued these markets a few years ago.

    I don’t have an opinion of this is right or wrong; it’s certainly common wisdom. But I’m skeptical that it’s right because only a small percentage of the mortgages foreclosed were actually the exotic sub-prime so reviled as he source of the problem.

    You’ve told this story wonderfully from your perch in commercial real estate; my perch was business reporting. I’m reformed. But if I were to have fall off the wagon and begin reporting again, this nagging skepticism would be shaping my work and research.Report

    • Avatar zic in reply to zic
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      says:

      Edit: I’m questioning that the exotic sub-primes were the cause; not that they’ve been reined in.Report

      • Avatar BlaiseP in reply to zic
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        says:

        IMHO the “exotic sub-primes” weren’t all that exotic yet they were the cause of the crash. The problem wasn’t the swaps. The problem was how they were being traded. They weren’t being traded on a regulated exchange. There are bourses for just such swaps, ICE is one.

        Dave contends, with commendable insight, the ratings agencies are at the root of the problem. But how would anyone rate these critters effectively? In a pool of a thousand mortgages, how could anyone know what’s going on? Statistically, some of those mortgages will go into default. Some will pay out early. Most will do fine.

        Somewhere along the line, it becomes a pure risk proposition, though: investment money has to enter the lending pool to create the bond — let’s get the underlying mortgage out of the way, it’s the mortgage bond which trades. QRM is a good step but it’s not a solution to the pure-risk problem. Pure risk instruments need to trade in the open. Imposing rules on the street-level happy couple buyin’ their pretty little house on Douglas Avenue, they’re not the problem. The three-screen jamokes bond traders, they’re the problem. Dodd-Frank has nothin’ to say about them.Report

        • Avatar zic in reply to BlaiseP
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          says:

          I’m not disagreeing with you Blaise, I think we’re both right.

          First off, the crash had a bunch of complex and interrelated causes; not a single cause.

          But the unregulated market of stuff that appeared to be rated but wasn’t was certainly the root of the problem.

          Again, I don’t know about sub-prime loans; but I think regular, old-fashioned loans were as much a problem in that they, too, were handed out without proper underwriting and without proper ratings. Subprimes never reached more then 15% of the market, according to the FRB SF. That’s why I question the conventional wisdom on subprimes.

          I just found this, haven’t dug in yet:
          http://people.duke.edu/~ebr4/website_files/Subprime_Mortgage_Study_070810.pdfReport

          • Avatar Kimmi in reply to zic
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            says:

            I think you’re missing alt-A’s in there. 680 or more credit rating, I think is what was required for primes, which made up very little of the market (and still do)Report

        • Avatar zic in reply to BlaiseP
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          says:

          Stuck in moderation reply to BlaiseP here.Report

        • Avatar DavidTC in reply to BlaiseP
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          says:

          Dave contends, with commendable insight, the ratings agencies are at the root of the problem.

          Erm, not really. Yes, they gave absurd ratings to crap, but that was just because they were paid to do so. They weren’t the ‘root’, they were just a participant.

          But how would anyone rate these critters effectively? In a pool of a thousand mortgages, how could anyone know what’s going on?

          If we can’t trust third-party ratings agencies (And we clearly cannot trust them.), and we obviously wouldn’t be so insane as to start trusting the _banks_ to rate themselves…then what?

          This article is because I ask the question ‘Why do we need a mortgage-backed security market in the first place?’

          Well, here is a related question: Please explain how a mortgage-based security market is supposed to work when it is patently obviously that everyone involved in it is willing to blatantly and continually lie?Report

          • Avatar BlaiseP in reply to DavidTC
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            says:

            If you can’t trust someone, you use a third party with enough muscle to enforce the terms of the bet. That means trading risk on a public exchange. I’ve already said this. It’s how every other market manages unknown risk against future delivery. I’m sick of explaining the obvious here. There are dozens of different bond markets. Mortgages, too. Read and be instructed.

            One aspect of the problem was all this OTC trading: nobody was aware of anyone else’s exposure. A sells to B, B sells to C, C sells to A, one big circular clusterfugg — the big Wall Street houses had no idea what a monster they’d created until the whole thing collapsed. Almost everyone was long on the CDS market, everyone thought their positions were covered — as if AIG et al. could really cover all those bets. If CDSes had been traded on a real exchange, say ICE, everyone would know. Bets would have been covered. The market would have gone limit down and trading would stop before a panic ensued requiring emergency intervention in the middle of the night and a titanic bailout package to save Capitalism As We Know It.Report

            • Avatar DavidTC in reply to BlaiseP
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              says:

              Okay, I don’t understand at all.

              I get the claim that trading on an actual exchange would stop the collapse that happened because no one could actually cover their positions. (Although, frankly, I had forgotten that is what actually _caused_ the collapse.)

