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Author: brucedoe Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 35392  
Subject: What Were They Thinking? Date: 11/13/2007 11:32 AM
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With regard to subprime loans, I can understand that the financial insitutions knew they were probably going to stiff the borrowers, or at least many of them when the teaser loans expired, but why did they think they wouldn't get caught in the fire?

Also I thought the financial insitutions packaged these subprime loans and sold them to investors. If so, why are the financial loan companies getting caught holding the bag? Did liability remain with the originator institutions?

Confused!

brucedoe
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Author: WendyBG Big gold star, 5000 posts Top Favorite Fools Top Recommended Fools Feste Award Winner! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22055 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 12:46 PM
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<Also I thought the financial insitutions packaged these subprime loans and sold them to investors. If so, why are the financial loan companies getting caught holding the bag? Did liability remain with the originator institutions?>

Some subprime loans are written with a stipulation that, if the loan defaults within 6 months, the originator must take it back.

That only happens to a minority of loans. Since most subprime loans are ARMs, written with low teaser rates, they don't default until the rate resets.

The investors are, indeed, left holding the bag, if loans default after being packaged into mortgage-backed securities (MBSs). "Unexpectedly" high default rates (based on the ratings of the tranches) are the root cause of the current worldwide freeze in these securities.

The financial loan companies are left holding the bag because of politics, not because of their legal liabilities.

Countrywide Financial (CFC), the largest subprime mortgage lender, also developed a substantial business servicing the loans. That is, they have a corporate division that contacts the borrowers (homeowners), collects the mortgage, then forwards the money to the actual owners of the mortgage cash flow, which are the owners of the MBSs. Countrywide collects a processing fee, but they don't own the cash flows.

Since many subprime borrowers are defaulting, politicians have started to pay attention.

It's easy to point fingers at bad mortgage lending practices (which the Federal Reserve neglected to regulate, although the practices were well-documented in real time). Over a hundred mortgage lenders have gone out of business. However, Countrywide is still in operation, and they still process mortgages, although they don't own the mortgages anymore.

Politicians are putting pressure on Countrywide to inform debtors when they are in future danger of possible default, and to rewrite the mortgages. Now, it may be possible for Countrywide to rewrite mortgage terms, if they still own the mortgage, but they are not legally obligated to do so, since the mortgages are legitimate contracts. In the majority of cases, the mortgages have been securitized, and Countrywide does not even own the MBSs. Since MBSs are typically combinations of mortgages that have been sliced and diced, it's virtually impossible to change them (or even to find out who owns them).

Liability does NOT reside with Countrywide. They don't like bad press (such as the series of scathing NY Times articles), and Mozillo doesn't like being called before Congress. However, they could say "Pound Sand!" and there is nothing, legally, that anyone can do.

Wendy

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Author: 38Packard Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22056 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 1:53 PM
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to add to brucedoe's post...

... and where are the insurance companies who have to back these loans (so-called PMI) in the event of a default? Aren't they on the hook to pay up?

'38Packard

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Author: splotto Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22058 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 3:17 PM
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With regard to subprime loans, I can understand that the financial insitutions knew they were probably going to stiff the borrowers, or at least many of them when the teaser loans expired, but why did they think they wouldn't get caught in the fire?

Also I thought the financial insitutions packaged these subprime loans and sold them to investors. If so, why are the financial loan companies getting caught holding the bag? Did liability remain with the originator institutions?


As long as the prices of homes kept going up, even the buyers never got stung. If rates were higher when the ARM reset all the buyer would have to do is sell the home (for the profit) and pay off the mortgage.

Rinse, lather, repeat.

However, once homes started falling in value they buyer could no longer get out and the defaults started piling up. That is when the holders of the CDO's started to feel the pain.

Splotto

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Author: splotto Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22059 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 3:19 PM
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and where are the insurance companies who have to back these loans (so-called PMI) in the event of a default? Aren't they on the hook to pay up?

There have been some musings about mortgage insurers being a good short bet here since some of them might be washed out by mounting claims.

Splotto

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Author: DrTarr Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22060 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 4:18 PM
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They were definitely a shrt play. I think some still may be: Check some of the tickers, MBI, PMI & SCA for example!

