Brokers hedged their position to reduce the risk of rate rises, and when the Fed came in and helped them out, they're now complaining they can't also claim from the hedge. That's like blaming firemen for putting out your house fire because you now can't claim as much from your insurance.
And some Brokers over-hedged. That's speculation and that's exactly what unsophisticated, under capitalized, unregulated (for this purpose) retail brokers are explicitly banned from doing. So again, what the fuck? They should get margin called all the way to bankruptcy!?
There are a long list of laws dating back centuries about not being able to insure property for more than it's worth. And that's what over hedging is in this case: betting against the very product you create. It needs to be banned. The people doing it need to be prosecuted, not offered sympathy.
The way I understood it, some benefited but some had already hedged so they got screwed. In essence, the Fed disrupted the normal way of doing things and some bankers will get screwed. Oh well. :)
Everyone was bailed out but the fed effectively. The people that hedged end up a little behind, because they paid a premium to be hedged. Such is the joy of fed action: the biggest risk takers profit the most. But no one has lost because of this...
on financial markets nobody who gambles should get bailed out. future generations of investment bankers would simply price in the bail out. I'm pretty sure they are doing that already.
how risky are you willing bet when you know that you only have to fail really hard to get bailed out?
I have no idea what's going on but here is my take: The mortgage lenders all thought that the rates are going to go through the roofs. So they used money that they should not use to bet on that. They did not just hedge their position, they over-hedged so that they can make free money when the rates explode.
The fed intervened by lowering rates and now their positions are liquidating. Apparently, this is not only gambling money and they might have over-leveraged themselves with other money they legally/morally should not use.
Now they are calling for the FED to intervene and help them with their mistakes. We'll see how this is going to unfold.
For everyone thinking of the 2008 financial crysis: My layman point-of-view is that the market for mortgage backed securities in the US is nearly 20 times smaller compared to 2006
Because we’ve nationalized the mortgage lending industry while keeping up a very expensive veneer of a private market in the form of originators and servicers. It’s the pessimal combination of capitalism and socialism.
I have a question that is related to the article, but maybe goes a bit beyond it: why doesn’t the Federal Reserve buy the actual asset in question instead of the mortgage-backed securities question? I had the same question after I recently got a better understanding of the actions the Federal Reserve and the US government took in saving Wall Street in 2008 via the TARP (my understanding is still probably incomplete though as you can probably see from this question) [0]. “Buying” the underlying asset off of the banks would have saved the banks in the same way, but people would also have been able to stay in their homes, right?
The administration and logistics would be significantly more complex. In theory it's possible, but the Federal Reserve just doesn't have the manpower to buy up individual mortgages.
I have read this article five times, and I have come to the conclusion that I'm either an idiot, or there doesn't seem to be any impropriety on the side of the Fed, nor the mortgage holders.
Am I wrong?
This seems to be a perfectly reasonable use of derivatives - as a mitigation of short-term risk... That happened to fall apart, because the Fed stepped in, as an 'irrational' market actor.
I thought the article's point is that ordinarily lenders only hedge for short periods of time, but that because of the virus they are not closing the loans and the hedges are hanging out there. Am I wrong?
I don't think that's the problem. It sounds like the problem is that they are holding both a loan, and a short, which is supposed to mitigate their exposure to market swings until they sell the loan.
It's like an oil company shorting oil, to hedge the risk of the market moving against them, before they can sell their inventory.
The problem is that the fed is now buying every asset under the sun, and instead of their loan and their short being inversely correlated, they are now uncorrelated, which is killing them.
The equivalent would be the oil company's oil dropping in price... While the price of oil increases, this killing their short. This doesn't really happen in properly functioning markets, but markets currently have huge liquidity problems.
They hedged poorly. They bracketed their position using risk they couldn't afford to take. Every market is unpredictable, and margin calls for poor risk taking is the result.
Say you have a long term position in a derivative (like a future, or a mortgage bond in this case). If the market value of that goes up, the counterparty pays you straight away, instead of waiting until it expires months or years from now. Likewise, if it goes down, you pay the counterparty. This payment is called variation margin.
Typically a bank will have a roughly hedged position: if one of its assets goes down in value, another one goes up and it uses the variation margin on one to pay off the other. But consumer mortgages don't get variation margin: the homeowner doesn't pay the bank if interest rates drop and he now is locked into (in hindsight) a bad deal. Instead he just pays the bank over the odds for the next 10 or 30 years.
In some products you square up the variation margin every day or every week. It sounds like the mortgage bonds aren't done that rigorously and the dealers square them up whenever they feel like it, or when the regulator insists. Here some mortgage banks are going to have to find the cash flow to pay that variation margin, if they owe their dealer more than $250k in total.
so can the Fed keep this up indefinately? What are the consequences of these actions? inflation? if so aren't we trading a crash for permanent(or at least long-scale) lower purchasing power for all consumers?