              What I don’t get is what this has to do with ratings or what it was to do with your first sentence, or how it would help with the _other_ problem, specifically, everyone was actually lying about the _contents_ of the securities, and the loans were all overrated, and no one was actually bothering to create the securities correctly. That is the ‘rating’ problem that I thought we were talking about.

              Not letting the entire damn markets assume insane positions would, indeed, be helped by an actual exchange, but that doesn’t really seem to fix the fact it was a market in trading crap and lies to start with.

              Is the idea that the exchange itself would regulate what was on the market? Why would it do that?Report

              • Avatar BlaiseP in reply to DavidTC
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                says:

                Let’s pose a little thought experiment. You want a loan. I’m a lending institution. I agree to loan you N dollars for something, doesn’t matter what. It’s backed by some asset, current value A. I look at your credit pull, I decide to loan you the money at rate R, determined by your credit score. I charge you a down payment, D. You agree to pay me M dollars every month. I go to the market, find you N dollars.

                But I want to hedge my bet against you defaulting. Using the same methodology for determining your qualification for the original loan, someone’s going to take my bet using those numbers. They’re going to want to see those numbers every month: verification of you repaying the loan, taking a look at your current credit rating, even changes to the market price and liquidity of Asset A. It’s not hard to keep up on that information.

                You might get in a spot of trouble and lose your job. Your credit rating goes to hell in a hand basket. It’s now going to cost me more money every month to keep up that hedge. We might work out a refi, really fast, maybe start digging into your equity position in the house, we’re both in this together. I have the hedge in place but I’m bleeding, too.

                The 2008 situation featured lots of lies. Your credit rating was never exposed to the market at large. Mortgages were being bundled together like so many sick hogs into the back of a truck. The ratings agencies were saying “well, those hogs are still alive, aren’t they?” and they were, technically speaking. People were making the first few payments. Nobody contemplated the whole market going sideways at once. There were even some cockamamie quants who tried to tell us it wasn’t even possible.

                Look, there are two viewpoints on all this. Actuaries, who deal in real world risk — and Quants, who are trying to game the system. I am firmly in the Actuary Camp, I’ve built enough Quant models to know it’s numerical astrology.

                There’s only one strategy which ever works in investing: three legs. One, enter the market, two, place a risk stop and three, place a profit stop. The quants can help you figure out where to place those stops but the actuaries will tell you about risk and probability. The mortgage markets will always need a way to lay off risk, in point of fact, many ways. The markets will always be interested in risk, but only when those risks are properly set forth. Dave’s right in saying Moody’s and the others weren’t being honest: he’s right. That’s disguising risk, a fundamental market distortion. An open exchange is the only prevention for such lies: if your loan gets in trouble, everyone with skin in that game should know.Report

            • Avatar Dave in reply to BlaiseP
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              says:

              One aspect of the problem was all this OTC trading: nobody was aware of anyone else’s exposure. A sells to B, B sells to C, C sells to A, one big circular clusterfugg — the big Wall Street houses had no idea what a monster they’d created until the whole thing collapsed. Almost everyone was long on the CDS market, everyone thought their positions were covered — as if AIG et al. could really cover all those bets. If CDSes had been traded on a real exchange, say ICE, everyone would know. Bets would have been covered. The market would have gone limit down and trading would stop before a panic ensued requiring emergency intervention in the middle of the night and a titanic bailout package to save Capitalism As We Know It.

              I think is an excellent explanation of what happened in the derivatives markets and why I would like to see credit derivatives traded on exchanges. It’s not only to monitor participants and make sure they are appropriately compromised but also to allow regulators to have a handle on counterparty risk (A to B to C, etc.). It was not just about now knowing who had exposure to what but what happens as a result of a major counterparty dropping out of the market. Worst case scenarios pose risks of a systemic nature, as we saw not only with AIG but also with the government bailout of Bear Stearns.

              That said, I don’t think exchanges are necessary with mortgage-backed securities. Wall Street sells a security. It’s no different than a transaction involving equities or other forms of debt. There’s no real betting taking place (not with institutional quality investment-grade rated tranches) and there’s no counterparty risk. The securities are sold pursuant to private placement rules and are available only to qualified institutional buyers. As most of the investors will hold them to maturity, there is little if any secondary trading going on (obviously nothing like common stock).

              The issues that caused the problems with mortgage-backed securities originated in the collateral quality. So long as that is properly addressed by the regulators and then applied by the ratings agencies, I think that will provide the level of transparency that investors will get comfortable with. I agree with your advocacy of exchanges on transparency grounds. Yet, in this case, I think we can achieve a satisfactory level of transparency without them.Report

              • Avatar BlaiseP in reply to Dave
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                says:

                The regulators are not to be trusted. It’s like the goddamn Keystone Kops with those bozos. They come and go from the market into the regulator roles and back again and most of them couldn’t find their anuses in the dark with a map and a flashlight. Only an open market in risk will ever cope. Regulate that market.Report

      • Avatar Kimmi in reply to zic
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        says:

        http://en.wikipedia.org/wiki/A-paper
        That’s what a prime mortgage is. It’s a vanishingly small part of our current market.Report

  3. Avatar BlaiseP
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    says:

    Within the definition of every problem lies its solution. If you haven’t defined it well enough, the solution won’t appear.