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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22061 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 4:35 PM
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Also I thought the financial insitutions packaged these subprime loans and sold them to investors. If so, why are the financial loan companies getting caught holding the bag?

Let's get back to Wall St. 101.

Who loses, when companies gamble and lose, or temporarily pump up numbers that mask real gains? Long term shareholders, if there still are such animals, people who work for the company who get laid off, consumers.

But what is really going on nowadays: hedge funds, who just need to get in and out faster than the next guy and executives who take the money and run.

I'm doubting any top executives at the big financial institutions, even the few now taking early retirement, are any worse off from having gambled than they would have been had they not gambled, because them folks don't lose personally when they engage in financial con games. And I'm doubting any hedge fund managers got hurt either.

This is why I am a firm believer in mandatory hard time for executives who knowingly cheat customers and long term shareholders, with a low threshold for proof. (Or tar and feathers.)

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Author: kentm401 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22062 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 4:44 PM
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SPLOTTO! Got any "Splotto's Gold" to sell @ Market?

KBM (missing his old buddy.....;o)
PS: Looking for a replacemnent to the US$

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Author: splotto Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22064 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 4:53 PM
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SPLOTTO! Got any "Splotto's Gold" to sell @ Market?

KBM (missing his old buddy.....;o)
PS: Looking for a replacemnent to the US$


Hey!!

Yeah...I have been out of touch for a while. Between moving and a new job and just a general hibernation from reading here I figured I would stop back and see how it's going.

The more things change, the more they stay the same. :-)

Splotto

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Author: kentm401 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22065 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 5:00 PM
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Ah yes....let us know how it goes...you have been "missed" over the last Q's....."Housing Slump"...doncha know....

The more things change, the more they stay the same. :-)
Splotto


KBM (trying to keep track of fav posters since 1999)
PS: Any Splotto's left?

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Author: splotto Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22067 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 6:02 PM
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Ah yes....let us know how it goes...you have been "missed" over the last Q's....."Housing Slump"...doncha know..

Yeah....I picked the right time to move to Florida (but the homebuilding market in PA wasn't much better).

I am hoarding Splotto's now more then ever. Gold has probably gone up $300 since we last talked.

Splotto

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Author: ranshdow Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22068 of 35392
Subject: Re: What Were They Thinking? Date: 11/13/2007 6:10 PM
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There have been some musings about mortgage insurers being a good short bet here since some of them might be washed out by mounting claims.

Except for the ones Warren Buffet decides to buy or reinsure:

http://boards.fool.com/Message.asp?mid=26093042

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Author: brucedoe Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22073 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 11:41 AM
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Loki

OK, no problem that the subprime loan business was in the "greater fool theory" realm. But these guys running the loan organizations are pros, and must be very familiar with the theory. You sort of imply that they knew what was going on and planned to get out before the crash. If this is indeed the case, they are crooks and should be prosecuted as they were not fulfilling their fiduciary duties.

But I still don't understand. If C, for example, sold off their subprime loans to others, why are they in such deep financial trouble? Somehow, they got caught with a huge amount of these subprime loans expected to default. Is it that they had a huge amount of these loans in the process of being packaged? Certainly, $11 billion of subprime loans is an awful lot of homes (C's reserve). It is like 20 thousand homes at $250,000 per home.

brucedoe

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Author: Goofyhoofy Big funky green star, 20000 posts Top Favorite Fools Top Recommended Fools Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22074 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 11:59 AM
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Also I thought the financial insitutions packaged these subprime loans and sold them to investors. If so, why are the financial loan companies getting caught holding the bag? Did liability remain with the originator institutions?

I read a quite comprehensive backgrounder on O'Neal and "Mother Merrill" a couple days ago, but can't seem to track it down now.

The short version is that Merrill made lots of money, but others were making "lots and lots" of money, so O'Neal (then the new CEO) made a decisive culture shift. The "Mother Merrill" syndrome was gone; i.e. good performers could no longer count on decent employment through harder times, everything was about yesterday's results, blah blah blah.

