Richard's Real Estate Thoughts - Chattanooga TN Mortgage Lender: October 2008

Credit defaut swaps - congressional approved swindle

Over the last several months, my persistent question is how 6% foreclosure rate can bring down a housing market, then a credit market, then a banking industry, then a national economy, then a global economy.

The numbers have never added up.

The Great Depression had 25% unemployment. We have been in the 5% unemployment range. GDP fell this quarter, but less than expected. Not a definition of crippling credit crisis and global recession.

The numbers do not add up.

FNMA and Freddie Mac made A paper loans, full documentation. How did they get in shape to require a bailout?

The numbers do not add up.

Then I learned Fannie and Freddie bought "credit enhanced" subprime loans and Alt A mortgages. These purchases were outside their charter. They bought the mortgages with full knowledge of Congress and the regulators.

How did they get away with it? My guess - lobby money.

What is a credit enhancement? At first I did not understand that phrase.

Some months later I learned what credit enhancement means - insurance in the form of a credit default swap.

A credit default swap is a way to share risk on an investment. It is an unregulated market. Why is it unregulated? It is allowed because of the Commodity Futures Modernization Act passed in 1999 and signed by President Bill Clinton.

Why was this move to unregulate the investment industry taken so soon after the S&L crash? My opinion is lobby money.

Reading about credit default swaps can cause confusion.

The credit default basically is a guarantee given for a paid premium. The guarantee is that should a bond fail the bond investor will be reimbursed in full the bond amount. Bonds typically do not fail. Seems like good income for the credit default insurer, for a low risk.

Even if the bond fails, most likely the failure should not wipe out the entire bond value.

My question is how did credit defaults cause the entire industry to crash. If the bond fails, credit default pays and takes the partial loss on the bond default. How can these losses be so high?

The numbers do not add up.

A little further study on credit default swaps. The actual credit default market is in the range of $60 trillion.

Now misplacing $60 trillion can mess up an economy.

The entire mortgage debt is $12 trillion. How can the credit default swap market that is supposed to be a guarantee for some of the bond holders (not all) in case of default of a particular bond?

I asked some knowledgable mortgage people this question. The answer. No one really understood. "It is complicated."

The numbers do not add up.

Take time to read this NPR report. Here is the NPR audio report of how credit default swaps work. Come to find out. Credit default swaps are not complicated. They simply are a swindle, a massive swindle, approved by Congress.

Investment bankers oversold the credit defaults. They swindled investors selling insurance that they could not back their guarantee. They allowed gambling on bond defaults by risk takers who purchased insurance on assets they did not own. They created mortgage loan programs that were fundamentally speculative and led to excessive defaults.

The authorities in Congress and in the regulatory agencies do not want a qualified family to be able to use seller funded down payment assistance to purchase a home with an FHA loan. But they are OK with a hedge fund overleveraging a bond guarantee and bringing down the world economy.

The authorities in Congress and in the regulatory agencies do not want a qualified family to be able to use community reinvestment funds or 100% conventional lending to purchase a home without a down payment. But they are OK with investment banks sellling bogus, unregulated, under capitalized insurance to bond investors.

Why are they OK with this? My guess - lobby money.

The authorities in Congress and in the regulatory agencies want to blame the families who worked to make house payments or loan officers who followed program guidelines. They want to distract attention from this very real and massive fraud and shift attention to minute errors on a truth in lending disclosure or lender paid service release premiums.

They want to focus attention on tens of dollars so we miss trillions of dollars.

My opinion is that a vote for an incumbent is a vote for corruption. But that is just my opinion.

BTW, that $700 billion bailout that was supposed to buy defaulted mortgages and rehabilitate them so they could be resold into the mortgage investment market - who is getting the money? And what is it being used for?

For those who are pissed at the media, it may be your anger is a little misplaced. Keep the finger pointed straight at Congress and the investment bankers. The ones who put us in this mess are the ones who are responsible now with getting us out, debating the new regulatory environment and in charge of $700 billion to bail out our economy.



Richard Smith
American Acceptance Mortgage, Inc
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Comment balloon 17 commentsRichard Smith • October 30 2008 09:16PM
Credit defaut swaps - congressional approved swindle
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