Reason and effect of subprime crisis

1. SUB PRIME CRISIS
BY:-
SIDDHARTH AHUJA(M003)
RAHUL VERMA (M093)
AAKAAH BIHARI(M067)
PRITESH DARGAR(M080)
RAKSHIT SHAH M026

2. PRIME LOANS AND SUBPRIME LOANS
• PRIME- THESE ARE THE LOANS THAT ARE OFFERED TO BORROWERS WITH
GOOD CREDIT HISTORIES AND CARRY LOWER INTEREST AND LOW RATES AS
COMPARED TO SUBPRIME CRISES.
• SUBPRIME- THESE ARE THE LOANS THAT ARE OFFERED TO BORROWERS WITH
BANKRUPTCIES, DEFAULTS, OR LATE PAYMENT HISTORIES.

3. WHAT IS CRISIS……???
• AN UNSTABLE AND DANGEROUS SITUATION AFFECTING AN INDIVIDUAL,
GROUP, COMMUNITY OR WHOLE SOCIETY
• NEGATIVE CHANGES IN THE SECURITY, ECONOMIC, POLITICAL, SOCIAL OR
ENVIRONMENTAL AFFAIRS, ESPECIALLY WHEN THEY OCCUR ABRUPTLY,
WITH LITTLE OR NO WARNING

4. MEANING OF SUBPRIME :
THE WORD MEANS SUBORDINATE TO PRIMARY
 IT IS THE LOAN GIVEN TO PEOPLE WITH A BAD CREDIT RATING WHO ARE NOT
ELIGIBLE FOR PRIME LOAN ( NORMAL LOANS )
 CHARACTERIZED BY HIGHER INTEREST RATES, POOR QUALITY COLLATERAL,
AND LESS FAVOURABLE TERMS IN ORDER TO COMPENSATE FOR HIGHER CREDIT
RISK
SUB-PRIME LENDING MAY BE UTILIZED FOR SUB-PRIME MORTGAGES, SUB-PRIME
CAR LOANS, SUB-PRIME CREDIT CARDS ETC.

5. WHY ARE SUBPRIME LOANS ISSUED ?
FOR BANKS TO EARN MORE MONEY BY TAPPING THE DEFAULTING CUSTOMERS
 FOR YOUNG PEOPLE WHO DO NOT HAVE ENOUGH MONEY FOR DOWN PAYMENT
FOR PEOPLE HAVING FINANCIAL PROBLEMS
 FOR PEOPLE WHO ARE DISCRIMINATED AGAINST

6. ABOUT THE CRISIS…
POST 2001, THE US GOVERNMENT HAD ENCOURAGED US BANKS TO
LEND MONEY TO PEOPLE, TO ENCOURAGE SPENDING & INVESTING
MAINLY FOR THE PURPOSE OF BUYING HOUSES.
THESE BANKS GRANTED LOANS TO LARGE NUMBER OF BORROWERS
DESPITE HAVING LOWER INCOME LEVELS, UNSURE EMPLOYMENT
STATUS ,UNSCRUPULOUS CREDIT HISTORY ,ETC.
HUGE NUMBER OF BORROWERS AVAILED OF BANK CREDIT WITHOUT
EVALUATING THEIR REPAYMENT CAPACITIES. THE ECONOMY WAS
FLUSH WITH LIQUIDITY & STOCK MARKETS WERE BOOMING.

7. HOW DID SUBPRIME CRISIS SPREAD ??
Large Loan given
at
low rate of
interest
Small loans
distributed at high
rate of interest
FINANCIAL INSTITUTUION/ INVESTMENT
BANK
Money is Invested
High Profits

8. THE SUBPRIME MORTGAGE CRISIS EXPLAINED:
UP UNTIL 2006, THE HOUSING MARKET IN THE UNITED STATES WAS
FLOURISHING DUE TO THE FACT THAT IT WAS SO EASY TO GET A HOME
LOAN.
INDIVIDUALS WERE TAKING ON SUBPRIME MORTGAGES, WITH THE
EXPECTATIONS THAT THE PRICE OF THEIR HOME WOULD CONTINUE TO RISE
AND THAT THEY WOULD BE ABLE TO REFINANCE THEIR HOME BEFORE THE
HIGHER INTEREST RATES WERE TO GO INTO EFFECT. 2005 WAS THE PEAK OF
THE SUBPRIME BOOM. AT THIS TIME, 1 IN 5 MORTGAGES WAS SUBPRIME.
HOWEVER, THE HOUSING BUBBLE BURST AND HOUSING PRICES HAD
REACHED THEIR PEAK. THEY WERE NOW ON A DECLINE

