Why Is AIG Important?:AIG was a major seller of "credit default swaps." These swaps insured the assets that supported corporate debt and mortgages. If AIG went bankrupt, it would trigger the bankruptcy of many of the financial institutions bought these swaps.
Contents contributed and discussions participated by Ariel Shain
1More
Criteria for Blame - 20 views
-
what if due diligence doesn't exist in the situation? in some cases, the companies didn't know they were committing a "crime" thus they didn't take any precautions. Would you just prosecute on the other 2 criteria?
3More
AIG - A Profile of AIG Insurance - 0 views
-
-
AIG is so large that its demise would impact the entire global economy. For example, the $3.6 trillion money-market fund industry invested in AIG debt and securities. Most mutual funds own AIG stock. Financial institutions around the world are also major holders of AIG's debt.
-
How Did AIG Almost Fail?:AIG's swaps against subprime mortgages pushed the otherwise profitable company to the brink of bankruptcy. As the mortgages tied to the swaps defaulted, AIG was forced to raise millions in capital. As stockholders got wind of the situation, they sold their shares, making it even more difficult for AIG to cover the swaps. Even though AIG had more than enough assets to cover the swaps, it couldn't sell them before the swaps came due. This left it without the cash pay the swap insurance.
3More
Financial Crisis Panel Hears from AIG's Cassano, Goldman's Lewis - 0 views
-
Goldman has been criticized for benefiting from the taxpayer bailout of AIG.
-
AIG said in March, 2009, that $93 billion had been paid to banks, including $12.9 billion to Goldman Sachs, which was the most received by any bank.
-
Cassano and AIG Chief Risk Officer Robert Lewis said in their written testimony that they believed the collateralized debt obligations (CDOs) -- the loan portfolios linked to the credit default swaps -- were relatively conservative and could have recovered with time. But Lewis said the deteriorating financial environment triggered collateral calls that depleted AIG's liquidity and the federal government stepped in.
4More
The Top 10 Worst Predictions of the Financial Crisis (AIG, AMZN, BAC, C, CSCO, GS) - 0 views
-
8. AIG financial products head Joseph Cassano (August 2007)"It is hard for us, without being flippant, to even see a scenario within any kind of realm of reason that would see us losing one dollar in any of these [credit default swap] transactions." Those transactions nearly bankrupted AIG (NYSE: AIG) months later, in a financial nuclear explosion that pulled everyone from Goldman Sachs (NYSE: GS) to Citigroup (NYSE: C) to Bank of America (NYSE: BAC) into the mix. The lesson: Tail risk -- the really big risk that's hard to measure -- is the single most important kind of risk you can think about. Take whatever worst-case scenario you can think of, multiply it by 100, and prepare for it
-
7. National Association of Realtors chief economist David Lereah (2006)"The good news is that inventory levels are improving and housing supply will come closer to buyer demand in 2006. We expect a healthy and more balanced market next year." Of all the bad predictions Lereah made, I picked this one because it underscores an important aspect of bubbles. Lereah may have been right in his prediction that demand was coming in line with supply. But what he missed that demand itself was a bubble. If supply and demand are in line, but demand is being driven by a bunch of myopic idiots plowing into real estate only because they want to flip it two months later, the market is out of balance.
-
4. Former Sen. Phil Gramm (July 2008)"[T]his is a mental recession. ... We have sort of become a nation of whiners. You just hear this constant whining, complaining about a loss of competitiveness, America in decline ..." Some downturns truly are just psychological in nature. The (very short) post-9/11 slump, for example. But what we faced in 2008 was the real deal. People couldn't pay off their debts. Banks couldn't raise capital. Companies couldn't roll over commercial paper. There was nothing mental about it. It was a real, tangible decline.
- ...1 more annotation...
-
2. Alan Greenspan (May 2005)"The use of a growing array of derivatives and the related application of more-sophisticated approaches to measuring and managing risk are key factors underpinning the greater resilience of our largest financial institutions. ... Derivatives have permitted the unbundling of financial risks." Finance is probably the one industry where innovation is mostly problematic. Banking should be easy: Lend money to people who can pay you back. Most attempts to complicate it beyond that are steps toward instability.
11More
Ratings Agencies Greed and Fraud Magnified Credit Crisis :: The Market Oracle :: Financ... - 0 views
-
Underlying the credit crisis gripping the U.S. and world economies is a crisis of confidence. Blame has been laid at the feet of the U.S. Federal Reserve, and an investment bankers' brew of toxic financial products. Ultimately, however, it was the supposedly trustworthy rating agencies that got everyone to drink the poisoned Kool-Aid.
