Wednesday, October 15, 2008

Excellent Summary of Financial Crisis at Freakonomics

I normally shy away from devoting a post entirely to heaping praise at one particular post out in the blogosphere, but Steven Levitt's (of Freakonomics fame) Everything You Need to Know About the Financial Crisis: A Guest Post by Diamond and Kashyap is required reading for anyone who wants an excellent summary of where we are, how we got here, and what might happen going forward


Chris said...

> This crisis started because of losses
> related to mortgage-related securities
> and loans. The value of such assets is
> very difficult to assess, in large
> part because the securities are not
> trading, and so there is some
> guesswork in establishing their value.

This is the part I do not understand. These are backed by mortgages, which are backed by actual physical houses right? How can there be no bids on this? Why doesn't someone with deep pockets bid pennies on the dollar and snap this stuff up and own half the houses in the country? Even with 100% default rate it must be worth something?
But they are so complicated that no one can figure out what they are worth? Wow that boggles my mind. It seems like a real opportunity here for some smart guy to figure out what the true value is and profit from that insight. What am I missing?

Bill Luby said...

Hi Chris,

To some extent, what you describe is happening, but only on a small scale in selected geographical pockets.

Very few people want to take the plunge and buy assets that continue to decline in price; they prefer to see some sort of indication of a bottom first.

The other problem is that with securitization, default insurance, and other derivatives tied to those mortgages, many of the products related to the original houses end up being derivatives on pools -- and the underlying pools and particularly the derivatives become very hard to get a handle on, not to mention to value properly.

When the housing market finally bottoms, some of this will start to become more transparent, but that may take some time.



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