The US sub-prime crisis in graphics(news.bbc.co.uk)
news.bbc.co.uk
The US sub-prime crisis in graphics
http://news.bbc.co.uk/1/hi/business/7073131.stm
8 comments
I'm wondering if the problems happened because of some sort of economic downturn, or lack of available credit. I thought most of the time people just re mortgaged after the 2-3 year fixed deal.
Any chance this was caused by the Fed raising rates too quickly and killing the housing market? That's a theory I've heard, but personally disagree with.
How do you see this impacting technologies, and what opportunities does this present?
Very interesting way of demonstrating the issue.
Very interesting way of demonstrating the issue.
Well, if you are Goldman Sachs, you find a way to short CDOs, profiting ~4Billion or so.
I am Mr. Sachs...so I get a real kick out of this reply...
I meant more from a hacker standpoint. A downfall in the economy is apparently a good time to startup as a previous article showed.
Any way to effectively short against this housing trend with some technology? The upcoming increase in housing supply could mean some sort of algorithmic housing search could be very useful. Any other ideas?
I meant more from a hacker standpoint. A downfall in the economy is apparently a good time to startup as a previous article showed.
Any way to effectively short against this housing trend with some technology? The upcoming increase in housing supply could mean some sort of algorithmic housing search could be very useful. Any other ideas?
Crisis or no, a decent housing search would be a goldmine. The problem is doing it with Realtors stranglehold on the MLS database.
MLS is like Google... if a house isn't listed on MLS, it might as well not exist.
MLS is like Google... if a house isn't listed on MLS, it might as well not exist.
Madison, WI has a very active Buy-Owner site (http://www.fsbomadison.com/) that charges a few hundred dollars to list. It gets about 25% of the sales in the area (realtors and MLS have the other 75%). The sale prices end up being a few percentage points lower than realtor sales on average, but there's no sales commissions so it ends up being better for both buyer and seller. Best of all, it's run by one family basically out of their garage!
Indeed.
http://www.usdoj.gov/atr/public/press_releases/2005/211008.h...
From the first page of the DOJ complaint:
"The Department of Justice's Antitrust Division today filed a lawsuit against the National Association of Realtors (NAR), challenging a policy that obstructs real estate brokers who use innovative Internet-based tools to offer better services and lower costs to consumers. The Department said that NAR's policy prevents consumers from receiving the full benefits of competition and threatens to lock in outmoded business models and discourage discounting."
Isn't it interesting to note that in this instance, it does not specify whether the 'consumers' of the broker are considered agents or the actual homebuyers themselves? Most brokers don't deal with the little people (the little people being the homebuyers themselves) . . . they run shops which employ agents who compete with each other (e.g. artificially inflating property valuations).
In this wikipedia article on the MLS (http://en.wikipedia.org/wiki/Multiple_Listing_Service):
''A person selling his/her own property - acting as a For Sale By Owner (or FSBO) - cannot put a listing for the home directly into the MLS. ''
So. . . a decent housing search tool aimed at people who want to sell FSBO to people who are not agents themselves and who don't have buyers' agents would probably go over quite well.
The main challenge here would still be that evil Realtor stranglehold . . . keeping the agents away from the FSBOs.
http://www.usdoj.gov/atr/public/press_releases/2005/211008.h...
From the first page of the DOJ complaint:
"The Department of Justice's Antitrust Division today filed a lawsuit against the National Association of Realtors (NAR), challenging a policy that obstructs real estate brokers who use innovative Internet-based tools to offer better services and lower costs to consumers. The Department said that NAR's policy prevents consumers from receiving the full benefits of competition and threatens to lock in outmoded business models and discourage discounting."
Isn't it interesting to note that in this instance, it does not specify whether the 'consumers' of the broker are considered agents or the actual homebuyers themselves? Most brokers don't deal with the little people (the little people being the homebuyers themselves) . . . they run shops which employ agents who compete with each other (e.g. artificially inflating property valuations).