-
Letter and number ratings – such as AAA, Aa1, BBB and Caa1 – are financial shorthand for the due diligence supposedly done by rating agencies after they've examined an issuer or a security's financial structure, and evaluated the likelihood of its being able to pay interest and principal at maturity
-
most state insurance regulators require that only assets rated in the top four ratings categories by NRSROs are eligible investments. Similarly, money market funds can only invest in securities with the highest NRSRO ratings. In fact, innumerable institutions – public and private, and domestic and international – mandate asset quality levels predicated on the major rating agencies' due diligence.
- ...8 more annotations...
-
The problem with the business of rating the issuers of securities, and rating the securities they issue – such as mortgage-bcked securities and collateralized mortgage-backed obligations – is that the rating agencies are paid by the issuers to rate them. Objectivity aside, ratings firms are in business not to rate but to make money for themselves by rating issuers and their securities.
-
What was even more problematic in the scheme of the ratings business model was that analysts didn't understand how to analyze and rate the very complex cash flow structures of these new collateralized mortgage-backed securities. Not wanting to lose business to their competitors, who were all in the same boat, they used the same rating model structures that they used to rate corporate bonds , though the two different securities had nothing in common.
-
And there were problems. Lots of them. According to a Feb. 15 “Review & Outlook” piece in The Wall Street Journal , Joseph Mason, professor of finance at Drexel University, studied collateralized debt obligations rated “Baa” by Moody's and determined that they were 10 times more likely to default than equivalently rated corporate bonds.
-
o bend over backwards to accommodate issuers of mortgage-backed and structured finance paper. Clarkson was willing to switch analysts if clients complained, which several did, including Credit Suisse Group AG (ADR: CS ), UBS AG ( UBS ), and Goldman Sachs Group Inc.
-
EC's latest proposed rules changes. While the toothless wonder folded up like a pup tent once again on all substantive changes that would have created a more transparent and honest playing field, it did manage to sneak in some suggestions, including those that said: The rating agencies can't rate debt they help structure. Analysts can't participate in fee negotiations. Analysts can't be given gifts worth more than $25. Analysts must disclose a random 10% sampling of their ratings within six months. The ratings agencies must maintain a history of complaints against analysts. And that the agencies must record when an analyst's rating for structured debt differs from a quantitative model.
-
A 10-month “examination” by the SEC, concluded in July, uncovered, believe it or not, “poor disclosure practices and procedures guiding the analysis of mortgage-related debt and insufficient attention paid to managing conflicts of interest.”
-
According to the report, which included as exhibits several e-mail exchanges between analysts at unnamed ratings firms, there was an obvious degree of knowledge and complicity in playing the ratings game. In one exchange, an analyst said that their ratings model didn't capture “half” of the deal's risk but that “it could be structured by cows and we would rate it.” And in another even more famous exchange dated Dec. 15, 2006, a manager wrote that the firms continued to create an “even bigger monster – the CDO market. Let's hope we are all wealthy and retired by the time this house of cards falters.”
-
Moody's expanded and grabbed a huge piece of the deal-ratings-market pie. By 2006, the company was rating $9 out of every $10 raised in mortgage securities.
4More
shared by Ariel Shain on 12 Jan 11
- No Cached
Goldman Sachs CDOs a 'Concern' for Crisis Panel, Angelides Says - BusinessWeek - 0 views
www.businessweek.com/...isis-panel-angelides-says.html
goldman sachs financial crisis what caused economics blame
shared by Ariel Shain on 12 Jan 11
- No Cached
-
Goldman Sachs Group Inc.’s sales of collateralized debt obligations are “an area of interest and concern” for the U.S. commission investigating the financial crisis,
-
Goldman Sachs was sued by the U.S. Securities and Exchange Commission for fraud tied to CDOs that contributed to the worst financial crisis since the Great Depression. The firm’s shares tumbled as much as 16 percent today and financial stocks slumped.
-
questioned Goldman Sachs Chief Executive Officer Lloyd Blankfein on the firm’s sales of mortgage-backed securities that it bet would eventually fail.
- ...1 more annotation...
-
“It sounds to me a little bit like selling a car with faulty brakes and then buying an insurance policy on the buyer of those cars,”
15More
Who Is To Blame For The Subprime Crisis? - 0 views
-
In the instance of subprime mortgage woes, there is no single entity or individual to point the finger at. Instead, this mess is a collective creation of the world's central banks, homeowners, lenders, credit rating agencies and underwriters, and investors.
-
Biggest Culprit: The LendersMost of the blame should be pointed at the mortgage originators (lenders) for creating these problems. It was the lenders who ultimately lent funds to people with poor credit and a high risk of default.
