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Subprimes and the threat of lawsuit
I thought this was quite interesting, albeit exaggerated and overly polemic. It's an example of what can happen when securities buyers threaten to rebel against a high level of background fraud (which is otherwise just priced into average values). And here is Jim Surowiecki's column on the subprime crisis, which I liked very much.
Elsewhere on Mark Thoma's site, I learn that Jim Glassman has a new job.
Addendum: Here is Felix Salmon on the topic.
Posted by Tyler Cowen on December 11, 2007 at 09:29 AM in Economics | Permalink
Comments
Jim Surowecki's column is very nice. Thanks for bringing the New Yorker back to mind as a source of financial wisdom.
As UBS and Citgroup have demonstrated, the people with ample capital available to rescue the Western banking system from its follies are the sovreign wealth funds and the governments behind them behind them. I for one had not seen that, as holders of a lot of mortgage-backed securities, they have even more legal as well as economic leverage to enable them to buy at rock-bottom prices
Posted by: Diversity at Dec 11, 2007 10:16:23 AM
America 36,000!
Posted by: Alex Tabarrok at Dec 11, 2007 11:10:12 AM
Exaggerated and overly polemic is right. Fraud would have to be proven with
particularity in every single mortgage involved. Class actions would not be
available and it would have to be proven that in every instance any misrepresentation
was first, material, and second, relied on (i.e., but for the alleged
misrepresentation, the borrower would never have entered into the arrangement).
Its a very high burden of proof, and one can rest assured that lawyers
representing the lending institution inserted lots of disclaimers etc. to insulate
the banks from this very scenario). The sky is not falling.
Posted by: Melissa at Dec 11, 2007 11:43:28 AM
Check the attribution at the end of the original article: Sean Olender is a San Mateo attorney. Not an economist or industry insider, and not exactly an impartial observer.
He might have a point... but then again, if the sun rises in the east there's going to be some attorney somewhere fixing to sue for "wrongful daylight". Grains of salt are in order.
Posted by: anonymous at Dec 11, 2007 12:39:43 PM
The trouble with sub-prime mortgages is that they all fail together, so there's no benefit of diversification. You're basically buying the risk of a single mortgage where you might think you're averaging out the returns on lots of them.
That's not exactly a hidden fact about them. It's more a priori.
Posted by: Ron Hardin at Dec 11, 2007 12:52:46 PM
It seems, though, that there were two financially distinct -- but practically identical -- ways to buy more house than you could afford:
1. The teaser rate that let you pay X, and then after a period re-set to a higher rate so that you paid X + Y.
2. The interest-only loan that let you pay interest X, and then after a period added in principal so that you paid X + Y.
Both, I believe, were common over the past few years. It seems odd that this bail-out addresses only one of these two cases. Are half of the debtors out of luck because they were "defrauded the wrong way"?
Posted by: Rich B. at Dec 11, 2007 1:46:50 PM
Felix Salmon's highly critical take on this:
The real problem here is that Olender never makes the crucial distinction between subprime mortgage originators, on the one hand, most of whom were not banks at all, and the investment banks, on the other hand, who pooled and tranched and sold off the subprime mortgages to bond investors. The originators are required to buy back fraudulent loans, but most of them have gone out of business at this point. The investment banks are just middlemen: they are not required to buy back anything.
Posted by: at Dec 11, 2007 4:00:40 PM
From Felix Salmon: "The originators are required to buy back fraudulent loans, but most of them have gone out of business at this point."
This is just like the "lifetime warranty" on the windows on my father's house. The company making such a bold reliability claim went out of business in about 3 years -- the windows lasted about 4. Open question: did they ever intend to stay in business?
Posted by: ZBicyclist at Dec 12, 2007 9:33:43 AM
I agree that Oleander's column is polemic and inaccurate in many ways. However, I would not
be too dismissive of the assertion of fraud. If those who bundled the loans (e.g. banks)
knew or should have known that the originators were acting fraudulently, then the bundlers could be liable at least for the monetary harm done to bond holders. While not a criminal charge, it
could be very expensive.
Posted by: SJE at Dec 12, 2007 1:51:23 PM
I agree that Oleander's column is polemic and inaccurate in many ways. However, I would not
be too dismissive of the assertion of fraud. If those who bundled the loans (e.g. banks)
knew or should have known that the originators were acting fraudulently, then the bundlers could be liable at least for the monetary harm done to bond holders. While not a criminal charge, it
could be very expensive.
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