    My own thinking on the subject starts here. It doesn’t end here, though. To expose risk, we need open markets in risk. Over-the-counter trading in pure risk requires regulation — but what sort of regulation might serve? Markets such as CME, NYMEX and many other bourses serve the purpose, for they are regulated from within and without. Mere external regulation will not service and we’ve seen what mere internal regulation produced. There must be a synthesis: as varies risk, so must vary regulation.Report

  4. Avatar BlaiseP
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    says:

    The Usual Suspects are hammering the FX currency trading system. Citigroup, JPMorganChase, UBS, Barclays — but I’m sure our Libertarian buddies will tell us it’s all great, that jamming shims into the markets is gooooood for us, that regulating exchanges is baaaad.

    Do you know that Dodd-Frank has specific exemptions for FX? It’s the largest market of all, something like 4 trillion USD (in many different currencies, obviously) moves through FX every day. Things that make ya go Hmmm…..Report

  5. Avatar J@m3z Aitch
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    says:

    Ah, the US. Where we can’t solve problems _before_ they happen

    It’s something of a mistake to think other countries aren’t as bad as the U.S. at solving problems before they happen because it’s something of a mistake to think that humans in general have much capacity for prospective problem solving. It’s awfully easy after the fact to complain that somebody else didn’t solve the problem before the fact, but it’s neither helpful nor meaningful.Report

    • Avatar BlaiseP in reply to J@m3z Aitch
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      says:

      Heh. The US. Where we can’t solve problems before they happen _again_. It used to amaze me how people never seemed to learn from failure. It doesn’t any more.Report

    • Avatar DavidTC in reply to J@m3z Aitch
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      says:

      No, I wasn’t complaining that we didn’t solve problems before they happen…almost no one manages to do that, even if a few people do see the problem. The amount of countries that have said ‘Hey, wait, if we let this keep happening we could have a problem in a decade.’ is almost nil. I wasn’t taking issue with that. 🙂

      But we do seem to the be the only country unwilling to solve them _after_ they happen, though, under some odd theory that we’re ‘too close’ to the problem to effectively see it or ‘too emotional’.

      So we ignore it long enough that it wraps back around to being a problem that ‘doesn’t happen’, so no one can fix it then either. We are in danger of doing it with the financial industry.

      It’s a really stupid pattern with us. I dunno, perhaps it happens in other countries too.Report

  6. Avatar Citizen
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    says:

    Risk is a teacher. Regulation is not a student.Report

  7. Avatar DavidTC
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    says:

    The markets are very useful. I’ve laid out reasons why I think they are.

    No, you haven’t.

    You’ve explained why people need to be able to slice up loans if they want to invest in the market, and why grouping a bunch of loans together allows diversification of risk. (Although I actually have objections to the second. Nothing is stopping investors from just investing individually in a bunch of mortgages, there’s no reason we need to make an actual security out of the group. But that’s not important right now.)

    You have failed to explain the _actual point_ of the market in the first place.

    I understand and mostly agree how things need to be if we wish to have a market in mortgage investment.

    But I ask ‘…and those reasons are?’ and you respond with ‘If I am an investor and I have an allocation to make towards commercial real estate loans…’

    That is not a ‘reason’. That is an assumption that such a market should exist to start with.

    Please state what you think would actually happen if, for example (And this is just an example and I think it would be overkill and in no way actually suggest it) we required banks to keep 90% of the mortgages they issued and it was illegal to sell securities or derivatives of those, or get insurance on them. Please explain it in terms of what would actually happen to the economy or to normal humans beings, not the people who are currently gambling in the casino, who we all _know_ would have to go elsewhere.

    The only claim I’ve heard is that capital would dry up. Which seems reasonable to some extent, except, wait. Investor money doesn’t just disappear. Logically, it would be invested in something else and continue to exist. Perhaps in the corporations themselves so they didn’t have to get such large loans, or perhaps people would just invest in the banks. Otherwise, the money would just…uh…sit in banks, so it _would_ be available for issuing loans. Hrm, interesting.Report

    • Avatar BlaiseP in reply to DavidTC
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      says:

      Nothing is stopping investors from just investing individually in a bunch of mortgages, there’s no reason we need to make an actual security out of the group. But that’s not important right now.

