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3- The house of cards

Villain 3: Where Were the Regulators

Bank Regulators, Reduced

The Wild and Wooly Shadow Banking System

What is a derivative

The efficient market hypothesis

something new under the sund : CDS

Villain 4: Disgraceful practices in subprime mortgage lending

Villain 5: Complexity Run Amok

modern finance graphic

Villain 6: The overrated Rating Agencies

Villain 7: Crazy Compensation Systems

A Fragile House of cards

if bank regulators had cracked down on the disgraceful subprime

lending practices 2000-2006 smaller bubble, less dangerous

Brooksley Born made more headway in 98 with Greenspan, Rubin,

Summers, Levit, OTC derivatives - regulated instead of free pas in 2000
but no one worried

Leadership od America's big commercial and invst banks - less

leverage, better risk mngmnt systems (smaller bubble, smaller

wall street - system long on complexity and short on liquidity - if it

wasn't like that - panic might have been contained

4- When the music stopped

2006 - intricate financial house of cards, great complexity and fragility.
constructed slowly and painstakingly. impressive sheer ingenuity. tumblesudden and chaotic (removal of one of its main supporting props). house P
ended long ascent - after rest crumbling followed logically. . few were
prepared. end of housing bubble - hardly a surprise. 2006- is there a bubble
debate over, question when it will burst and how far hous e P will fall.

pessimist 20-30%; markets 6.4 % decline in the case-schiller ten city

composite idnez( too small)
The Standard & Poor's CaseShiller Home Price Indices are repeat-sales
house price indices for the United States. There are multiple CaseShiller
home price indices: A national home price index, a 20-city composite index,
a 10-city composite index, and twenty individual metro area indices. These
indices are calcuated and kept monthly by Standard and Poor, with data
points calculated for the time period of January 1987 through the present.
The indices kept by Standard and Poor are normalized to have a value of 100
in January 2000. These Indices are based on original work by economists Karl
Case and Robert Shiller, in which their team calculated the home price index
back to 1890. That index is normalized to have 1890 have a value of 100.
The Case-Shiller Index being kept on Robert Shillers website
( is updated quarterly. Due to
the different set reference points, and perhaps calculation differences, the
index numbers provided in each data set can be very different. For example,
in 4th quarter 2013, the Standard and Poor 20 city index point was in the
160's, while the index point for 4th quarter on the Shiller data was in the
130's. Professor Robert Shiller claims in his book Irrational Exuberance that
such a long series of home prices does not appear to have been published
for any country.[1] Professor Shiller subsequently was one of three winners
of the 2013 Nobel Memorial Prize in Economics, for his work on "empirical
analysis of asset prices", which was predominantly used in macroeconomics
(large-scale economics, of entities such as countries or corporations, as
opposed to households or individuals). A home or other domicile, along with
ownership of a car and affordable access to the purchase of educational and
healthcare services, is an appreciable long-term asset. Homes (a whole and
the parts) can have discrete assessed valuations, and can be bought, sold,
and rent using legal contracts; other assets are bought and traded on other

The cards Tumble

bond bubble less visible, more complicated, appreciated by few - but

devastating effect. Bursting in stages

house P stop rising -> subprime mortgages started to default it Wasn't

too small corner to not damage overall economy

Treasury Secretary : Hank Paulson April '07 - subprime mortgage

problem largely contained

Fed Reserve Chairman Ben Bernanke may - no significant spillovers to

the rest of economy or to the financial system

huge amounts of leverage * dmage, financial executives : incentive to

continue as long as they could (regulators asleep- too far too long
ride), reckoning delayed not avoided. house of cards tumble hard and

investment bank FIB convinces comm bank RBC that mortgage-related

securities reduced risk by pooling mortgages from diff geographical
areas and selling around the globe

Truth : diversification didn't worked

national housing bubble (P go down everywhere), forgivable error no

gains from geographical diversification .MBS not diversified - Californie
+ sand states (arizona, nevada, florida)

no wide distribution amongst the holders! many leading financial

institutions still owned large concentrations of mortgage-related assets
(toxic waste)- > much profit from selling other tranches of CDO's and
MBS ( Bear Stern, Lehman Brothers, Merrill Lynch, Wachovia, Citigroup,
Bank of America => excessive concentration of mortgage-related

crack in the system July '07 dancing quot chuck prince; B- S to

investors that one mortgage-related fund no effective value left. music
stops but wishful thinking

August 9' 07 bnp halt withdrawals on 3 subprime mortgage funds "

evaporation of liquidity in certain market segments of the US
securitization market makes impossible to value assets fairl" cad no
accs to money, bank don't know how much it is. suspension of
specie payments * in XIXth century b4 bank run, Paribas refunsed to
exchange fund shares for cash. signal to panic

interplay of falling asset values with high leverage -> solvency of

heavily exposed firms (B-S, Paribas). Market Price risk already
acute gets worse -> visions of counterparts risk (default
people owing money to you)

Doubts=>scramble for liquidity begins, worst case scenario markets

seize up, less severe case - flights to quality , us treasury bills. Bond
bubble predicated ln blissfully ignoring risk ended on 9.08.2007

Counterparties- faith disappeared you see it i sharp rise in interbank

lending rates. LIBOR london interbank offered rate for ST lending of big
boys=> risk premium of paying overnight loans reflected risk of
default (30 basis points in 3 days).

Fear takds over

t the Fed's Annual Watering Hole

Late august FOMC fed open market comittee in jackson hole

The Fed Springs into Action

Missing Persons