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SUB PRIME CRISIS

By Abhishek Bali
Roll no 2
Section 1B
TIMELINE
• Huge fund inflows combined with low U.S. interest rates from
02-04 resulted in easy credit conditions, fueling housing and
credit bubbles

• The crisis started with the United States housing bubble which
peaked in 2005–2006 and then burst.

• Interest rates rose and housing prices dropped moderately in


06-07 in many parts of the U.S. refinancing became more
difficult
TIMELINE
• By September 2008, average U.S. housing prices had
declined by over 20% from their mid-2006 peak

• Foreclosures accelerated in the United States in late 2006


and led to the global financial crisis through 07-08.

• As of Mar 08, an estimated 8.8 million homeowners — had


negative equity in their homes, a number that had risen to 12
million by Nov 08
OVERVIEW
• Subprime crisis is an ongoing financial crisis triggered by a
dramatic rise in mortgage delinquencies and foreclosures in
the U.S.

• Major adverse consequences for banks and financial markets


around the world.

• COD’s, Housing market, Ratings agencies investment banks


and hedge funds have being blamed

• Certain regulated banks have assumed some debt burdens


while providing loans and do not have a financial cushion
sufficient to absorb large loan defaults or MBS losses.
CAUSES
• The crisis can be attributed to multiple factors

• Subprime lending was a major contributor to this increase in


home ownership rates and in the overall demand for housing,
which drove prices higher.

• Two important catalysts of the subprime crisis :-


a. influx of funds from private sector and banks
into mortgage bonds
b. aggressive lending practices of mortgage
brokers
OTHER CAUSES…
• Market participants sought higher yields without an adequate
appreciation of the risks

• Weak underwriting standards

• Unsound risk management practices

• Increasingly complex and opaque financial products

• …and consequent excessive leverage


ROLE OF CDO’s IN SUB PRIME
CRISIS
• CDO’s are Collateralized Debt Obligation
• They are asset backed security instruments
• Based on a pool of assets, in this case house
mortgages
• Cash flows from this pool act as collateral for
banks
• Traded aggressively in the market pre-housing
bubble burst
• Can be further divided in to different securities
with different levels of risk
ROLE OF CDO’s IN SUB PRIME
CRISIS
• CDO’s were a result of multiple repackaging of
bank loans to home owners.
• As a result people were not able to quantify the
actual amount held by them accurately
• When the housing market collapsed so did the
house values and this lead to a collapse in the
CDO market.
• The CDO’s were responsible since banks tried
making money in CDO’s and hence gave out
cheap loans for houses to make the market
grow.

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