      It is important. When you sell your house, who writes you a check? Whose money backs that check? That’s ultimately investor money, not the bank’s money. We live in a world where fractional reserve banking keeps capitalism afloat. The Mises Crowd hates this fact, but they’re all innumerate idiots anyway: let them shriek, they’re worse than useless every one of them. They think this money comes out of thin air but the Big Banks sell all sorts of instruments to fund this proposition. They are called mortgage-backed securities for a reason.

      In the sweat of thy face shalt thou eat bread,
      till thou return unto the ground;
      for out of it wast thou taken:
      for dust thou art, and unto dust shalt thou return.

      This is also the process whereby capital and from thence equity are created. Were we to take your 90% proposition seriously, everyone would be obliged to build their own houses. Where would the loan origination money come from, if not from the securities markets?Report

      • Avatar DavidTC in reply to BlaiseP
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        says:

        It is important. When you sell your house, who writes you a check? Whose money backs that check? That’s ultimately investor money, not the bank’s money.

        And it _used_ to be depositor money, and that system worked _perfectly well_.

        We live in a world where fractional reserve banking keeps capitalism afloat.

        Erm, the old system I’m talking about, before banks decided to invent this nonsense, is also ‘fractional reserve’. $100 is _deposited_ in a bank, and $200 is loaned out.

        Now, banks use ‘investors’, and depositors are completely SOL. Which is another reason this idiotic system needs to be justified….now no one gets interest anymore, because banks have enough money _without_ deposits.

        And you’re about to assert the economy is so much bigger now, so that deposits can’t provide enough.

        To that I say, firstly, ‘Huh?’, because money not invested in securities is invested in stocks, so is still in the economy, or deposited in banks to gain interest…which means it will be loaned out. The lack of a type of investment doesn’t mean money gets put in mattresses.

        Secondly, I point out, the amount of _printed_ money is not some fixed invariant number. We don’t have to wave a magical mortgaged-base security wand to create enough. If less money is created via fractional reserve without securities than with it, and we want the later amount, we can just _print more_.Report

    • Avatar Francis in reply to DavidTC
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      says:

      The actual point of the CMBS marketplace is to provide a vehicle for the trading of an asset that generates a predictable cash flow. Lots of things like cash flows. Pension funds, for one example, were big buyers of MBS. They need to do something with the cash coming in off of people’s paychecks. Assets with predictable cash flows serve as a great vehicle for generating the income streams necessary to pay off current pension obligations.

      There’s an enormous difference between CMOs (collateralized mortgage obligations) and CDS (credit default swaps). The first is an investment in a pool of real assets; the second is a bet on the non-performance of the first. What pains a moderate liberal like me is that the US Govt bailed out AIG (a huge issuer of CDSs), not the bailout of Fannie and Freddie (huge issuers of CMOs). It’s one thing to invest taxpayer dollars to support banks; it’s another thing altogether to bail out casinos.

      (Note: It’s illegal in most states to sell insurance to a person who doesn’t have an insurable interest. You can’t get life insurance, for example, on your neighbor. Is it because of the perverse incentives, or because such an insurance market could spin out of control? Many people point the finger at Bill Clinton being a principal cause of the financial crisis, because he signed the Commodity Futures Modernization Act, which permitted AIG to do what it did. That act, not the end of Glass-Steagal, is arguably the single greatest contributor to the Great Recession.)

      One problem with banking regulation is that a modern bank is both a traditional lending institution and (as it hedges the risks it carries on its ledger) a casino. Teasing out the bank aspect from the casino aspect turns out to be really hard.

      We could, in theory, turn banking back about 60 years and prohibit banks from (a) selling any loans that they originate and (b) hedging any risk that they carry. Many people believe that such an act would constitute slicing off your head to spite your face; the resulting reduction in liquidity would cause a massive collapse in global investment.Report

      • Avatar DavidTC in reply to Francis
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        says:

        The actual point of the CMBS marketplace is to provide a vehicle for the trading of an asset that generates a predictable cash flow. Lots of things like cash flows. Pension funds, for one example, were big buyers of MBS. They need to do something with the cash coming in off of people’s paychecks. Assets with predictable cash flows serve as a great vehicle for generating the income streams necessary to pay off current pension obligations.

        *facepalm*

        I guess I need to be more specific in my questions. I just asked for a reason for the market to exist, and that is, in fact, technically ‘a’ reason.

        I shall rephrase: Does anyone have a GOOD reason to for the mortgage-based securities market to exist. Something it actually _does_, not something it failed horrifically at and destroyed everyone’s pensions?

        We could, in theory, turn banking back about 60 years and prohibit banks from (a) selling any loans that they originate and (b) hedging any risk that they carry. Many people believe that such an act would constitute slicing off your head to spite your face; the resulting reduction in liquidity would cause a massive collapse in global investment.