-
When the central banks flooded the markets with capital liquidity, it not only lowered interest rates, it also broadly depressed risk premiums as investors sought riskier opportunities to bolster their investment returns. At the same time, lenders found themselves with ample capital to lend and, like investors, an increased willingness to undertake additional risk to increase their investment returns.
- ...12 more annotations...
-
subprime mortgage originations grew from $173 billion in 2001 to a record level of $665 billion in 2005, which represented an increase of nearly 300%. There is a clear relationship between the liquidity following September 11, 2001, and subprime loan originations
-
Partner In Crime: HomebuyersWhile we're on the topic of lenders, we should also mention the home buyers. Many were playing an extremely risky game by buying houses they could barely afford. They were able to make these purchases with non-traditional mortgages
-
However, instead of continued appreciation, the housing bubble burst, and prices dropped rapidly
-
As a result, when their mortgages reset, many homeowners were unable to refinance their mortgages to lower rates, as there was no equity being created as housing prices fell. They were, therefore, forced to reset their mortgage at higher rates, which many could not afford. Many homeowners were simply forced to default on their mortgages. Foreclosures continued to increase through 2006 and 2007.
-
Lenders lost money on defaulted mortgages as they were increasingly left with property that was worth less than the amount originally loaned. In many cases, the losses were large enough to result in bankruptcy.
-
a collateralized debt obligation (CDO). In this process, investment banks would buy the mortgages from lenders and securitize these mortgages into bonds, which were sold to investors through CDOs.The chart below demonstrates the incredible increase in global CDOs issues in 2006.
-
Investment Banks Worsen the SituationThe increased use of the secondary mortgage market by lenders added to the number of subprime loans lenders could originate. Instead of holding the originated mortgages on their books, lenders were able to simply sell off the mortgages in the secondary market and collect the originating fees. This freed up more capital for even more lending, which increased liquidity even more. The snowball began to build momentum.
-
Rating Agencies: Possible Conflict of InterestA lot of criticism has been directed at the rating agencies and underwriters of the CDOs and other mortgage-backed securities that included subprime loans in their mortgage pools. Some argue that the rating agencies should have foreseen the high default rates for subprime borrowers, and they should have given these CDOs much lower ratings than the 'AAA' rating given to the higher quality tranches. If the ratings had been more accurate, fewer investors would have bought into these securities, and the losses may not have been as bad.
-
The argument is that rating agencies were enticed to give better ratings in order to continue receiving service fees, or they run the risk of the underwriter going to a different rating agency
-
Fuel to the Fire: Investor BehaviorJust as the homeowners are to blame for their purchases gone wrong, much of the blame also must be placed on those who invested in CDOs. Investors were the ones willing to purchase these CDOs at ridiculously low premiums over Treasury bonds. These enticingly low rates are what ultimately led to such huge demand for subprime loans.
-
Final Culprit: Hedge FundsAnother party that added to the mess was the hedge fund industry. It aggravated the problem not only by pushing rates lower, but also by fueling the market volatility that caused investor losses. The failures of a few investment managers also contributed to the problem.
-
there is a type of hedge fund strategy that can be best described as "credit arbitrage". It involves purchasing subprime bonds on credit and hedging these positions with credit default swaps. This amplified demand for CDOs; by using leverage, a fund could purchase a lot more CDOs and bonds than it could with existing capital alone, pushing subprime interest rates lower and further fueling the problem.
4More
Subprime Is Often Subpar - 1 views
-
Subprime mortgages are often associated with borrowers who have a tainted or limited credit history. This is because a subprime mortgage can offer a consumer a way to purchase a home while they repair or build their credit history.
-
Subprime 2/28 and 3/27 ARMs frequently have prepayment penalties. A prepayment penalty is a provision in the mortgage contract that requires the borrower to pay a certain percentage of the mortgage's remaining principal balance or a certain number of months' interest if the mortgage is paid off before the end of a prepayment penalty period
-
Subprime 2/28 and 3/27 ARMs sometimes lack interest rate cap structures. An interest rate cap structure limits the amount by which, and the rate at which, the fully indexed interest rate can increase at each scheduled interest rate adjustment date and/or over the life of the mortgage.
- ...1 more annotation...
-
Because many subprime borrowers intend to refinance their adjustable-rate mortgage before, or at the end of, the fixed interest rate period, they frequently do not pay attention to how the fully indexed interest rate is calculated, ignore the mortgage's interest rate cap structure, or are sometimes ignorant of the fact that the mortgage has a prepayment penalty.
5More
shared by Ariel Shain on 12 Jan 11
- No Cached
Credit default swaps: The Real Reason for the Global Financial Crisis...the Story No On... - 0 views
moneymorning.com/...credit-default-swaps
financial crisis what caused economics blame swaps default credit
shared by Ariel Shain on 12 Jan 11
- No Cached
-
A credit default swap is, essentially, an insurance contract between a protection buyer and a protection seller covering a corporation's, or sovereign's (the “referenced entity”), specific bond or loan. A protection buyer pays an upfront amount and yearly premiums to the protection seller to cover any loss on the face amount of the referenced bond or loan.