When talking of inflation we really do have to recognise that monetary expansion only causes wage/goods/services price inflation when there is too much money chasing too few things to buy. At the moment, the real markets are all over the place but it looks like there is huge physical production capacity which is idling. Inflation risk through demand is low.
It is quite hard to have inflation without either near full employment (can't hire workers without increasing wages) or forex problems (foreigners stop wanting dollars which seems .. unlikey)
What this is mostly doing is stopping a huge property crash. Maybe that's overdue, but it would also mean ruining the retirement of a lot of the middle class.
It was too obvious to notice for but thanks for explicitly talking about it. I always wondered why the insane cash injections of the fed never reach the general public. Surely at some point some of that money is going to be used for payroll but that point of time never came because everyone is underemployed.
Inflation is also a matter of expectations. Everyone is expecting a huge wave of loan defaults in the next year, not just home mortgages but all types of loans. Due to the way that fractional reserve lending works, defaults reduce the money supply just as surely as shredding $100 bills.
I mean people who can't work aren't going to be able to make rent. Landlords then cannot make mortgage payments so they default. Mortgage lenders are now up a creek without a paddle.
More complicated is that the shorts on MBS which mortgage servicers use to hedge their exposure to non performing loans are also losing money. As Fed buys more and more MBS the loan services can no longer recoup money via their hedge, can’t get payment out of borrowers, and often can’t even resell the loan since lots of them are recently refinanced and now with forebarence have not made their first payment.
Servicer does not own the loan, they simply paid an upfront cost to have the right to collect payments from homeowners (from which they take a cut). So the owner can sell their MBS to Fed to reduce uncertainty on their balance sheet, but servicer is just stuck servicing the loan — they already paid the upfront cost for the right to service the loan. That’s why they hedge by shorting MBS.
Shouldn't mortgage lenders have done their due diligence to ensure that the people they were lending to weren't reliant on rental income to make their mortgage payments?
This just sounds like people decided to take huge risks on rental properties and now that risk is catching up to them.
even in normal times, I don't think lenders are lining up around the block to give people with no income a mortgage for a house they intend to rent out. there are a lot of landlords with mortgages on several rental properties. if they have enough viable properties, it doesn't usually look super risky to give them another mortgage, since they can smooth the cashflow from the other properties in the case of a small number of vacancies / delinquent tenants. there are also landlords who have enough income from work to cover the mortgages if all the tenants stop paying at once. in a correlated event like this, even the "safest" borrowers might be unable to pay. it's hard for a lender to protect against the possibility of entire industries shutting down overnight.
sounds like they assessed the risk incorrectly or their risk tolerance didn't equal the actual risks they took. Isn't this normal? If I buy stock with all my money, and the stock dramatically lowers in price, I don't get to complain to the government and get free money, do I?
first of all, if lenders did the kind of DD you are talking about, it would preclude most ordinary w-2 employees ever getting a mortgage for a home. "they have only one source of income! they could lose it at any time!" these people are a much bigger risk than some landlord trying to get a mortgage for their nth rental property.
to answer your second question: if you, a private individual, bet all your money on investments that go belly up, you're just screwed. if you're a large financial institution, you get to argue that your going under would create rippling consequences that outweigh the erosion of moral hazard that comes with a bailout. it's not fair or reasonable, but it's reality.
>"they have only one source of income! they could lose it at any time!" these people are a much bigger risk than some landlord trying to get a mortgage for their nth rental property.
Fairly certain source of income isn't the only variable. What about rainy day fund? Aren't individuals encouraged to have 3-6 months worth of expenses in cash for emergencies? Shouldn't the lender assure that this is the case before lending?
Well, we didn't actually have the collapse in 2008. It all got propped up in the vain hope that the banking sector would stop doing stupid risky things.
Now we have the same choice. We can prop it all up again, in the vague hope that bankers will change their behaviour. Or we can let Wall St go to the wall.
If we do prop it up, we have to know that we'll need to do that again in another 10 years, and again after that, and so on. Until the bankers change their behaviour.
The only thing that would change the status quo would be personal responsibility to the criminals in charge, the actual persons, not a vague concept of "system". Those that rigged the game, that live luxurious lives beyond our dreams off bailouts that we paid in a crisis that caused suffering to billions of people.
If those responsible got life sentences en masse for their crimes which probably killed far more people than any serial killer could hope for, then maybe their ilk would think twice before doing that. When punishment is effectively ZERO, then why not risk it?
It's a tight community that instigate and tolerate financial practices that ultimately aren't benefiting of the average Joe, quite the contrary.