        Yes, destroying the mortgage-based security market would, indeed, cause a massive collapse in global investment, or at least a massive collapse in global investment in mortgage-based security. That’s sorta implied in the premise _of_ destroying the market.

        My question is: Why the fuck should _any_ of us care about the mortgage-based security market?Report

        • Avatar DavidTC in reply to DavidTC
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          says:

          ‘Why the hell do we have to wear stilts all the time?’

          ‘It keeps our shoes from getting muddy. We need to keep from being muddy.’

          ‘…you were here five minutes ago when the stilts caused us to fall over and faceplant into the mud, totally ruining our entire set of clothes, right?’Report

        • Avatar Dave in reply to DavidTC
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          says:

          I shall rephrase: Does anyone have a GOOD reason to for the mortgage-based securities market to exist.

          Francis gave you one.

          Something it actually _does_, not something it failed horrifically at and destroyed everyone’s pensions?

          The CMBS market did no such thing.

          My question is: Why the fuck should _any_ of us care about the mortgage-based security market?

          You tell me. You’re the one asking us to give you a justification for its existence. All I can tell you is why people that invest in it or use it as a source of borrowing find the market valuable. That’s real world stuff. If you’re looking for more than that, I’m not your guy for the conversation. It may be an interesting conversation for some but it’s far too detached from my real world experiences.

          It’s mortgage-BACKED security.Report

    • Avatar Dave in reply to DavidTC
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      says:

      No, you haven’t.

      I respectfully disagree. If I am bringing the perspective of investors that prefer this sort of security and find this market beneficial, that answers the question.

      Although I actually have objections to the second.

      While some of the worst of the worst pools of mortgage loans were far from diversified, in normalized markets, there is a lot more diversity. From my own experiences with CMBS, there is quite a lot because investors don’t want to be overexposed to single property type, single market or a single property. Please state your objections so I can better understand where you’re coming from.

      Nothing is stopping investors from just investing individually in a bunch of mortgages

      How about the investors themselves? Why do you presume that investors that deal with this asset class day in and day out would be better off investing in whole loans when they prefer to invest in mortgage backed securities for the reasons I mentioned? Also, if the criticism of mortgage-backed securities is that the sellers of the paper didn’t care about the loans because they weren’t bearing the risk, then how does whole loans mitigate that issue when someone selling a whole loan is also not the person bearing the risk? This is important.

      I understand and mostly agree how things need to be if we wish to have a market in mortgage investment.

      It’s not up to you to decide that.

      That is not a ‘reason’. That is an assumption that such a market should exist to start with.

      We’re talking past each other here. Francis gave you a great explanation and if you don’t think that a market that can and does provide investors with a stable cash flow (and one that can be structured to be far less risky than holding a whole loan depending on the tranche) should exist, I have no idea where to go with this conversation.

      Please explain it in terms of what would actually happen to the economy or to normal humans beings, not the people who are currently gambling in the casino, who we all _know_ would have to go elsewhere.

      It is this kind of folk economics that leads me to believe that you have no understanding of these markets. Investors in mortgage-backed securities, especially AAA, AA or A-rated securities are not gambling. If you’ve ever dealt with investment officers at pension funds, they aren’t the gambling type (making bad investments does not constitute gambling btw). They are buying what they believe are safe investments based on the risk. This is always how the MBS markets functioned. Even when the toxic sludge got the AAA ratings, investors bought them on the premise they were safe. How is that gambling? They may have been victims of fraud.

      As far as what will happen? Back in 2009, the CMBS markets were shut down. At that time, there was a fair number properties that had loans expiring. They were part of different 1999 and 2004 vintage CMBS issues (5 and 10 year maturities). The overwhelming number of these loans were performing loans.

      The real fear back then was that the lack of access to the conduit lenders as a vehicle for refinancing would trigger a mass of loan defaults if only because borrowers were not able to refinance loans. I don’t remember the exact number off the top of my head but CMBS had maybe 33% or more of the total commercial mortgage market. The other lenders in the market could have picked up a little bit of this slack but not all of it. The fear was a mass selloff. It never materialized because loan servicers began to play the extend-and-pretend game and just let borrowers continue to make payments (a strategy that was quite helpful actually).

      In your scenario, a lot of investors would take losses since they would no longer be able to refinance. Those investors have companies. Those companies have employees. Those employees can end up losing jobs as the firms take massive losses. If those firms are, say, private equity, then their investors (pension funds among others) take a huge hit on their equity/alternative investment allocations.

      Given a fire sale in assets, bondholders would take massive losses. Those uber-rich capitalist swine pension funds among them. Property values would drop substantially and in certain cases, certain property types would be very hard to get financed making it a cash market. Good luck finding buyers. Maybe you switch from investor-owned real estate to tenant-owned real estate, but then that becomes a problem with multi-tenant buildings. Even with respect to single tenant buildings, why should companies allocate scarce capital to non-accretive owned-real estate?