Anyway, one component of Merrill's business, as you note, was assembling mortgages, packaging them, and selling them to other investors and taking a fee off the top. O'Neal (I'm sure not alone) noticed that his $20 million fee was positively dwarfed by the billion dollar package he had just placed with whichever hedge-fund du jour, offshore entity, or other packwad of money was buying it and taking all that groovy interest (this was 2002 and 2003, remember), and so he decided Merrill should become part of those money packwads, and began claiming many of those packaged mortgage piles for himself. Or rather for Merrill, using Merrill money and Merrill credit and stuffing them deep down into special purpose entities and other exotic locales where Annual Reports don't usually go.

Then O'Neal speculated. He boosted "Merrill's exposure to the volatile and ultimately toxic market for complex debt instruments" from $1 billion to $40 billion, in just 18 months, right as the sub-prime mortgage market was beginning to melt. Oops.

[That's not the story I'm trying to find, but it explains some of it.]

Anyway, like so many players in this game O'Neal found the pot of gold at the end of the rainbow, just like a lot of smart investors found tech stocks in 1999. Terrific investment a few years earlier, terrible investment at the time.

You don't lose tens of billions of dollars on mortgage packages that were in the pipeline on their way to other people. You can only lose that quantity if you're sitting on the stuffed mattress yourself, as O'Neal was - and as a lot of the other "smart" folks in our wacky financial sector were (and are.)

Anyway, it's not unlike LTCM or any of the other financial debacles in our lifetime - or before. Smart folks take a business that's making good money, see somebody else doing better and get greedy and throw caution to the wind in an ill advised gamble to get rich.

Of course in O'Neal's (and the other criminally incompetent CEO's who are losing their jobs) case he will get rich anyway, and it is the poor employees, shareholders and stakeholders who will be left holding an empty bag of dreams and recriminations.
 


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Author: Goofyhoofy Big funky green star, 20000 posts Top Favorite Fools Top Recommended Fools Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22075 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 12:08 PM
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Ah, here's a little of it:

For a time, Merrill’s business flourished as Mr. O’Neal took on more risk and made deep cuts. In 2006, Merrill made $7 billion from using its capital to trade for itself and clients, compared with $2.2 billion in 2002. Some riskier businesses that the firm was involved with, like private equity and lending, fared well this summer.

Merrill’s exposure to the volatile and ultimately toxic market for complex debt instruments called collateralized debt obligations exploded to more than $40 billion from around $1 billion about 18 months ago. Initially, the increased risk was a boon — part of a shift from the firm’s classic position as a money manager with an excellent stock underwriting business to a bank that had become increasingly hooked on the high-octane, high-risk returns that came from investing its own money.


[emphasis added]

http://www.nytimes.com/2007/10/29/business/29merrill.html?pagewanted=1

I have very little doubt when we poke around in the bowels of the other actors in this drama (Citibank, etc.) we will find much the same thing; firms no longer content to have "good earnings", but who tried to skim off the gravy without understanding the risk they were absorbing at the same time. That's easy to do when times are good, and then it comes back and bites you and everybody says "Gee, that's a surprise!"
 


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Author: DrTarr Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22076 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 12:18 PM
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To add to the stuffed mattress they sit on, another source of loss for some of these institutions is the credit enhancements residuals. The bank originates all these mortgages - packages them together and sells them to a "entity." The entity splits them up and sells income streams. To enhance the rating or credit quality, sometimes the selling institution must retain a portion of the income stream, and it is usually the income stream that is the most suceptible to default. The hold the Z tranche or the interest only portion.

And if people are not making the principal payments - there aren't making the interest payments.........

d(MBS)/dT

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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22077 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 1:12 PM
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OK, no problem that the subprime loan business was in the "greater fool theory" realm. But these guys running the loan organizations are pros, and must be very familiar with the theory. You sort of imply that they knew what was going on and planned to get out before the crash. If this is indeed the case, they are crooks and should be prosecuted as they were not fulfilling their fiduciary duties.

I think, as with politicians, we come down to the "we're not criminal, just stupid" defense.

I think the fact is, if we look at top executives, fund managers, and so on, the personal rewards of risk taking (by which I mean recklessness) far outweigh the personal risks. Plus, risk taking, by which I mean recklessness, has become a dominant ideology. Gee, maybe I should think twice is considered for wimps. And, of course, there's always Greenspan or somebody like him to clean up your mess, if the mess affects others, which it always does.

