How Subprimes Work, In 45 Stick Figure Drawings

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Nick Douglas

02/23/08 02:05AM

Filed to: how things work

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Since I read Portfolio for my business news, I never know what the hell is going on in business. Thankfully there's this slideshow on Google Docs, which explains the origins of the subprime mortgage collapse (putting the blame on pretty much everyone working in a financial institution). Someone find this guy so he can explain brokered conventions. [UPDATE: If you still don't get the subprime crisis, the commenter ADismalScience further explains it in the thread below, here, here and here.]

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ae38 Nick Douglas 02/24/08 04:03PM

I don't know...me and my former colleague on an ABS structuring desk saw this on Abnormal Returns a few weeks ago and thought it was fairly accurate. The employee asking his boss those questions was eerily similar to us asking very similar questions back in the day. Especially since this whole thing was foreshadowed by the complete annihilation of the MH (mobile homes) market just as these CDOs backed by increasing amounts of sub-prime mortgages were really cranking. So while I think its admiral that you, ADismalScience, think banks would never do anything to hurt their clients, I think that viewpoint is somewhat naive. I mean, in the early 2000's there were a shitload of CDO's that went belly up b/c of MH and other shitty loans, but its like no one wanted to learn from that even though there was absolute certitude that we were in the midst of a housing bubble and prices would have to eventually go down once the market corrected itself and people would then find themselves in a negative equity situation which would erode the equity tranches of the securitized products. Yet, Wall Street makes its bonus on a yearly cycle and for at least 7 or 8 years, the Secured Products desks across the street were making up as much as 50% of firm revenue so there was very limited incentive to shut the machine down while it was rolling or enact more stringent safeguards b/c who the fuck cares - some of these guys were pulling in obscene bonuses (one of my bossers received over $30 mil in one year; I heard of some guys getting close to $100 mil at places like Countrywide) and the prospect of a market downturn and them losing their jobs was pretty irrelevant considering what they were making RIGHT NOW (don't forget - bond guys live and breathe off the idea of Present Value of money).

TheDismalScience Nick Douglas 02/24/08 11:50AM

@PandoraSpocks:

It's just not being captured well imo. Little "slideshows" and oversimplifications like this one usually have an anti-bank agenda. Just broadly - why would a bank seek to alienate its best customers by fucking them over? FYI, all banks want to do is retain those guys. They don't like getting it in the ass.

"Subprime" is a convenient media term to capture the length and breadth of the problem. Casual misuse of that term has caused people to conflate several other words - "liar loans," CDO's, and foreclosure - into some concept of the true problem, which is a liquidity crisis. Nobody wants to lend. It's actually far more troubling and deep than reported, and has flared way beyond the housing market by now.

meechybee Nick Douglas 02/23/08 11:59AM

I LOVE this.

I'd love to see chapter 2 that shows the consumer-side of the equation — ballooning personal debt (in rapidly-depreciable assets, like furniture, appliances, and electronics) that is tied to the value of the property in the form of bogus home "equity" spending.

With each dismal story, I'm starting to love the NYC co-op rules more and more: 10-20% down (in cash, not financed), equity spending that must be approved by the board (to make sure it is used properly), and strict sublet policies to avoid speculators. The NYC market learned this lesson in the 80s — it will be interesting to see if other communities start to adopt such strict rules.

Streets_Ahead Nick Douglas 02/24/08 06:35PM

I thought it was pretty accurate, and disagree that liar loans were a small number. Looking at housing prices, i would bet that 50% or more of the people who bought in CA and FL lied about their income. The median incomes in the US (generally, and those areas specifically) just aren't high enough to support the sales prices those houses were going for.

Anecdotally, I have a coworker who bought like 25 houses (mostly section 8s, but some regular as well) with liar-loans in hopes of renting them out and making a mint. Too bad it doesn't work that way in real life.

He piggybacked on his original house purchase agreement (around $500k) and levered that up to about $3mm for the other 24.

Now he's doing his best to shyster his way through bankruptcy, and to 'fix what he did wrong the 1st time around' when he buys his second batch. I'm sure he is more common than one might think.

I'm sorry everyone.