      On the residential side, I don’t see much difference between your scenario and 2006 and 2007 when the residential mortgage-backed securities market fell apart. It led to a drop in property values and massive foreclosures as borrowers couldn’t refinance loans and/or not afford to make payments.

      I suppose I could think more about this but since it’s so pie-in-the-sky I thought I’d fire off a few quick points.

      Investor money doesn’t just disappear.

      It moves to the sidelines

      Logically, it would be invested in something else and continue to exist.

      You have no way of demonstrating that to be the case. Besides, that opens a huge can of worms.

      Perhaps in the corporations themselves so they didn’t have to get such large loans, or perhaps people would just invest in the banks.

      I don’t follow.

      Otherwise, the money would just…uh…sit in banks, so it _would_ be available for issuing loans. Hrm, interesting.

      It won’t sit in banks. They’ll invest in short-term highly liquid investments like T-Bills, money market funds, commercial paper or repos. Even if it sat in banks, who says the banks will increase lending? You’re making as many assumptions about your point of view as I am mine.Report

      • Avatar DavidTC in reply to Dave
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        says:

        How about the investors themselves? Why do you presume that investors that deal with this asset class day in and day out would be better off investing in whole loans when they prefer to invest in mortgage backed securities for the reasons I mentioned?

        I GIVE EXACTLY NO FUCKS ABOUT INVESTORS.

        I don’t quite know how to explain this to you in any simpler terms.

        Investors do not have some magical right to have a certain market exist.

        Also, if the criticism of mortgage-backed securities is that the sellers of the paper didn’t care about the loans because they weren’t bearing the risk, then how does whole loans mitigate that issue when someone selling a whole loan is also not the person bearing the risk? This is important.

        The risk is migrated because there is a lot _less_ selling.

        When you do _less_ of something, it is _by definition_ less dangerous.

        It’s not up to you to decide that.

        *checks his wallet* A voter registration card. Hrm.
        *checks the constitution* Regulate interstate commerce. Hrm.

        I guess it _is_ up to me, along with every other voter, to decide which securities can legally be sold in this country.

        It is this kind of folk economics that leads me to believe that you have no understanding of these markets. Investors in mortgage-backed securities, especially AAA, AA or A-rated securities are not gambling. If you’ve ever dealt with investment officers at pension funds, they aren’t the gambling type (making bad investments does not constitute gambling btw).

        Just defining something as ‘not gambling’ does not, in fact, make it not be gambling.

        They are buying what they believe are safe investments based on the risk. This is always how the MBS markets functioned. Even when the toxic sludge got the AAA ratings, investors bought them on the premise they were safe. How is that gambling? They may have been victims of fraud.

        And, of course, it would be crazy for the government to do something to make it harder to sell fraudulent products, or even outlaw certain types of things all together.

        No if you’ll excuse me, I have to go drink my daily snake oil to cure my cough before I restart my perpetual motion machine that seems a little flakey.

        The real fear back then was that the lack of access to the conduit lenders as a vehicle for refinancing would trigger a mass of loan defaults if only because borrowers were not able to refinance loans. I don’t remember the exact number off the top of my head but CMBS had maybe 33% or more of the total commercial mortgage market. The other lenders in the market could have picked up a little bit of this slack but not all of it. The fear was a mass selloff. It never materialized because loan servicers began to play the extend-and-pretend game and just let borrowers continue to make payments (a strategy that was quite helpful actually).

        So you’re standing there and _pointing out_ that mortgage securities only had _a third_ of the commercial mortgage market to start with, yet, you are predict ABSOLUTE CALAMITY if that third goes away. Because there’s no other way that last _third_ could exist. I mean, it’s not like two-thirds of the market wasn’t entirely fine with holding their mortgages without sticking them in securities.

        *holds hand to earth* Oh, I’m being told they _were_ fine with doing that.

        In your scenario, a lot of investors would take losses since they would no longer be able to refinance. Those investors have companies. Those companies have employees. Those employees can end up losing jobs as the firms take massive losses. If those firms are, say, private equity, then their investors (pension funds among others) take a huge hit on their equity/alternative investment allocations.

        …because investment firms, if they can’t continue to invest in a certain specific type of investment, just close their doors and fire everyone.

        You know, I don’t actually care about investors, so _technically_ I shouldn’t care if this was going to happen…but it’s a completely idiotic premise anyway.

        On the residential side, I don’t see much difference between your scenario and 2006 and 2007 when the residential mortgage-backed securities market fell apart. It led to a drop in property values and massive foreclosures as borrowers couldn’t refinance loans and/or not afford to make payments.

