Transcript Subprime Lending Crisis Key Events

Figure 8.3:
Subprime Lending Fiasco – U.S. Housing Bubble
Very Low
Interest Rates
U.S. Housing Bubble
Unsustainably
High House Prices
Excessive
Foreign
Savings
Mortgage
Securitization
& Resale
Transfer of Risks
From Lenders
To Investors
House Prices
Crash
Unsuspecting
Investors Lose
Jobs, Pensions
Government
Bailouts
Greed &
Conflicts of
Interest
Bad Mortgage Loans
Liar, No doc, Ninja,
No deposit
Bad Ratings
Lack of Transparency
Misguided Regulators
Public
Pressure
Figure 8.1: Subprime Lending Fiasco – Stages
Enabling the
Housing Market
Building the
Housing Bubble
•Securitization starts
•Credit default swaps
•Banks can speculate
•No leverage limits
•Stimulation starts
•More stimulation, low int.
•Securitization transfers
mortgage risk to investor so
lender can take poor risks
•Unlimited investor demand
for mortgage-backed securities
•Competition to loan leads to
subprime loans, inflated house
prices, more securitizations
•Credit ratings inflated
The Aftermath
•Subprime mortgage loan defaults rise
•Economy slows further as failure cycle continues
•Liquidity/credit crisis continues
•Investment banks fail
•TARP bailouts and liquidity support continue
•Stocks crash
•Securitization insurers fail
•Insurance companies fail
•Contagion spreads worldwide
•Countries become insolvent
•Worldwide bailouts start
•Restrictions start on business and capital markets
•More quantitative easing (QE2)
The Housing
Bubble Bursts
2007-8
•Economy slows
•Subprime loan
defaults rise
•Foreclosures rise
deflating house prices
•Walk-aways rise
•Securitizations default
•Insurers cannot pay
•Investors fail
•Liquidity/credit crisis
•Bailouts start
Figure 8.2: Subprime Lending Fiasco – Key Events
1997
1st Publicly Available
Securitization of CRA
loans
1999
Gramm-LeachBliley Act allows
banks to speculate
2000-2
•Commodity Futures
Modernization Act allows
banks to trade in Credit
Default Swaps
•Recession gives rise to
stimulus: lower interest
rates, housing tax credits,
subsidies, liquidity
increases
2007
•Housing bubble bursts
as house prices fall
•Subprime lending
collapses, failures
•Foreclosures rise
•Bear Stearns halts
redemptions on two
funds
•Stock market peaks
•Credit crunch begins
•Liquidity & bailout
measures begin
2008
•Home prices plummet
•Credit default swap insurance fails
•Bear Stearns sold to J.P. Morgan
•Banks fail, Bailouts start, Fannie
Mae & Freddie Mac taken over
•Bk. of America buys Merrill Lynch
•Lehman Bros. Bankrupt
•AIG & Iceland bailed out
•Washington Mutual & Wachovia
taken over. Stocks crash
•Troubled Asset Relief Progr. (TARP)
•Massive bailouts, liquidity support
2006
•U.S. Housing prices
fall
•Subprime lenders
start to fail
•Smartest investors
start to reduce
subprime exposure
(J.P. Morgan,
Goldman-Sachs)
2009
•Contagion worldwide
•Fears over Irish, UK,
European banks
•Short-selling restrict. in
Japan UK, France
•Quantitative easing
•GM Bankrupt
•Flash crash
•TARP: exec. comp.
restricted & repayments
start
2003-4
•Loan standards
discarded
•Securitization grows
•Bank leverage limits
suspended allowing
unlimited
borrowing to buy
subprime mortgagebacked securities
2005
•Credit default swaps
allowed as insurance on
subprime collateralized
debt obligations
•Housing market boom
stops
2010
•European Debt Crisis –
Greece, Ireland, others
Greece bailout
•U.S. foreclosure crisis
•2nd Quantitative easing
wave (QE2)
•Rating agency reform
•Fin. Enforcement Task
Force created
•Flash order ban
•Dodd-Frank Act
Sources: Timelines documents from the Federal Reserve Bank of New York and Wikipedia
Lehman’s Bankruptcy
• Update: A statement from Ernst and Young: Lehman's
bankruptcy occurred in the midst of a global financial
crisis triggered by dramatic increases in mortgage
defaults, associated losses in mortgage and real estate
portfolios, and a severe tightening of liquidity.
• We firmly believe that our work met all applicable
professional standards, applying the rules that existed
at the time. Lehman's demise was caused by the global
financial crisis that impacted the entire financial
sector, not by accounting or financial reporting issues.
•
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