In this wikipedia article on the MLS (http://en.wikipedia.org/wiki/Multiple_Listing_Service):
''A person selling his/her own property - acting as a For Sale By Owner (or FSBO) - cannot put a listing for the home directly into the MLS. ''
So. . . a decent housing search tool aimed at people who want to sell FSBO to people who are not agents themselves and who don't have buyers' agents would probably go over quite well.
The main challenge here would still be that evil Realtor stranglehold . . . keeping the agents away from the FSBOs.
I just interviewed at this place: http://www.trulia.com
They have quite a number of interesting graphical displays (one are 'heat maps' showing housing prices, granulated at the level of neighborhoods, and another is a visualization of how a city have evolved over time).
I think I may be working with them to figure out how to grab unusual data and pull out all kinds of interesting correlations useful to the public.
They have quite a number of interesting graphical displays (one are 'heat maps' showing housing prices, granulated at the level of neighborhoods, and another is a visualization of how a city have evolved over time).
I think I may be working with them to figure out how to grab unusual data and pull out all kinds of interesting correlations useful to the public.
Quote from the article: "The business proved extremely profitable for the banks, which earned a fee for each mortgage they sold on. They urged mortgage brokers to sell more and more of these mortgages."
This is a very interesting topic, one I've thought about a lot. In attempting to understand the cause, I've forumulated some hypotheses about how and why the sub-prime 'crisis' came to be.
But first some background. After earning my Master's ('04), I was having a very difficult time finding employment. I thought what any lifetime academic tends to think -- maybe more education will help?
So I enrolled in and aced just over 3/4 of this "ProSchool" course for Real Estate Brokerage. In it, I learned all about how Realtors and their mortgage broker cronies operate. Suffice it to say that I also came to discover that my personal ethics possess integrity > the ethics of most people in the real estate industry, which is why I decided to not pursue that path.
Sub-prime mortgages are to the real estate industry what lemons are to the auto industry. And while there are laws protecting people from rapacious salespersons in the automobile industry, there aren't really any such protections for homebuyers. It's probably important to note that I don't really consider "mounds of paperwork" a means of protection, especially when buyers don't understand what they're getting into for the long-term; it doesn't matter how many pieces of paper they're told to sign -- those pieces of paper are usually protecting the interests of real estate and broker-finance persons.
The root cause, the motivations of realtors, brokers and car salespersons are the same: commissions and fees earned, amounts directly proportional to amount exploited from customer. Think about it like. . . commissions and fees are beneficial to people 'from the top down' in a type of order-of-operations' that's similar to the mathematical order-of-operations. Who gets paid and when, according to this model:
1. Financial Institutions (banks control real estate brokers; as the article states, banks pay themselves first); 2. Brokers (brokers control agents; brokers pay themselves first and then pay agents); 3. Agents (agents or specifically real-estate agents conspire among themselves to artificially inflate housing and property values. There's no such thing as a real estate agent who rents!) [P.S. I think they are evil root cause of insane rents as well]; 4. Property Managers or Landlords (both can be controlled by agents, managers pay themselves first, by rules have no qualms about repossession or eviction).
Obviously, the entities in the list all get paid their fees or commissions immediately, or at least within a couple of months of the occurance of a sale or the sub-prime mortgage. Or even a regular mortgage.
Fast-forward to the time of the ARM-adjustment, and the mortgagee can't pay the significant increase. Poor dumb customers? Not always. . . isn't it job of the fee/commission earning realtor or broker or finance person to explain exactly to the customer what he or she is potentially getting into? Yes, but often these people gloss over the details. This is why I think the lemon analogy makes a lot of sense. Who in their right mind would pay full-price for a vehicle they know is going to be inoperable within a year or two?
I think what this essentially boils down to is people in the banking and real estate industries transferring their risk to the people least able to handle it and then not being legally accountable for their ethics.
This is a very interesting topic, one I've thought about a lot. In attempting to understand the cause, I've forumulated some hypotheses about how and why the sub-prime 'crisis' came to be.
