Subprime Loans and Crisis Management Part.3

In addition to the survival of the funds involved, the correction of the subprime loans crisis in the United States require "the finest tuning" in order not to fall from bad to worse:

* A massive intervention on behalf of borrowers bail out banks would prevent restoring forces to play their role in the crisis and resume cyclically in a few years.
* Conversely, an inadequate response - but allowing to clear the financial sector by eliminating litigation - would have a major impact on the U.S. economy, the real estate sector (in a city or 20% of loans are subprime, a price collapse would contaminate all borrowers), but also on consumption, the main engine of growth.

The consequences of this crisis will be dramatic for the hundreds of thousands of U.S. borrowers who find themselves in a situation of bankruptcy. The impact should also be very important on the U.S. economy, leading to a likely recession. The direct impact on the global economy has yet to understand the difficulties encountered in three areas.

(I) First of all in asset management systems credit derivatives played their part in spreading the risk. The investors then faced most of the losses.

(Ii) Then the current problems on the short-term liquidity should not continue, the central banks play their role as lender of last resort, and investors rediscovering the charm of the short-term investments.

(Iii) Finally, the credit business knows the beginning of a "flight to quality" that can only be healthy; all observers have denounced the excesses for several months, particularly in terms of investment funds whose growth should slow. You still have to remember that the currently observed spreads are still well below what they were from 2000 to 2001.

Nevertheless it is expected, in continental Europe, that governments use the crisis to demand an additional transparency on Asset Management. However, these trades have become so technical that it is difficult to make them accessible to the uninitiated to measure the risks actually incurred by the funds...

Subprime Loans and Crisis Management Part.2

In recent past the two assumptions above are not true:

* Declining housing market reduces the value of the mortgaged property falls below the debt
* Rising interest rates makes debt burden too heavy for a fragile population.

Moreover, these loans were sold with an initial period of 2 or 3 years with a fixed prime. Loans issued in 2004 and 2005 (time of highest award) so arrive at the end of this period and must be reattached in 2007, triggering a wave of defaults.
If the mechanism occurs on a large scale, the financial institution as a whole is threatened.


To optimize their use of capital, banks that granted these loans have securitized all or part of their subprime loans primarily through CDO or RMBS and this, with the blessing of most credit rating agencies.
Yields offered have attracted all investors: hedge funds but also the more traditional asset managers. Funds that meet today's challenges are mainly dynamic money market funds, which could offer higher yields, not more sophisticated hedge funds.

Defects increasing the sub primes, the value of credit derivatives is greatly reduced. The managers are then unable to calculate the value of their background, including lack of exchange of the instruments. They then suspend trading, causing investor panic. They wish to sell then all turn, forcing managers to temporarily close the funds until better days.

The funds that have affected not closed had to find cash to meet withdrawals; they then sold the only liquid assets, the shares resulting in lower market share.

Finally, some banks are highly exposed through their funds (including the German bank Sachsen LB, IKB, BBW, etc...) Must meet their losses and introduce and suspicion on the entire area causing tensions in the interbank market.

Subprime Loans and Crisis Management Part.1

In early summer, those fears were fueled by a potential overheating in China and more widely within the BRICs. But it is the first economic and financial power that the crisis began. The crisis is termed as "subprime loans" in the United States.

Indeed, the media outburst is over from negative expectations that cannot be definitely confirmed that over the medium term.

The loans are subprime mortgage loans to counterparties particularly risky, satirically nicknamed "NINJA" (No Income, No Job or Asset). These loans are secured by the good they have to acquire and pay high interest rates that can exceed 10%.

The difficulties faced by two million borrowers in the U.S. and the resulted crisis is the result of two factors:

1. shortcomings in terms of risk assessment borrowers
2. an extensive use of securitization

Origin of the crisis: a failure in terms of risk assessment borrowers

The montages were created based on two strong assumptions:

* Interest rates are permanently down for the duration of the funding that exceeds 25 years in most cases,
* The loan amount is based on a steady growth in the future value of the asset financed.

Funding in place thus follows a logical assessment of market risk (the value of the asset financed), not a logical assessment of credit risk (the risk assessment of default by the borrower) as it is common, especially with the introduction of regulatory reforms such as Basel II credit. Out the regulatory environment in the United States does not in this sense, since they are only 20 large banks operating internationally, which will comply with Basel II. Other credit institutions will be subject to a lighter frame (called Basel IA), whose implementation is planned for 2009 (2007 in Europe).