financial crisis

House of Cards - Origins of the Financial Crisis ''Then and Now''
"Let's hope we are all wealthy and retired by the time this house of cards falters."
--Internal email, Wall Street, 12/15/06
Prophetic words that predicted the greatest financial collapse since the Great
Depression. The current global economic collapse has its roots in the sub-prime
mortgage crisis.
The Beginning of the Crisis
The financial house of cards was slowly built following the 9/11 attacks. As the U.S.
government tried to revive the economy by repeatedly dropping interest rates, families
lunged at the opportunity to refinance their mortgages.
Now, the collapse of the mortgage market is felt around the world.
Quick Loan Funding
Quick Loan Funding targeted people who couldn't afford a down payment and had poor
credit... so-called "sub-prime borrowers." Mortgage lender Daniel Sadek, head of Quick
Loan Funding, drastically reduced borrowers' credit requirements and may have raked
in as much as $5 million a month in personal profits.
After cranking out thousands of sub-prime mortgages, credit began to dry up and Quick
Loan eventually closed.
The Lenders
Lou Pacific was Vice President of Quick Loan Funding. Pacific: "They made a name for
themselves by doing really the nasty loans that a lot of people wouldn't do." Lenders
were giving a mortgage to almost anyone. With no shortage of eager borrowers, the
sub-prime mortgage business was booming.
Lou Pacific lost his job when Quick Loan closed
The Lenders
Bill Dallas started a new company, Ownit, and offered to sell Wall Street a mortgage for
borrowers who weren't quite "prime." It was a 100% home loan for people with good
credit who couldn't afford a down payment. In 2006, Ownit made $9.5 billion in home
loans.
Later, the worst of Dallas' loans came back to haunt him. It only took a few loans
defaulting to topple Ownit.
The Buyers
Cynthia Simons craved a better life for her family and wanted to leave the crime-ridden
Compton, Ca. She thought her prayers were answered by a mortgage broker from her church
who found the family a house in an upscale neighborhood. Was Simons' dream house too
good to be true?
Simons says her broker grossly exaggerated her income and without her knowledge arranged
TWO mortgages... one a loan for her down payment, the other an adjustable rate mortgage
on the home. Now, Simons still has the house, but can no longer keep up with her mortgage
payments.
The Buyers
Arturo Trevilla bought a house with an adjustable rate mortgage. He planned to
refinance his mortgage before the payments went up. The idea seemed simple, but the
paperwork was tricky. Arturo says “it was hard for me to understand…I just trusted a
broker.”
But with a salary of $900 a week he knowingly signed documents claiming he made four
times as much….and bought a $584 thousand dollar San Clemente, CA townhouse.
Trevilla eventually lost his home to foreclosure.
The ''Refi'' Years
In 2004 homeowners withdrew an estimated $900 billion dollars by refinancing and
spent the money on whatever they could buy. Homes had turned into ATM machines
and the economy flourished.
Main Street
Homeowners everywhere were tapping into their biggest asset…the equity growing
within their four walls. Ernesto and Trina Contreras of Riverside, CA refinanced their
family’s home. Ernesto: "We took a little money out to build our swimming poll, you
know, 'cause I have three boys and I gotta keep 'em happy.“
Today, the couple has stopped paying their mortgage which adjusted to a higher
payment they can no longer afford.
Wall Street
Lenders were more than happy to issue mortgages and Wall Street was more than
happy to have a new supply of mortgages to package up and sell to hungry investors
around the world. It seemed everyone was spending…and making money.
But, just like many homeowners, a lot of investors didn't quite understand what kind of
mortgages they were buying
Wall Street Banks
Michael Francis spent years at a major Wall Street bank that ramped up its business in
mortgage-back securities. Francis enlisted lenders on the West Coast to supply him with
mortgages he could sell to investors. His bank was so eager that it dropped many
requirements for the mortgages it was willing to sell. Francis: "We removed the litmus
test. No income, no asset. Not verifying income... breathe on a mirror and if there's fog
you sort of get a loan."
Ratings Agencies
Ann Rutledge rated securities for Moodys. During the boom, when home prices surged and
virtually no borrowers defaulted, she says the riskier Triple-B rated securities made from mortgages
looked as good as the safe Triple-A's. Rutledge: "Eventually the market gets smart and says, let's
lower the requirements for Triple-A.“
The credit rating agencies had an incentive to award a security the best possible ratings. That's
because the agencies were paid for their appraisals by the very banks that issued the securities.
Moody's says it "properly manages the potential for conflicts of interest and has added new
safeguards that further address those conflicts."
CDOs
CDOs – Collateralized Debt Obligations. These structured products are highly
complicated investments. The debt securities are bundled and re-sold but often buyers
don't really know exactly what they are purchasing. Even Alan Greenspan admitted he
was befuddled by the CDO.
Narvik, Norway
Exploring just how far the effect of the credit crisis extended, CNBC traveled to Narvik,
Norway, a town far above the Arctic Circle that was convinced it could solve its budget
problems by investing in Wall Street's wares... primarily CDOs. Town leaders thought it
was a safe investment.
But the investment collapsed. Now, the town has closed a school and slashed services
for the elderly.
The Federal Reserve Retrospect
Then Federal Reserve Chairman Alan Greenspan clearly didn't realize the full extent of
the housing bubble in 2005. He says the enormous growth in sub-prime mortgages
came to him as "a revelation.“
Greenspan defends decisions he made that critics say laid the groundwork for the
crisis. He says the Fed only lowered interest rates to "maintain liquidity in the system,"
not to boost the housing market.
Prevent the Housing Bubble?
Alan Greenspan says even if he did know the true dimensions of the housing bubble
back then, he wouldn't have been able to stop it. "Had we tried to suppress the
expansion of the sub-prime market, do you think that would have gone over very
well with the Congress, when it looked as though we were dealing with a major
increase in home ownership, which is of unquestioned value to this society –- would
we have been able to do that? I doubt it."
The Investors
In a rare interview, CNBC's David Faber speaks with one of the few savvy investors who
bet against the mortgage-backed security fever – Kyle Bass - whose hedge fund soared
600% in just eighteen months as the mortgage market collapse.
True Predictions
Kyle Bass was convinced the booming housing market was really one big house of cards
and began to find ways to profit from it. He invested in "credit protection," a kind of
insurance on various mortgage-backed securities. As those securities declined in value,
his insurance paid off.
Kyle Bass' hedge fund made more than a billion dollars in profit.