Financial crisis background Flashcards
Define securitization
Securitization is the process of pooling various types of contractual mortgages, car
loans, or credit card debt, for example – and packaging that debt as securities.
What are MBS
Mortgages were one form of contractual debt that were commonly securitised in the US.
The securities created are called mortgage backed securities (MBS).
Outline risks with MBS
- MBS come with varying risk profiles based on the profile of the mortgage holder.
4) Subprime lending is lending to people who are likely to have difficulty maintaining
repayment schedules.
What is the role of credit rating agencies
- Credit rating agencies (CRAs) rated safe MBSs as AAA and subprime ones far
lower e.g. BCC.
-
Why was the US housing market thriving at a point?
The situation suited mortgage issuers as they earned high profit from issuing
mortgages and creating MBSs.
- Investors were also happy as they were able to profit from holding and trading MBS.
- Borrowers were happy as it was far easier to obtain mortgages
- CRAs were happy bc they were earning fat profit from assesing mortgages MBS
- SO TRILLION OF DOLLAR WORTH OF MORTGAGES WERE ISSUED IN gfc RUN UP
Define foreclosure
the proceeding by a creditor to regain a property other collateral following a default on a mortgage payment
When did warnings signs start to show
As time went on creditworthy people became harder and harder for banks to find. Nobody wanted the housing and MBSs boom to end. Consequently, banks begin to issue more and more sub-prime mortgages
Why did the number of mortgage holders defaulting and facing foreclosure in the US rise from 2005 onwards
Oil and house prices rose (2004) so interest rates also rose and subprime lenders couldn’t keep up with the repayment arrangments
Why did mortgage-backed securities and other related financial assets see their values plummet in 2007?
interest rates rose so subprime mortgage holders defaulted therefore MBS value felld due to generous credit ratings given to high risk borrowers
Why did even AAA rated MBS see a fall in value
no one was investing in them out of fear so demand and value fell
Why did the US and UK bailout failing commercial banks and investment banks?
a lot of people had savings in banks that would’ve been lsot and that could have cause lots of unemployment and the national income wouldve been lost as banks and financial services are the country’s comparative advantage in the UK
“too big to fail”
Why were financial institutions outside of the US affected
- US is a major trading partners
- 2005 oil price rise was a global supply shock
Describe the importance of assymetric info in the GFC
Risky mortgage-backed securities were packed as safe assets to investors by banks. When the housing boom ended, the value of these assets collapsed resulting in huge loses for investors.
Whats the deal with PPI
Poeple were told they needed PPI to be issued a mortgage by banks but this was not true and essentially many people were missold PPI
Define misselling
Misselling is the deliberate, reckless, or negligent sale of products or services in
circumstances where the contract is either misrepresented, or the product or service is unsuitable for the customer’s needs.
