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I've spent the last 6+ years working in the wholesale banking industry as an underwriter. I have been involved in both the wholesale and secondary markets. For those not familiar with the difference "wholesale banking" allows banks to offer lower mortgage interest rates to approved clients (mortgage brokers) who then "sell" those rates to homeowners at a slightly lower (or higher) interest rate then the bank would offer a "retail" client (someone who walks into a branch and wants a mortgage)
Typically a client would be going to a mortgage broker because they do not meet the lending guidelines the bank has set forward in regards to their retail lending policies, which are more strict then the wholesale guidelines the bank would have to adhere to, this is because these (retail) guidelines were set by Fannie Mae so the loan would meet basic criteria to be considered an investment grade debt (If the loan met the guidelines and went bad or was not repaid, Fannie Mae would insulate the loss for the investor by purchasing the loan and if need be selling the foreclosed property, needless to say this became a huge problem for them when the guidelines were loosened and loans starting going bad). The purpose of this guarantee is so the loan could then be sold on the secondary market as an investment, basically investors (and investment houses and firms such as Merril Lynch, Goldman Sachs etc would purchase these mortgages as large packages (300 or more loans at one time) from the wholesale lending divisions of banks. Large and small banks, savings and loans and correspondent lenders, and once the investment houses stopped buying these mortgages as investment grade debt (because people were not paying their mortgages) the large and small banks savings and loans and correspondent lenders all went bankrupt because the investment grade debt was not being repaid. (There are various reasons as to WHY these debts were not paid, not the least of which is the gutting of lending laws and regulations that took place under the current admin.) The portfolios that the investment houses had built continued to lose value as the market collapsed, they were trying to collect debt + interest (and in the case of a lot of "sub-prime" loans. which are ALL wholesale loans sold to investors who set the guidelines, possibly predatory interest)
on an asset with a rapidly declining market value, not only in terms of the "paper" value of the property (based on sales of comparable homes in the area) but in terms of the "real" value of the asset because it is a debt that is not being paid.
Take this little bonfire and throw in two wars, huge tax cuts, billions and billions in deficit spending and a worldwide rise in fuel prices which drive up the cost of all other goods......and when all of that happens while the nation itself depends upon a global economy in which we are the largest debtor, (largely because we do not provide an equal if any share of labor) and you have the perfect confluence of events for the firestorm that hit wall street yesterday.
It could get worse.
Consider again the Fed's response to this crisis:
"In order to try and calm the markets, the Federal Reserve announced plans late Sunday to loosen its lending restrictions to the banking industry. (More)
The Fed said it would expand its short-term lending to banks by starting to take all investment-grade debt as collateral - instead of just Treasury's and other high-grade securities."
This statement froze my blood.
We have arrived at this financial crisis because we have been forgotten the most fundamental law of finance, and no it is not supply and demand, rather it is as Abraham Lincoln noted the following:
"Labor must precede capital"
In other words, you can't push debt and paper around as the basis of a healthy economy, the labor must create the capital, currently we find ourselves in an economic situation where we do not provide the labor, OR the capital. This is the worst place to be as we are totally economically beholden to our debtors. (Think of it this way, your really cool Uncle gives you a VISA card, it's drawn on the Bank of the Really Cool Uncle, you have a limitless credit limit because your Uncle knows you are good for it (and besides, you have a great room, it has a large amount of valuable natural resources and plenty of interesting and possibly expensive things to see and do) now, you don't want to work so you cook up a little Zach Morris scheme, and what you do is you agree to allow your friends to purchase things from you at a slightly higher rate of interest because you know that the bank won't allow them to do so, because they have a poor history of repaying debts, and since you have the VISA from the Bank of the Really Cool Uncle, you can keep running up the debt and keep this going for as long as it takes.
Unless of course your friends fail to pay you back, which based on their history of not paying anyone at all should not be a surprise to you when it occurs, which means you have to start taking the collateral back from your friends, of course that lowers the value on the items that you are taking in (repossessing), and also lowers the value of the collateral you are still holding for your friends who are paying you back for it (because the resale market disappears, why buy for top dollar when I can get almost the exact same thing for 30% less?) Your other friends catch on and refuse to pay the full amount of the debt they have agreed to (short sale) so they force YOU to take the loss, either in the form of refusing to pay the loan and forcing you to repossess another piece of collateral (which further degrades the prices) or to simply eat the difference and absorb the loss.
Either way as the value of the collateral you are holding decreases several things happen, the first is that people stop borrowing money from you, they simply can not afford your new terms, and besides the collateral they posses has now been rendered worthless, you no longer can support yourself with the VISA card from the Bank Of the Really Cool Uncle, you have no capital to lend because every bit you have left has to go just to pay the interest you already owe on the capital you have borrowed to lend back out, never mind the money you owe your uncle for the worthless collateral that you had to take back, because it is worthless you can't even resell it to pay back the debt, as you would normally. Once your Uncle has had enough of this he simply refuses to extend the credit on your limitless VISA, and he demands full repayment because of the turbulence in the market.......So, rather then attempting to come up with a realistic solution (or perhaps because you are UNABLE to do so because you simply do not understand capital markets) you instead attempt to go to your KIDS and have them buy all the investment grade debt that you are holding, because even though you have not been paid back on those debts, the collateral they are based on is worthless and they will most likely never be re-paid.....you are just SURE that once things turn around everything will be fine and people will suddenly start paying all of their bills on time....except that your kids don't have the ability to earn any capital to pay back these markets, because they have no jobs, they have all been exported to your Uncle's house to allow you more favorable pricing terms on the items you purchased from him with the VISA card he gave you. Now you realize that the only way to repay him is to sell off the only things you have left of any value, sadly these are the items in your own room, your natural resources and interesting things are gone, they are now owned by your Uncle, but don't worry, he will provide you with a job with just enough income to be able to afford to pay back all that capital you misused and lent to the wrong people and to purchase all the goods you did not produce and again borrowed money to buy. And don't worry when you can't pay the debts (because you will never be able to, because your Uncle controls both the Capital (The Money) and the Labor (The goods and services being produced) you can just pass the bill down to your kids, and their kids, and so on and so on.......
Replace the word "Uncle" in the above with the word "China"
Consider that China is the largest holder of US Debt, and that a majority of the items we purchase and use on a daily basis are produced in China. If major steps are not taken very quickly we are to going to find ourselves in a no win situation, as it is we do not control our own Capital because we do not have any, we decided instead of using labor to produce the Capital for the last 40-50 years, we have simply borrowed it.
When we stop and think about what this will really cost us, it is shocking and frightening.
Now answer me this, how is it that someone who simply worked in this industry for only 6 years can come to understand these global markets and how the actions of the Fed are going to have an impact on them, and our economic future, and a major party Presidential Nominee and his Running Mate have no clue and are not being asked.
It's a sad day, and the worst part is no matter how many people read this (or don't) no matter how many K & R's I might get on this board, no matter who wins this election or if someone has "been" to Ireland, or what someone else said about lipstick or shooting wolves from helicopters, or how many houses Presidential Candidates own, at the end of the day I am just another sad, angry, unemployed American, who I am ashamed to say is very very afraid.
And I don't see that changing anytime soon.
Somebody please help us all.
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