But first some background. After earning my Master's ('04), I was having a very difficult time finding employment. I thought what any lifetime academic tends to think -- maybe more education will help?
So I enrolled in and aced just over 3/4 of this "ProSchool" course for Real Estate Brokerage. In it, I learned all about how Realtors and their mortgage broker cronies operate. Suffice it to say that I also came to discover that my personal ethics possess integrity > the ethics of most people in the real estate industry, which is why I decided to not pursue that path.
Sub-prime mortgages are to the real estate industry what lemons are to the auto industry. And while there are laws protecting people from rapacious salespersons in the automobile industry, there aren't really any such protections for homebuyers. It's probably important to note that I don't really consider "mounds of paperwork" a means of protection, especially when buyers don't understand what they're getting into for the long-term; it doesn't matter how many pieces of paper they're told to sign -- those pieces of paper are usually protecting the interests of real estate and broker-finance persons.
The root cause, the motivations of realtors, brokers and car salespersons are the same: commissions and fees earned, amounts directly proportional to amount exploited from customer. Think about it like. . . commissions and fees are beneficial to people 'from the top down' in a type of order-of-operations' that's similar to the mathematical order-of-operations. Who gets paid and when, according to this model:
1. Financial Institutions (banks control real estate brokers; as the article states, banks pay themselves first); 2. Brokers (brokers control agents; brokers pay themselves first and then pay agents); 3. Agents (agents or specifically real-estate agents conspire among themselves to artificially inflate housing and property values. There's no such thing as a real estate agent who rents!) [P.S. I think they are evil root cause of insane rents as well]; 4. Property Managers or Landlords (both can be controlled by agents, managers pay themselves first, by rules have no qualms about repossession or eviction).
Obviously, the entities in the list all get paid their fees or commissions immediately, or at least within a couple of months of the occurance of a sale or the sub-prime mortgage. Or even a regular mortgage.
Fast-forward to the time of the ARM-adjustment, and the mortgagee can't pay the significant increase. Poor dumb customers? Not always. . . isn't it job of the fee/commission earning realtor or broker or finance person to explain exactly to the customer what he or she is potentially getting into? Yes, but often these people gloss over the details. This is why I think the lemon analogy makes a lot of sense. Who in their right mind would pay full-price for a vehicle they know is going to be inoperable within a year or two?
I think what this essentially boils down to is people in the banking and real estate industries transferring their risk to the people least able to handle it and then not being legally accountable for their ethics.
Who in their right mind would pay full-price for a vehicle they know is going to be inoperable within a year or two?
Someone who thinks that they can sell it to a bigger sucker in less than a year or two?
...
Someone's holding the bag on these mortgages, and it isn't the home"owner" usually, who probably went from zero to zero, or from bankruptcy to bankruptcy. Investors who believed the credit agencies are the ones who had something to lose. Bad bets happen all the time in the marketplace.
Someone who thinks that they can sell it to a bigger sucker in less than a year or two?
...
Someone's holding the bag on these mortgages, and it isn't the home"owner" usually, who probably went from zero to zero, or from bankruptcy to bankruptcy. Investors who believed the credit agencies are the ones who had something to lose. Bad bets happen all the time in the marketplace.
If I may over-generalize, yours is the "city" opinion, and the OP is the "rural" opinion. There were a lot more risky loans made for cynical profit in the cities, but in rural areas, you tend to hear more sad stories about destitute grandmothers and orphans.
I feel badly for the working people who are going to be ruined by the sub-prime crash. Yes, they should have known better than to take such stupid loans, but the OP's analogy to a used-car salesman is a good one: if it weren't for consumer protection laws, there would be a lot more people who get screwed by unethical car scams. The real-estate "industry" needs more consumer protection laws.
That said, I'm severely annoyed that the smug, get-rich-quick mentality that has been promoted by agents and "investors" in the cities might be rewarded with a government bailout. For the last three years, I've watched people in Seattle (among other places), go insane with speculative greed. I've been told that real-estate never declines in value, that renters are of a lower caste, and that anyone who didn't buy into the bubble would be priced out of the market forever (a statement which is transparently mathematically ridiculous).