10. ABOUT HOUSING BUBBLE
• IN THE SIMPLEST TERMS, A BUBBLE IS AN
OVERHEATED MARKET IN WHICH THERE ARE TOO
MANY BUYERS WHO ARE TOO KEEN TO BUY.
• AS A RESULT, PRICES RISE WAY TOO FAST, AND
THIS SITUATION BECOMES UNSUSTAINABLE.
• EVENTUALLY, SOME PEOPLE REALIZE THIS AND
START TO SELL OUT. THE WHOLE PROCESS GOES
INTO REVERSE EQUALLY RAPIDLY, AND THE BUBBLE
BURSTS, WITH PEOPLE SELLING IN PANIC SO THAT
PRICES PLUNGE.
• PARTICULARLY THOSE WHO ENTERED THE MARKET
LATE IN THE PROCESS SUFFER SUBSTANTIAL

11. ABOUT HOUSING BUBBLE
HOUSING PRICES GO UP BECAUSE DEMAND GOES UP.
HOUSING BUBBLES USUALLY START WITH AN INCREASE IN
DEMAND , IN THE FACE OF LIMITED SUPPLY WHICH TAKES A
RELATIVELY LONG PERIOD OF TIME TO REPLENISH.
SPECULATORS ENTER THE MARKET, BELIEVING THAT
PROFITS CAN BE MADE THROUGH SHORT-TERM BUYING
AND SELLING. THIS FURTHER DRIVES DEMAND.
IT IS IMPOSSIBLE TO PREDICT AND DIFFICULT TO DETECT !

12. BUBBLE BURST
HOME PRICES REACHED THEIR PEAK IN THE SECOND QUARTER OF 2006.
THEY DID NOT FALL DRASTICALLY AT FIRST.
HOME PRICES FELL BY LESS THAN 2 PERCENT FROM THE 2ND QUARTER OF
2006 TO THE 4TH QUARTER OF 2006.
THIS IMPLIES THAT MORTGAGE DEFAULT RATES BEGAN TO RISE AS SOON
AS HOME PRICES BEGAN TO FALL.
JUST AS RISING HOME PRICES REINFORCED THE CONTINUING RISE IN HOME
PRICES, FALLING HOME PRICES REINFORCED THE CONTINUING FALL IN
HOME PRICES.

13. BUBBLE BURST
• THIS FURTHER DECREASED HOME PRICES, PUTTING MORE
HOMEOWNERS INTO A NEGATIVE EQUITY POSITION AND LEADING TO
MORE.
• THIS MADE IT DIFFICULT FOR INVESTMENT BANKS TO ISSUE NEW
MORTGAGE-BACKED SECURITIES, ELIMINATING A MAJOR SOURCE OF
FINANCING FOR NEW MORTGAGE LOANS AND CONTRIBUTING TO
THE CONTINUING DECLINE IN HOME PRICES.

14. BUBBLE BURST
THE BURSTING OF ANY HOUSING BUBBLE WOULD BE EXPECTED TO
HAVE A NEGATIVE EFFECT ON THE ECONOMY FOR TWO REASONS:
A. HOME CONSTRUCTION IS AN IMPORTANT ECONOMIC ACTIVITY,
AND THE DECLINE IN HOME CONSTRUCTION WOULD REDUCE GDP.
B. THE DECREASE IN HOME PRICES WOULD ALSO REDUCE
HOUSEHOLD CONSUMPTION DUE TO THE WEALTH EFFECT.
AS MENTIONED PREVIOUSLY, MOST OF THE LOSSES WERE SUFFERED
BY THE FINANCIAL SYSTEM, NOT BY THE HOMEOWNERS. THE
BURSTING OF THE HOUSING BUBBLE SENT A SHOCK THROUGH THE
ENTIRE FINANCIAL SYSTEM.

15. IMPACT OF SUB PRIME CRISIS IN USA
US FEDERAL RESERVE GRANTED APPROVAL TO INVESTMENT BANKS,
GOLDMAN SACHS AND MORGAN STANLEY TO CONVERT
THEMSELVES INTO COMMERCIAL BANKS
US TREASURY DEPARTMENT CONFIRMED THAT BOTH FANNIE MAE
AND FREDDIE MAC, WOULD BE PLACED INTO CONSERVATORSHIP
WITH THE GOVERNMENT TAKING OVER THEIR MANAGEMENT
 DOW JONES POSTS ITS LARGEST POINT DECLINE EVER WHILE THE
S&P 500 HAD ITS WORST DAY SINCE 1987 WITH AN 8.8% DROP
WASHINGTON MUTUAL IS CLOSED BY THE US GOVERNMENT IN THE
LARGEST FAILURE OF A US BANK. ITS BANKING ASSETS ARE SOLD
TO J.P. MORGAN CHASE FOR US$1.9 BILLION