It's there for a reason, the same reason it's not stopping.
Unless there is a chance to beleive in representatives to truely represent the population, it's a dead game.
We will slowly turn to cryptocurencies and detach ourself from this non sense system of taxation and fiat decisions that are totally out of our control.
>We will slowly turn to cryptocurencies and detach ourself from this non sense system of taxation and fiat decisions that are totally out of our control.
What prevents the same sort of tight community of crony elites from developing in such a system? It seems to me the course of action should be precisely opposite: greater democratic control, better institutions, more literacy and education so people can make informed decisions and pressure their representatives.
Cryptocurrencies so far seem to be a plaything of exactly the kind of people that are wrecking the financial markets. I don't see them as being the answer to anything.
It's ironic that the economy / stock market hasn't become more resilient since 2008, despite more measures being taken. I mean sure, it's more difficult to get a mortgage you can't pay now (speaking for myself), but there's so much more fragile stuff that has been added in the past ten years; for example, a lot more amateurs have jumped into the stock market because one, savings interest rates have plummeted to effectively zero, and two, the attraction of getting rich quick thanks to bitcoin and overvalued hip stocks like TSLA.
From what I've read, Wall Street never recovered after 2008 since nobody trusts any counterparties. That's why the interest rate has been held at zero.
In some sense, Wall Street has been a zombie since 2008.
At that time, mortgage-backed securities were one problem. Today auto loans are supposedly pretty frothy.
No, the mortgage holder has a lien on a property, which can be assigned. Title always remains with the lender.
If ownership of a lien is unclear, it may be unclear who ultimately owns the mortgage, but the mortgage servicer should remain. Not a lawyer, but I believe the laws relating to the owner/mortgage servicer relationship are designed to maintain consistency. A mortgage holder needs to be able to show proof of ownership. In the 2008 era, there were cases where this was lost and homeowners successfully challenged and had liens removed.
Well they could loose so much you essentially end up squatting in your own house. And if it happened to enough people you could hopefully just wait it out until you had a claim.
But America being America. You'd have a local sheriff there smash down doors with the local SWAT team to reclaim the assets for someone who bought the debt on the cheap.
in the 08 crash there where some people that won their house in court, due to the industry using a practice called Robo-Signing. Some judges saw this as irreparably separating the mortgage from the deed. So while you technically still owed for the mortgage you signed, the asset could not be reclaimed due to the fracture of the mortgage from the deed due to robo-signing. The practice was used to move mortgages around while not having to pay filing taxes every time it changed hands. It robbed local municipalities of a lot of money in avoidance. So some judges frowned on the practice and basically awarded the house to the owner. Whether you would win your case or not was hit or miss though.
Is anyone of the impression that houses should NOT be purchased by companies like Zillow, Redfin, and Berkshire Hathaway?
After 2008, if the government had allowed the housing market to actually be a market, then we wouldn’t have the housing crisis of today.
Instead, corporations with access to cheap money, spent billions to buy distressed houses on the cheap, and held it for a few years, until it became extra profitable for them to flip it at a very healthy profit.
That is a market. What might improve matters for actual humans is a non-market solution of some kind of rationing. Max 1 per customer, locals preferred.
> That is a market. What might improve matters for actual humans is a non-market solution of some kind of rationing. Max 1 per customer, locals preferred.
Except that the average person doesn't have the same access to financing as some minority of well connected entities to financing bodies. Access to cheap or even free lending. The fed prints more money than the economy actually creates.
It's a rigged market. That's why it doesn't work. Limiting properties would attenuate the problem, but it's just a bandade solution, and a few will again find loopholes to benefit.
> the average person doesn't have the same access to financing as some minority of well connected entities to financing bodies
That's .. also a market. The institutions have substantially greater ability to pay back, and in the case of banks, capital requirements that reduce their credit risk. They don't have the same loss of income risks as a human. Nobody should expect a market to produce a fair outcome from an uneven initial distribution.
Is there any evidence that access to Fed capital is controlled by political connections on an institution by institution basis?
Brokers hedged their position to reduce the risk of rate rises, and when the Fed came in and helped them out, they're now complaining they can't also claim from the hedge. That's like blaming firemen for putting out your house fire because you now can't claim as much from your insurance.
And some Brokers over-hedged. That's speculation and that's exactly what unsophisticated, under capitalized, unregulated (for this purpose) retail brokers are explicitly banned from doing. So again, what the fuck? They should get margin called all the way to bankruptcy!?
There are a long list of laws dating back centuries about not being able to insure property for more than it's worth. And that's what over hedging is in this case: betting against the very product you create. It needs to be banned. The people doing it need to be prosecuted, not offered sympathy.