        …my ‘scenario’? I don’t think I proposed _any_ way to do what I was saying (I gave a hypothetical of banks having to keep 90% of loans, but then I clearly stated that was not a very good idea for other reasons), nor any time frame.

        Now, to come up with some way that my idea is bad, you’ve decided randomly I was talking about doing it _all at once_. Which _obviously_ would cause a huge shock to all all sorts of things.

        Of course, I haven’t any point suggested doing things that way. Obviously, phasing out a market would take a rather long time.

        On the residential side, I don’t see much difference between your scenario and 2006 and 2007 when the residential mortgage-backed securities market fell apart. It led to a drop in property values and massive foreclosures as borrowers couldn’t refinance loans and/or not afford to make payments.

        Really? You don’t see a difference between my plan and a _short-term disruption of the market_? Did you really just say ‘If we got rid of mortgage backed securities all at once, we’d have to suffer through a few years of slowed growth, and then everything would be fine’?

        Well, yes. I _entirely_ agree with that premise. The _only_ bad effect of removing that market would, indeed, be temporarily slowed growth.

        Moreover, if we do it _slowly_, phasing in rules that make it more and more difficult to make mortgage-backed securities over a decade or so, and slowly let the existing market expire, we won’t even have to suffer through slowed growth.

        It moves to the sidelines

        Where investors would keep their money, because they’re all stupid or something.

        It won’t sit in banks. They’ll invest in short-term highly liquid investments like T-Bills, money market funds, commercial paper or repos. Even if it sat in banks, who says the banks will increase lending? You’re making as many assumptions about your point of view as I am mine.

        Um, banks would _have_ to increase lending if they actually wished to make money. Because that is how banks _normally_ make money. At minimum, they need to make loans to cover the interest they’re paying on deposits.

        Are you actually asserting that banks have decided to not actually do their job? That they are now somehow fundamentally incapable of turning their deposits into loans, and taking a cut of the difference interest rates? (You know, how _banks_ work?) That no one would step in and _start_ doing that if the banks refused?

        Did you earlier accuse _me_ of not understand the markets? Do you actually understand what a _bank_ is, or is that just some strange word for ‘investment house’ in your dictionary?Report

        • Avatar DavidTC in reply to DavidTC
          Ignored
          says:

          Also, this I think paragraph deserves a special ‘Huh?’

          It won’t sit in banks. They’ll invest in short-term highly liquid investments like T-Bills, money market funds, commercial paper or repos

          Firstly, commercial paper _is_ a loan. You just asserted that money won’t be in banks for them to make a commercial mortgage from…because the money will, instead, already have been loaned out to corporations! Oh noes! Corporations won’t be able to get loans because all the money will have been given to corporations in the form of loans!

          Yes, it’s not the _same_ sort of loan, but duh, it’s still money in their pocket, and will function just fine keeping the economy moving. (And, of course, corporations tend to keep money in _banks_, so, hey, it’s also there, and can be loaned out again.)

          Secondly, the weird thing about T-Bills is that, uh, there’s a fixed amount of them. The government isn’t issuing them for fun, they are issuing them to cover their deficit. Investors can’t put ‘more money’ in T-Bills, all they can do is bid interest rates down.

          Thirdly, saying they’ll put the money in ‘repos’ is just saying they’ll put the money in the existing securities market in complicated ways. In case you’ve forgotten, the _other_ side of that market _also_ exists, and once _they_ got the money, _they’d_ put it in the bank.

          I swear, it’s like everyone else here has this amazingly detailed knowledge of how securities work…and no idea of how the system _used_ to work, without securities. Where money was put in a bank by various people and loaned out by the bank against collateral.Report

  8. Avatar Citizen
    Ignored
    says:

    I would say DavidTC has the stronger argument that logic and reason are lost here. How do you explain some systems don’t have to exist to those who so depend on them?

    There is the forest for the trees and the trees for the leaves. Yet nobody sees green.Report

    • Avatar BlaiseP in reply to Citizen
      Ignored
      says:

      Reason has not been lost.

      I repeat myself: to understand a problem, you must first define it. These instruments are not so exotic: each solves a very specific problem. All those problems arise from the nature of risk and profit. Ever hear that old expression, “nothing ventured, nothing gained” ? As varies risk, so varies profit. But as varies risk, so varies the need for regulation.

      We can dispute the form and substance of such regulations, that’s all fine and good. The weakest point in Dave’s argument resolves to this point: 1) The market has no interest in the kind of garbage that was making its way into loan pools back in the old days;

      Let’s not kid ourselves here. If there’s anything Hayek got right, it’s the repetitive stupidity of markets. Oh, these Wall Street fucks might all be sucking their scorched fingers after the Big Bust of 2008 and hiding under the shelter of Reg’lar Rabbit Bank Incorporations — but these guys are greedy. As a dog returneth to his vomit, so a fool returneth to his folly. Not only will these fucks return to selling these shitty mortgages, they’re already hard at work castrating Dodd-Frank so they can sell even worse products.

