Mets,
Thats what did in WM, IMB, CFC and made FNM and FRE need a backstop.
The problem for the market, economy and banking sector are not related to the above companies.
If you look at the companies I listed, those are the names of importance..not saying that the mortgage decline hasnt hurt things but we have seen housing drops before, but what we are seeing now is more serious than a 20-30-50% drop in housing prices and a flood of foreclosures.
In a nutshell big financial institutions like GS, MER, MS, GE, LEH, C etc etc etc were sold a package of investments, called CDO's
definition
As that link shows there are differing grades of these investment vehicles..the stuff that these larger investment houses purchased were not the garbage low grade stuff for the most part, rather higher grade commercial loans or high grade residential loan portfolio. So the issue isnt the foreclosure market or the risky loans given, since firms like GS, C etc didnt buy those types of investments.
The issue is that these firms were allowed to borrow heavily at high ratios against assets..in order to get a decent rate of return they margined monster ratios relative to assets.
Then as the mortgage market slowed down and firms started getting pinched, the market for these products (CDO) turned very illiquid meaning there were no buyers or traders willing to purchase and a zillion firms wanting to sell. These types of investments are required to be valued at current market rates and when these markets started "freezing" the values of the investments started to drop as buyers left the market.
Now these high leverage ratios start to eat at capital for these firms and they start getting margin calls, meaning the exchanges and markets for these products have equity requirements, much like in the stock market..but in the stock market you normally need to have anywhere from 40-70% equity relative to margin at all times, levels for banks and these instruments were much lower.
So as the debt market started slowing and everyone started freaking, banks got margin calls and had to keep bringing cash to the table, and they cannot sell the instruments at a fair price and nobody wants to sell these HIGH QUALITY assets at a monster discount, so they keep bringing cash in to bring the equity levels up.
So in the near term to mid term, until the market for these CDOs starts to improve and there are more buyers, these margin calls will keep being required.
The reason that WM went out yesterday is that they ran out of cash and had no market to sell these investments, and their residential toxic loan portfolio required margin calls and they ran out of cash.
The reason for the large financial crisis is that banks were able to margin heavily, the market for these assets has frozen and margin calls are eating cash from these larger banks and firms...the more cash being eaten the higher the liklihood that other assets are at risk..
AIG is a perfect example of this, they arent lenders rather they overinvested in these instruments and now they have to sell their high quality assets in order to cover margin calls and their core business is being eaten up to feed the cash needed to cover the equity required on these instruments. Same goes for MS and C and GE etc..
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