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Understanding the Current US Recession
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Understanding the Current US Recession

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Understanding the Current US Recession Understanding the Current US Recession Presentation Transcript

  • Securitization
    MBS
    Subprime
    Mortgages
    Write-downs and
    Losses
    Understanding the Present
    US Recession
    Housing
    Bubble
    Housing Bubble
    Burst
    Road to recovery
    The Impact
    Presented By:
    Shiva Pillai Harish Narula Rajesh Bangera
  • Lot of money
    The Excess Capital
    Excess capital globally
    Where to invest in order to make it grow?
    Qualification guidelines pretty tight
    Difficult to get mortgages
    Securitization
  • The Process
    The Big Picture
    Source: BBC Website
  • The new Process
    Picture of Sub-Prime Model
    Individual to Broker
    Broker to Bank
    Bank to Investment Firm
    Investment Firm to the Investor
    Security
  • The Products
    Sub-Prime Mortgages
    Typically, those who qualify for the most ideal mortgages with the best interest rates are those with good credit scores and minimal debt
    • Granted to individuals with poor credit histories
    • High Interest rates, High Risk
    • A R Ms
    • ARMs can be misleading
  • The Products
    Mortgage Backed Securities
    • Packaged
    • Low Risk (a pretty wild assumption)
    • Guaranteed Return (an even deadly assumption)
    MBS have developed extremely fast in 8 years
    Risk has been spread-out among Banks and Hedge-Funds
    Weak collateralization could induce a major liquidity crunch
    MBS Volume in Trillion US$
  • Boost is the secret
    Why did they buy homes?
    The core ingredient for a financial crisis is excessive lending and/or excessive risk taking
    • Low interest rates led to the opening of new mortgage markets (i.e.. new borrowers)
    • The US dream of owning your own home spread to many sectors of US society including low income borrowers
    • Stock Bubble – good sign to buy a new home
    • Stock Bubble Burst – an even better sign to buy a new home
    • 2001 recession (after the Terror strike) – Fed cuts Interest Rate
    • Home Ownership reach new heights
    • Re-Financing
  • Burst is the reality
    How did they lose their homes?
    • Until 2006, it was easy to get home loans
    • Expectations that the price of their home would continue to rise
    • 2005 - peak of the subprime boom, 1 in 5 mortgages was subprime
    • Housing prices reached its peak. They were now on a decline
    • Interest rates were beginning to “reset” to the higher rates
    • Monthly mortgage payments much higher than before
  • The rise of fall
    How did they lose their homes?
    • People then began to sell their homes
    • Not enough money after selling to cover the amount of the mortgage
    • This led to DEFAULT
    • After that Foreclosure and finally Auction
    • Bank gets much less than the original price of the home
    • More number of Defaults = More number of Auctions
    i.e. More number of Houses in the Market, which leads to further decrease in the housing prices
  • Fate of Investors
    And what happened to MBS?
    • Billions of dollars were lost in MBS
    • Belief that MBS was safe was proved to be wrong
    • Due to more number of DEFAULTS and fall in home prices
    • Backed by the fact that credit rating agencies had downgraded the ratings of these bonds
    • This means the $100 billion worth of bonds are now worth much less, because nobody wants to buy them
  • Investor’s House
    Picture says it all
  • Pretty Nasty
    Defaults in Mortgages
    Historical USA mortgage default rates were 0.5% to 1.0% of all loans
    _________________________________________
    As Per 2008 Q2
    18.67 %
    3.93 %
    PRIME
    SUB-PRIME
  • Aftermath
    General Impact
    • Values of CDOs or MBS collapsed
    • March 2008 – Bear Stearns dies
    • September 2008 – Lehman collapse, Merrill Lynch sold to BoA and AIG is nationalized with the US government becoming 80% shareholder
    • October 2008 – Lack of confidence in global banking system leads to fear of lending money to each other. Credit markets totally freezes
  • US Economy
    Direct Impact
    Stock Market:
    • 08/15/07 Dow Jones had dropped below 13,000 from July’s 14000
    • First 3 weeks of 08, the Dow Jones Industrial Average fell 9%
    • 1/18/08 Dow Jones/0.5%, S&P 500/0.6%, and NASDAQ/0.3%
    • 01/21/08 (black Monday) the world’s biggest falls since Sept. 11, 2001
    Financial Institutions – Bankruptcy:
    • New Century Financial (USA)– Apr. 2, 2007
    • American Home Mortgage (USA) – Aug. 6, 2007
    • Sentinel management Group (USA) – Aug. 17, 2007
    • Ameriquest (USA) – Aug. 31, 2007
    • NetBank (USA) – Sept. 30, 2007
    • Terra Securities (Norway) – Nov. 28, 2007
    • American Freedom Mortgage Inc. (USA) – Jan. 30, 2007
  • US Economy
    Domestic Impact
    • Home Owners
    • Sale of houses down, 2 millions homes evicted
    • Minorities
    • Disproportionate foreclosure, Hispanics & Blacks get higher cost loans
    • Economy Condition
    • Low consumer spending, Low GDP rate, Job cuts
    • Other Credit Markets
    • Credit Cards, Car Loans
  • Aftermath
    Global Impact
    Investors will be very cautious to act
    Lack confidence in stock/bound market
    Consumer spending will slowdown
    Lack of cash or unwilling to spend
    World economy may slip into recession
    U.S. economy condition will affect global economy
    Financial market
    May take long time to recover
    Unemployment rate may be high
    Slow economy increase unemployment rate
    Exports will decrease in China, Korea, Taiwan
    GDP growth heavily depends on export
  • The Pile Up
    Write Downs & Losses
    TOTAL: $501.4 Billion
    Source: Bloomberg. All figures in $ billion
  • What Lies Ahead…
    How to fight this recession?
    • Liquidity: Central banks have expanded their lending and money supplies
    • Solvency: Restructuring through bankruptcy, or government bailouts
    • Economic stimulus: Increased spending or cut taxes to offset declines in consumer spending and business investment
    • Homeowner assistance: Banks are adjusting the terms of mortgage loans to avoid foreclosure
    • Regulation: rules designed help stabilize the financial system (such as regulating derivatives)
    Discussions on theses topics are central to deciding what actions should be taken with regard to monetary policy, legislation, and potential programs
  • The Message
    The Good News???
    Alan Greenspan stated: “The current credit crisis will come to an end when the overhang of inventories of newly built homes in largely liquidated, and home price deflation comes to an end . . . After a period of protracted adjustment, the U.S. economy, and the world economy more generally, will be able to get back to business”
  • Profits at Last
    Yes Indeed…
    In the News recently (Q2 2009)
    • Deutsche Bank profits up by 67%
    • Credit Suisse Q2 profits climb by 29 percent
    • Investment Banking drives profits at Barclays
    • SocGen profit falls less than expected
    • Wells Fargo & Co, JPMorgan Chase & Co  and Goldman Sachs Group Inc  beat forecasts for first-quarter earnings
  • The Road Ahead
    The lessons that we are learning from this crisis will go a long way in our understanding of future and help immensely in the betterment of the financial markets
    The Road to recovery is the most difficult part of any journey.. And this is because in this road will lead you to the Destination
    Thank You