Wednesday, July 25, 2007

Stopping the Subprime Mortgage Crisis


As an attorney with a law practice that handles a great deal of real estate work, I have a good vantage to observe the rising number of foreclosures, the increased number of families being forced from their homes, and the step decline in real estate sales and new construction, all of which undermines the larger economy as a whole. Therefore, I found this op-ed in the New York Times of interest (http://www.nytimes.com/2007/07/25/opinion/25rosner.html), portions of which are highlighted as follows:
FOR five months, it has been clear that rising delinquencies and foreclosures, coupled with higher interest rates on adjustable mortgages and declining home price appreciation, would undermine the market for mortgage securities. Yet it took Moody’s Investors Service, Fitch Ratings and Standard & Poor’s, the three leading agencies that rate long-term debt, until this month to react to this looming financial crisis, which involves more than $1.2 trillion of subprime mortgages originated in 2005 and 2006 alone. As one investor asked during a recent S.&P. conference call, “What is it that you know today that the markets didn’t know three months ago?”

The subprime crisis has not been averted. In fact, it is still largely ahead of us. The downgrades represent only a small fraction — about 2 percent of the mortgage-backed securities rated for the year between the fourth quarters of 2005 and 2006 — of what the rating agencies suggest could be a mountain of bad debt held by investors, including pension plans, banks and insurance companies. The agencies are primarily downgrading assets with expected losses that are already working their way through the pipeline. They are not projecting future losses.
And the ratings agencies are far from passive arbitrators in the markets. In structured finance, the rating agency can be an active part of the construction of a deal. In fact, the original models used to rate collateralized debt obligations were created in close cooperation with the investment banks that designed the securities.
Fitch, Moody’s and S.&P. actively advise issuers of these securities on how to achieve their desired ratings. They appear to be helping investment banks, hedge funds and fund companies, all of which have a fiduciary obligation to investors, to develop the worst possible product that would still achieve a certain rating.
Unless the government acts, the credit ratings agencies will stand on the sidelines of the coming crisis, doing nothing until it’s already happened.
I believe that we have only seen the leading edge of a huge looming disaster. When the housing industry and mortgage industry take a dive, the entire economy follows in a domino effect. Where is political leadership calling for action on this problem before the bottom falls out?

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