The
U.S. subprime
mortgage crisis was
a nationwide banking emergency that triggered the recession of 2008,
through subprime mortgage
delinquencies and foreclosures, resulting in the devaluation of the
attendant securities.
These mortgage-backed
securities (MBS)
and collateralized
debt obligations (CDO)
initially offered attractive rates of return due to the higher
interest rates on the mortgages; however, the lower credit quality
ultimately caused massive defaults.[1] While
elements of the crisis first became more visible during 2007, several
major financial institutions collapsed in September 2008, with
significant disruption in the flow of credit to businesses and
consumers and the onset of a severe global recession.[2]
There were
many causes of the crisis, with commentators assigning different
levels of blame to financial institutions, regulators, credit
agencies, government housing policies, and consumers, among
others.[3] A
proximate cause was the rise in subprime lending. The percentage of
lower-quality subprime
mortgagesoriginated
during a given year rose from the historical 8% or lower range to
approximately 20% from 2004 to 2006, with much higher ratios in some
parts of the U.S.[4][5] A
high percentage of these subprime mortgages, over 90% in 2006 for
example, were adjustable-rate
mortgages.[2] These
two changes were part of a broader trend of lowered lending standards
and higher-risk mortgage products.[2][6] Further,
U.S. households had become increasingly indebted, with the ratio of
debt to disposable
personal income rising
from 77% in 1990 to 127% at the end of 2007, much of this increase
mortgage-related.[7]
2014
– New US subprime boom – but this time it is for cars
According to
the credit agency Experian, the total amount owed on car finance in
the US had risen to $750 billion by late last year.
An estimated 36% of those loans have been made
to subprime borrowers. So are the banks storing up serious trouble
for the future – and maybe even another financial crisis?
American
subprime lending is back on the road
A few
short years ago, “subprime” was almost an expletive. During the
financial crisis, mortgages linked to subprime borrowers
– or those with poor credit history – caused devastating losses;
so much so that many asset managers declared they would never touch
subprime again.
But the financial world has a short memory,
particularly when easy money and innovation collide. In recent months
subprime lending has quietly staged a surprisingly powerful return,
not in relation to real estate, but another American passion –
cars. Some wonder how long it will be before this new boom causes
another wave of casualties, not just among naive consumers, but
investors too.
The Next Subprime ‘Time Bomb’ Is Ticking
(Here’s How You Could Profit from It)
Driving Toward a New Economic Cliff
I became aware of this potential time bomb last
year. A close friend was financially destroyed by the subprime
mortgage crisis. He is an investor and was overleveraged on more than
a dozen investment properties. He was finally forced to declare
bankruptcy to get out from under the mountain of debt.
Within a
week of the bankruptcy filing, he started getting letters from
companies like Wells Fargo (WFC)
and General Motors (GM).
While my friend was used to getting nasty letters from banks and
finance companies, these letters were very different. These were not
demand letters challenging his bankruptcy, threatening lawsuits or
anything the least bit negative. Believe it or not, these letters
were pre-approval letters for auto credit!
In fact, one financial company actually sent my
bankrupt friend a check for $30,000 to be used at any participating
auto dealer for the car of his choice. He took the check and bought a
used BMW.
Here
They Go Again: Wall Street Is Offering Debt-On-Debt-On-Debt!
Here’s how the daisy chain of debt
works— short form. LBO’s issue debt—loads of it. Leveraged
buyouts are now being priced at typical top-of-the-bubble ratios
of 10X cash flow (“adjusted EBITDA”). The portion of these
LBO debt towers that consists of bank term loans and revolver
facilities is sold to freshly minted financial conduits called CLOs
(for Collateralized Loan Obligations) which are not real companies
and which do not have any money!
No problem. What happens is that credit
hedge funds and Wall Street trading desk hit a computer
key, open a new spreadsheet window, wrap it in legal boilerplate,
provide this newly minted CLO with a credit line and then start
bidding for available LBO paper in the junk loan market. When
they have accumulated enough offers, they slice and dice the
resulting portfolio of LBO loans, and issue multiple tiers of debt–
with these new slices being rated from AAA to junk against the
loans listed on the spreadsheet.
So we now have a spreadsheet, a part-time
“portfolio manager” and hundreds of millions of the latest CLO
toxic waste. For 95 weeks running, there was no want of buyers
for this CLO issued paper. In its infinite wisdom, the Fed drove
interest rates on CDs and high quality paper to nearly zero—–so
the scramble for “yield” was on. Soon Grandpa was being forced to
buy a high yield mutual fund in order to pay the light bills….
Why We Are On The Verge Of Another Subprime Crisis
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