-
Credit default swaps are bilateral contracts, meaning they are private contracts between two parties. CDSs are subject only to the collateral and margin agreed to by contract. They are traded over-the-counter, usually by telephone. They are subject to re-sale to another party willing to enter into another contract. Most frighteningly, credit default swaps are subject to “counterparty risk.”
-
Credit default swaps are not standardized instruments. In fact, they technically aren't true securities in the classic sense of the word in that they're not transparent, aren't traded on any exchange, aren't subject to present securities laws, and aren't regulated.
- ...2 more annotations...
-
The bad news is that there are even worse bets out there. There are credit default swaps written on subprime mortgage securities. It's bad enough that these subprime mortgage pools that banks, investment banks, insurance companies, hedge funds and others bought were over-rated and ended up falling precipitously in value as foreclosures mounted on the underlying mortgages in the pools. What's even worse, however, is that speculators sold and bought trillions of dollars of insurance that these pools would, or wouldn't, default! The sellers of this insurance (AIG is one example) are getting killed as defaults continue to rise with no end in sight.
-
What happened to AIG is simple: AIG got greedy. AIG, as of June 30, had written $441 billion worth of swaps on corporate bonds, and worse, mortgage-backed securities. As the value of these insured-referenced entities fell, AIG had massive write-downs and additionally had to post more collateral. And when its ratings were downgraded on Monday evening, the company had to post even more collateral, which it didn't have.
6More
shared by Ariel Shain on 12 Jan 11
- Cached
What Caused the Current Financial Crisis? - 0 views
www.stock-market-investors.com/...-current-financial-crisis.html
financial crisis what caused economics blame
shared by Ariel Shain on 12 Jan 11
- Cached
-
This was the case with the real estate bubble too and that was one of the main factors leading to the current financial crisis: the excess capital globally pushed an enormous amount of money into the US mortgage market thanks to the securitization and the fact that almost 80% of the US mortgage market is securitized.
-
The Problem with Securitization of Mortgages Basically, securitization is a wonderful financial vehicle. Mortgages are pooled together as securities and sold to investors. Of course, as securities, they can also be resold. Securitization creates diversification and liquidity.
-
However, the problem with securitization stems from the fact that it does not provide protection against systematic risk. And unfortunately, such a systematic risk was also not priced into the subprime mortgage pools... not until things went wrong and subprime borrowers started defaulting on their mortgages.
- ...3 more annotations...
-
The subprime lending increased the homeownership rate in the United States significantly and about 5 million people went from tenants to homeowners. As a result, rents went down and house prices went up till they reached unsustainable heights relative to rents.
-
Thus, when the rise in housing prices stopped in 2006, inevitably many subprime borrowers had difficulty making their mortgage payments. The housing bubble and particularly the excesses of the subprime mortgage market became even more evident when many subprime mortgage lenders began declaring bankruptcy around March 2007.
-
Confidence in many financial institutions was shaken and the stock market witnessed systemic weakness across financial sectors. The share prices for large, small, and investment banks all significantly dropped and between July 2007 and March 2008, lost about a third of their value. What is more, banks stopped trusting other banks and interbank lending was disrupted.
Ariel Shain
Refinancing a mortgage is the process of re-evaluating the value of your home, to receive money, in the form of an addition to the mortgage, from the homes equity.
Before the financial crises, people would constantly refinance their mortgage to receive money, because house prices kept going up. People would get their house's value re-evaluated, and then receive money from their houses equity.
However when the housing bubble burst, house prices plummeted. So when people attempted to refinance their mortgage, not only did they receive a higher interest rate, but they were unable to get any money from their house, since prices had dropped. The issue now was that people had mortgages worth more than their house. As a result people could not pay off their loans, and thus foreclosures began to increase
To make things more liquid (easy to sell), securitization is a tool used by many financial institutions, including banks. The process of securitization involves pooling together many mortgages, and then selling the debt as a bond to other companies and etc. This kind of bond can be sold and resold, thus it is often hard to trace them back to an origin. The problem with the securitized subprime mortgages, is that as many of the mortgage-payers defaulted on payments, their houses we'rent worth as much as before, thus the securities that were sold, were now not worth much either
The collapse of the entire financial system fails together. This was evident in the financial crisis. Since all the CDO's and securitized investments were spread among many different companies and individuals, a lot of the financial system was interconnected. So when the houseing bubble burst and the mortgages began to fail, everything followed with it