The number of "talking haircuts" driving around in leased Mercedes and BMWs has skyrocketed; the perception of wealth is at an all-time high. Meanwhile, landlords are evicting low-income tenants from apartments (to capitalize on the bubble with sketchy condo conversions), raising rents, and using market forces to otherwise screw people who can't stomach the idea of paying 3-4 times as much to "own" a property as to rent one. As far as I'm concerned, our society will be better off if this latter class of people go bankrupt -- if not to jail.
But I still feel for the grandmothers and orphans.
I feel badly for the working people who are going to be ruined by the sub-prime crash. Yes, they should have known better than to take such stupid loans, but the OP's analogy to a used-car salesman is a good one: if it weren't for consumer protection laws, there would be a lot more people who get screwed by unethical car scams. The real-estate "industry" needs more consumer protection laws.
That said, I'm severely annoyed that the smug, get-rich-quick mentality that has been promoted by agents and "investors" in the cities might be rewarded with a government bailout. For the last three years, I've watched people in Seattle (among other places), go insane with speculative greed. I've been told that real-estate never declines in value, that renters are of a lower caste, and that anyone who didn't buy into the bubble would be priced out of the market forever (a statement which is transparently mathematically ridiculous).
The number of "talking haircuts" driving around in leased Mercedes and BMWs has skyrocketed; the perception of wealth is at an all-time high. Meanwhile, landlords are evicting low-income tenants from apartments (to capitalize on the bubble with sketchy condo conversions), raising rents, and using market forces to otherwise screw people who can't stomach the idea of paying 3-4 times as much to "own" a property as to rent one. As far as I'm concerned, our society will be better off if this latter class of people go bankrupt -- if not to jail.
But I still feel for the grandmothers and orphans.
There are laws against predatory lending which are intended to protect consumers from lenders trying to take advantage of them. Obviously, they aren't good enough. In my opinion, the real problem is that lenders should never be able to profit if the consumer defaults on the loan. Without the mortgage brokers and hedge funds on the back-end buying the debt from the banks, the banks would be much less likely to issue bad loans, because they would end up getting royally shafted if the purchaser defaulted and they still "owned" the debt.
On my personal wish-list of reforms is an incredibly high (say, 90%) tax on short-term capital gains for real estate investments.
The whole justification for the mortgage interest write-off (which is otherwise just a gigantic government handout to property owners), is that it promotes home ownership, the family unit, etc. The problem is, there's no equivalent dis-incentive for short-term speculation on property, and what was intended to be an incentive for family home ownership actually helped to fuel the ponzi scheme that is effectively driving families out of their homes today.
If short-term gains on home sales were taxed at very high rates, it would basically be impossible for "investors" to flip homes for short-term profits. A huge incentive for speculative price increases in the housing market would be eliminated.
(Plus, no more stupid TV shows about house flipping. It's win-win!)
The whole justification for the mortgage interest write-off (which is otherwise just a gigantic government handout to property owners), is that it promotes home ownership, the family unit, etc. The problem is, there's no equivalent dis-incentive for short-term speculation on property, and what was intended to be an incentive for family home ownership actually helped to fuel the ponzi scheme that is effectively driving families out of their homes today.
If short-term gains on home sales were taxed at very high rates, it would basically be impossible for "investors" to flip homes for short-term profits. A huge incentive for speculative price increases in the housing market would be eliminated.
(Plus, no more stupid TV shows about house flipping. It's win-win!)
> Obviously, they aren't good enough. In my opinion, the real problem is that lenders should never be able to profit if the consumer defaults on the loan.
How do you think that lenders make money on a default?
At best, lenders break-even on forclosure. When a forclosure sells for more than the money owed, the remainder goes to the borrower, not the lender.
How do you think that lenders make money on a default?
At best, lenders break-even on forclosure. When a forclosure sells for more than the money owed, the remainder goes to the borrower, not the lender.