      Nobody’s talking about the mountain ranges of consumer debt and student loan debt on the books: those are profitable li’l markets right there. Student loans aren’t dischargeable in bankruptcy. In 2003 there were roughly 250 BN USD outstanding in student loans. Now it’s approaching a trillion USD. Let’s put this in perspective: there are roughly 800 BN USD outstanding on car loans in this country. Only (!) 600 BN USD in credit card debt.

      Of that roughly 1 TN USD in student debt, over 10% of those loans are already +90, which would send you to collections under normal circumstances. Interest goes on compounding on that debt: about 60% of that trillion, that’s 600 BN USD is held by people with a net worth of less than 10 K USD. Those quasi-educated saps might have a degree (lots of them don’t) but they will be paying on that debt for the rest of their natural lives. These people will never own homes. They’ll never have a decent credit rating. They’ll be wage slaves forever.Report

      • Avatar DavidTC in reply to BlaiseP
        Ignored
        says:

        Indeed. People who argue the problem is solved are fools. It _might_ be solved with mortgages, or might not. But if it is solved there, it will just pop up elsewhere. The finance industry are goddamn lunatics playing with other people’s money.

        Part of the problem, of course, is that they generate a lot of the money that exists. So they’re all desperately trying to generate it _in their pocket_.

        Normal human beings, us mere mortals, need a system that is safe, period. All normal transactions with banks should be in a bubble that is _actually safe_.

        You know what, my earlier question about why we need mortgage-backed securities didn’t go far enough? Why do we even need _private banks_?

        Or, rather, why shouldn’t we have a public bank that is actually just the US Treasury? It could hold our money and pay interest on it, it could (In fact, used to) issue student loans, it could even give mortgages to people. It could handle the banking needs of 90% of the population.

        (Just watch, someone is about to explain to me how private banks work, completely ignoring my question of why we can’t have a public one.)Report

        • Avatar Don Zeko in reply to DavidTC
          Ignored
          says:

          This is the key point, to my mind. I agree with Blaise: to solve the problem, we must first properly define it. Yet it seems to me that for most of this discussion, the problem has been defined as “synthetic derivatives and other mortgage-backed securities have caused market failures,” when in fact the real problem is “a failure in the mortgage-backed security market triggered a cascade of failures that required massive government intervention and still caused a severe depression. Fixing the first problem is nice, but doesn’t solve the second. The lure of the Wall Street Casino is strong, so fixing one sub-market is squeezing the proverbial balloon: the stupid speculative money finds some other way to defy financial gravity. So to my mind, the underlying goal should be to make speculation as unprofitable as possible. We need a small, lightly leveraged financial sector in order to prevent its inevitable stupidities and corruptions from damaging the rest of the economy in the way they did after 2007.Report

      • Avatar Dave in reply to BlaiseP
        Ignored
        says:

        We can dispute the form and substance of such regulations, that’s all fine and good. The weakest point in Dave’s argument resolves to this point: 1) The market has no interest in the kind of garbage that was making its way into loan pools back in the old days;

        I agree that it’s the weakest point, but I’ll clarify that I put it out there only as a factual point to describe the state of the market. I don’t know how enthusiastic I would be using this argument to argue against certain kinds of regulation. Yes, the market is getting it right at this point in time, but that could all change.Report

        • Avatar BlaiseP in reply to Dave
          Ignored
          says:

          Yeah, so stipulated. Really, I just don’t see how we can regulate our way out of this mess: the gonifs are always one step ahead of even the most determined regulators. I watch the markets pretty closely and I don’t agree the markets are “getting it right.” They’re going right back to OTC swaps, saying as they always do, “oh, it’s such a specialised marketplace, there’s no possibility for standard contracts, you’d never get it out on a trading floor, we’ll do fine with SEF, we don’ need no steenking floor trader badges or an open trade book…”

          And as usual, it’s a pack of gonif excuses. Bloomberg is at the heart of this crap, suing CFTC. Talking about building up flood walls around Lower Manhattan. That skeevy bastard should put up a blast wall around Wall Street. Cause it’s gonna happen again.Report

  9. Avatar Kimmi
    Ignored
    says:

    You’re alleging that people with Credit ratings below 680 or so aren’t being lent to? Most mortgages on the market are subprime these days. Because very few people have 20% downpayment (or even 10%).

    Granted, a good deal come through FHA….Report

  10. Avatar Kimmi
    Ignored
    says:

    DavidTC,
    Why do you keep trying to put out the fire that already charred your hand? I’ve got three more fires that are burning right now, and more coming where those came from (some, like college loans, have been talked to death around here).

    Although, truthfully, fixing “privatize the profits and socialize the risks” would do everyone some good.Report

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