In a college town, we put up with drunken students making messes all the time. Luckily, we have 10 cent bottle returns, so the bums clean up a lot of the mess. But the homeowners pick up the bill for the rest. For some reason, we can't get the city to enforce fines or make landlords of student houses or fraternities pay some surcharge or get the judges to make the few students who actually get arrested for drunkeness wear orange jumpsuits and pay $50 and pick up the garbage. They just pay the $50, if that.

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Author: markr33 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22078 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 1:23 PM
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I have very little doubt when we poke around in the bowels of the other actors in this drama (Citibank, etc.) we will find much the same thing; firms no longer content to have "good earnings", but who tried to skim off the gravy without understanding the risk they were absorbing at the same time. That's easy to do when times are good, and then it comes back and bites you and everybody says "Gee, that's a surprise!"

That's precisely why we must refuse to bail them out and let one (or more) of the big players abjectly fail. It would serve as an excellent lesson. What kind of lesson will be served if we bail them out? And what approach will they take next time an outsized risk with commensurate outsized returns presents itself in the future?

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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22079 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 1:45 PM
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That's precisely why we must refuse to bail them out and let one (or more) of the big players abjectly fail. It would serve as an excellent lesson. What kind of lesson will be served if we bail them out? And what approach will they take next time an outsized risk with commensurate outsized returns presents itself in the future?

Exactly who gets taught a lesson by doing this? It's not like those at fault have to pay back the money. "I busted Citi," he laughed, lounging on his multi-million dollar yacht,

I still like tar and feathers.

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Author: markr33 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22080 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 1:52 PM
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<<That's precisely why we must refuse to bail them out and let one (or more) of the big players abjectly fail. It would serve as an excellent lesson. What kind of lesson will be served if we bail them out? And what approach will they take next time an outsized risk with commensurate outsized returns presents itself in the future?>>

Exactly who gets taught a lesson by doing this? It's not like those at fault have to pay back the money. "I busted Citi," he laughed, lounging on his multi-million dollar yacht,

I still like tar and feathers.


If laws were broken, I fully support prosecuting to the full extent. But taking bad risks is not contrary to the law, and if taking risks, even bad ones, were made unlawful, it would spell disaster for all modern free economies.

The fact that shareholders and the directors that represent them are giving huge parting gifts to those who failed only illustrates that many, perhaps most, of the shareholders and directors are spineless and not willing to make the difficult decisions to penalize badly performing employees.

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Author: DrTarr Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22082 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 2:29 PM
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I still like tar[r] and feathers.

We work so well together - Fether is my one true love!

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Author: Goofyhoofy Big funky green star, 20000 posts Top Favorite Fools Top Recommended Fools Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22087 of 35392
Subject: Re: What Were They Thinking? Date: 11/14/2007 4:29 PM
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That's precisely why we must refuse to bail them out and let one (or more) of the big players abjectly fail. It would serve as an excellent lesson.

Unfortunately the lesson would redound to the entire economy, not just the parties involved in the transgression. In 1929 nobody stepped in to stop the excess (OK, a couple of players tried, but they weren't big enough to overcome the grotesque amount of margin and chicanery which had built up.)

[The heads of Morgan, Chase, and National put together a syndicate to "buy" the crashing stocks, to give confidence to the market, to show folks that there was "a bottom." The VP of the NYSE waded out and bought a huge block of US Steel, then other blue chips, then... well, you know the rest of the story. This is not unlike what happened in 1907 when the market crashed and JP Morgan (and a band of other captains of industry) stepped in to staunch the bleeding. That time, miraculously, it worked.]

Saying "It serves them right" is thin gruel when the wealth of the country - and confidence - and ability to form capital - and employment are washing down the river on a tide of self-satisfaction.

And that's why people are looking to government (among others) to figure out how to softly land this latest fiasco, brought to you by the good folks at Greed-R-Us, and "please deregulate us and let the market handle everything, because the market is never wrong."

Sure.
 


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Author: susan400 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 22142 of 35392
Subject: Re: What Were They Thinking? Date: 11/21/2007 2:02 PM
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nooooo.. come on,

they thought it would work as everything else thrown up in teh air has worked for decades.

finally lending hit teh wall.

RE will fall for 5 + yrs.

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