> Yes, they should have known better than to take such stupid loans
I don't think enough emphasis has been placed on people taking responsibility and paying the price for their stupidity.
I don't think enough emphasis has been placed on people taking responsibility and paying the price for their stupidity.
>Someone who thinks that they can sell it to a bigger sucker
That's usually where the ethics thing comes into play for some of us.
That's usually where the ethics thing comes into play for some of us.
This post is derived from a similar post I made on TopCoder.
There's a simple model of stock pricing that's even cleaner than price earnings ratios. Adjusted for risk and inflation, stocks are priced, in an efficient market, based on the estimation of all future profits.
This is actually a terrific mental model for long term trading, and holding companies such as Berkshire-Hathaway use similar models.
However if all you are trading are shares of real companies proving regular goods or services, then trading in the short term implies that you're making a bet regarding the first derivative of its market price.
In recent years there is a lot of trading in what are called derivatives. The prices of the derivatives themselves estimate value at some future date, and short term funding of these is then dependent on the second derivatives of equities.
The system blows up and becomes non-linear very quickly: in particular many of the nice properties that are derived from the efficient market hypothesis become less and less valid, and short term gains become quite accessible.
Additionally, the managers of big money funds (venture capital, private equity, hedge funds) have asymmetric incentives: that is, given a choice between an investing making 30% on average with a 1% SD, or an investment making 28% with a 10% SD, they'll take the latter. Why? Performance fees are structured so that fund managers receive some percentage of the profits each year (around 20% - 50%, in some cases), while they do not have to pay any of their own money on a downswing (indeed, they would still incur a management fee on the original principal!).
As a result, short-term traders, as represented by say, hedge funds, do not trade towards new future income, and do not, in many cases, such as in financial bubbles and credit crunches, move the market any closer towards the efficient model commonly described and referenced to, in both finance and academia. The following article here documents a slice of these phenomena in time: http://www.princeton.edu/~markus/research/papers/hedgefunds_...
In particular, the housing bubble and subsequent credit crunch was largely aided by the new lending model the banks had devised. In previous years, the banks would lend their own money to home owners, and as a result were less likely to take risks funding mortgages that might not be paid-off, for property at unusual values.
In the new model (as described in the topic post), banks would appraise the property and, in a sense, broker a deal through a mortgage bond market. Like brokers there are incentives to 'churn' deals - to move more volume to grab fees. Now the mortgage bond market itself was open to public investment to the stock market, and quickly swelled due to short term investments.
Hedge funds, largely computerized, would notice a high-growth, high-beta (volatility uncorrelated with the existing portfolio) stock and feed into the bond market, yielding billions in performance fees for the industry (the first movers were particularly satisfied).
Unfortunately, mortgage bond markets are very unlike normal public companies, where at least there's quarterly financial reporting, and many other windows into operations as well. The risk depends, in aggregate, on the risk of funding all these individual home owners. It turns out that the banks had done a poor job vetting home owners, because many started, well, not paying. Additionally, since the housing prices, exposed inadvertently to the public market's fickle derivative pricing schemes, had hit a peak and started to turn downwards, many people were left with negative equity on their homes. Human nature being what it is, many refused to pay mortgage on negative equity, which rapidly accelerated the spiral.
The hedge funds, rather quickly, pulled out of the mortgage bond market, and then most of the mortgage bonds went bankrupt.
Some might blame human nature, or say it was just a strange market inefficiency, but it was bound to happen really. The consequences of investment were not aligned to the risks, and short term investors could make a fortune without improving the economy as a whole.
I think this summarizes my picture of corporations as well. When they represent small groups, risks are quite commensurate with effort and rewards. As they get larger, many corporations more resemble the structure of fascist governments, rather than free markets, internally, and the decisions are often not made to maximize the welfare of the corporation, nor the economy as a whole, but rather the comfort of the individuals within the system's constraints. At the turn of the century, that meant Enron's and WorldCom's shenanigans, this summer, it meant hedge fund managers selling short on the mortgage bond market after pumping them up, and sometime later, it's going to mean people being individually greedy on the circus that is the financial markets.