16. DOMINO EFFECT ACROSS THE WORLD
 NORTHERN ROCK BANK HAD DIFFICULTY FINDING FINANCE TO KEEP THE BUSINESS
GOING AND WAS NATIONALISED IN FEBRUARY 2008
 BRITISH BANK LLOYDS TSB GROUP TO BUY RIVAL HBOS PLC, (UK’S LARGEST
MORTGAGE LENDER) SCOOPING UP BRITAIN'S BIGGEST HOME LOAN LENDER IN AN
ALL-SHARE DEAL WHICH VALUES HBOS AT OVER £12 BILLION (US$22.3 BILLION)
 IN SEPTEMBER 2008, BRITISH BANK BRADFORD & BINGLEY WAS NATIONALISED BY
THE UK GOVERNMENT, WHICH WILL TAKE CONTROL OF THE BANK'S £50BN
MORTGAGES AND LOANS, WHILE ITS SAVINGS OPERATIONS AND BRANCHES ARE TO
BE SOLD TO SPAIN'S SANTANDER
 THE DUTCH OPERATIONS OF FORTIS, EUROPE'S LARGEST VICTIM OF THE CREDIT
CRISIS, HAVE BEEN NATIONALISED IN A €16.8 BILLION (£13 BILLION) DEAL AIMED
TO CALM INVESTORS IN THE TROUBLED BANKING AND INSURANCE GROUP
 IN OCTOBER 2008, THE AUSTRALIAN GOVERNMENT ANNOUNCED THAT AU$4
BILLION WAS TO BE RAISED TO FUND NON-BANK LENDERS THAT ARE UNABLE TO
OBTAIN FUNDING TO FINANCE NEW LOANS. AFTER INDUSTRY FEEDBACK THIS WAS

17. DOMINO EFFECT ACROSS THE WORLD
STOCK MARKETS TANKED - CRISIS CAUSED PANIC IN THE
FINANCIAL MARKETS AND INVESTORS SOLD OUT AND WITHDREW
THEIR MONEY, RESULTING IN SHARP DROP IN STOCK PRICES
 MANY BANKS, MORTGAGE LENDERS, REAL ESTATE INVESTMENT
TRUSTS & HEDGE FUNDS SUFFERED SIGNIFICANT LOSSES
CREDIT GOT TIGHTER - BANKS BECAME EXTREMELY CAREFUL
PARTING WITH THEIR CAPITAL AND DECREASED LENDING
ACTIVITIES EITHER TO BUSINESS HOUSES, RETAIL CUSTOMERS
AND EVEN TO EACH OTHER
 EFFECT ON JOBS – MANY EMPLOYEES LOST THEIR JOBS,
ESPECIALLY IN THE FINANCIAL SECTOR

18. IMPACT OF SUB PRIME CRISIS IN INDIA
• THE FOREIGN BANKS STARTED UNLOADING THEIR HOLDING IN INDIAN EQUITIES
RESULTING IN FALL IN THE STOCK PRICE AND WEAKENING THE DOMESTIC
CURRENCY
• HITTING THE IT ENABLED SERVICES SINCE A MAJORITY FIRMS DERIVE 75% OF
REVENUE FROM US.
• MANUFACTURING SECTORS HAS TO RAMP UP SCALE ECONOMIES AND IMPROVE
PRODUCTIVITY & OPERATIONAL EFFICIENCY .
• THE NEAR RECESSION SITUATION IN THE US HAS LEAD TO THE LOSS OF DEMAND
FOR INDIAN EXPORTS AND HENCE THERE IS LOSS OF EXPORT EARNINGS IN INDIA
• A RECESSION IN US HAS SEEN SOME JOB LOSS IN INDIA
• THE SUBPRIME CRISIS HAS LED TO A LOSS OF CONFIDENCE IN THE AMERICAN
STOCK MARKET

19. IMPACT OF SUB PRIME CRISIS IN INDIA
• INVESTMENT BANKS AND OTHER FINANCIAL INSTITUTIONS ARE ON A JOB
SLASHING SPREE TO CUT COSTS
• THERE WILL BE SEVERAL IMPLICATIONS FOR THE BANKING SECTOR INDIAN
BANKS HAVE TO FOLLOW STRICTER NORMS WHILE DISBURSING LOANS
• IN 2008, HOWEVER, DUE TO THE EFFECT OF THE SUB PRIME CRISIS, FIIS
LIQUIDATED THEIR EQUITY INVESTMENTS IN A BIG WAY – LEADING TO A
CRASH IN THE STOCK MARKETS
• SIMULTANEOUSLY INTERNATIONAL COMMODITY PRICES, INCLUDING OIL
PRICES, WERE ON A RISE DUE INCREASING DEMAND FOR THESE
COMMODITIES
• THE COMBINED EFFECT RESULTED IN AN INCREASE IN THE DOLLAR
EXCHANGE RATE

20. IMPACT OF SUB PRIME CRISIS IN INDIA