There's a simple model of stock pricing that's even cleaner than price earnings ratios. Adjusted for risk and inflation, stocks are priced, in an efficient market, based on the estimation of all future profits.
This is actually a terrific mental model for long term trading, and holding companies such as Berkshire-Hathaway use similar models.
However if all you are trading are shares of real companies proving regular goods or services, then trading in the short term implies that you're making a bet regarding the first derivative of its market price.
In recent years there is a lot of trading in what are called derivatives. The prices of the derivatives themselves estimate value at some future date, and short term funding of these is then dependent on the second derivatives of equities.
The system blows up and becomes non-linear very quickly: in particular many of the nice properties that are derived from the efficient market hypothesis become less and less valid, and short term gains become quite accessible.
Additionally, the managers of big money funds (venture capital, private equity, hedge funds) have asymmetric incentives: that is, given a choice between an investing making 30% on average with a 1% SD, or an investment making 28% with a 10% SD, they'll take the latter. Why? Performance fees are structured so that fund managers receive some percentage of the profits each year (around 20% - 50%, in some cases), while they do not have to pay any of their own money on a downswing (indeed, they would still incur a management fee on the original principal!).
As a result, short-term traders, as represented by say, hedge funds, do not trade towards new future income, and do not, in many cases, such as in financial bubbles and credit crunches, move the market any closer towards the efficient model commonly described and referenced to, in both finance and academia. The following article here documents a slice of these phenomena in time: http://www.princeton.edu/~markus/research/papers/hedgefunds_...
In particular, the housing bubble and subsequent credit crunch was largely aided by the new lending model the banks had devised. In previous years, the banks would lend their own money to home owners, and as a result were less likely to take risks funding mortgages that might not be paid-off, for property at unusual values.
In the new model (as described in the topic post), banks would appraise the property and, in a sense, broker a deal through a mortgage bond market. Like brokers there are incentives to 'churn' deals - to move more volume to grab fees. Now the mortgage bond market itself was open to public investment to the stock market, and quickly swelled due to short term investments.
Hedge funds, largely computerized, would notice a high-growth, high-beta (volatility uncorrelated with the existing portfolio) stock and feed into the bond market, yielding billions in performance fees for the industry (the first movers were particularly satisfied).
Unfortunately, mortgage bond markets are very unlike normal public companies, where at least there's quarterly financial reporting, and many other windows into operations as well. The risk depends, in aggregate, on the risk of funding all these individual home owners. It turns out that the banks had done a poor job vetting home owners, because many started, well, not paying. Additionally, since the housing prices, exposed inadvertently to the public market's fickle derivative pricing schemes, had hit a peak and started to turn downwards, many people were left with negative equity on their homes. Human nature being what it is, many refused to pay mortgage on negative equity, which rapidly accelerated the spiral.
The hedge funds, rather quickly, pulled out of the mortgage bond market, and then most of the mortgage bonds went bankrupt.
Some might blame human nature, or say it was just a strange market inefficiency, but it was bound to happen really. The consequences of investment were not aligned to the risks, and short term investors could make a fortune without improving the economy as a whole.
I think this summarizes my picture of corporations as well. When they represent small groups, risks are quite commensurate with effort and rewards. As they get larger, many corporations more resemble the structure of fascist governments, rather than free markets, internally, and the decisions are often not made to maximize the welfare of the corporation, nor the economy as a whole, but rather the comfort of the individuals within the system's constraints. At the turn of the century, that meant Enron's and WorldCom's shenanigans, this summer, it meant hedge fund managers selling short on the mortgage bond market after pumping them up, and sometime later, it's going to mean people being individually greedy on the circus that is the financial markets.
I thought this was going to be about Intel on-board graphics chipsets displacing expensive enthusiast add-in cards from Nvidia.
http://www.marginalrevolution.com/marginalrevolution/2007/12...