Tuesday, December 18, 2007

The Fed Weighs In On Changes To Reg Z

I debated today whether to write about Goldman Sachs' remarkable quarter/year or about the Fed's proposed rule changes. On the former topic, for all those analysts out there that were blind to fact that credit markets were way overvalued for sometime, Goldman's results prove that at least one group out there knew what was coming, had the right controls in place and executed a successful strategy in very difficult markets.

Let's move on to the Fed, shall we? I have stated many times in this forum that the blame in this situation (if blame is the appropriate word) needs to be spread around to all parties involved, not just the mortgage originators/sellers. The Fed's pronouncements today don't really help out on that front. Deceptive and illegal practices should, without saying, be addressed by authorities. If these practices were so rampant, why was there no clamor to change/investigate them six months ago or a year ago? It has been tacit policy of every Administration over the past 60 years to increase the level home ownership in the United States. It has been the desire of most Americans to own a home for long before that. Over the years, home financing has become more creative and complex to accomodate more and more buyers. This market is no different than any other speculative market situation over the past 500 years. Loans were made to people and/or against properties that should not have been made. Due diligence had fallen by the wayside. When home values ceased rising, the whole scheme unwound.

Most of the attempts on the Federal level to remediate the current situation will, in my opinion, lengthen the time will take the market to resolve this mess. Loans need to default or restructure, homes need to foreclose, housing prices need to fall to a market clearing level, whatever that happens to be on a local basis. Some owners will revert to being renters, most likely people that shouldn't have been lent money to buy a house in the first place. Lenders will go out of business, or, more likely, be taken over by strong/opportunistic players.

The Fed's actions on Reg Z today, if implemented, will effectively shut down the sub prime mortgage market, at least until someone finds a way around the new rules. I don't think that should be the answer. For a price, people and companies should be allow to accept those risks, on both sides. Otherwise, what is being said is that this market shouldn't have existed in the first place. That's OK by me, but let's have the Fed, the Treasury, and Congress come out and state they were wrong to allow this to develop. That's not going to happen, nor should it as some, on both sides of the homeownership coin, benefitted from the existence of a sub prime mortgage market.

1 comment:

Anonymous said...

Right again oh great one.

First, Goldman is the best manager of risk on the street. Still it did not take a rocket scientist to figure out that subprime, esoecially subprime adjustable-rate mortgages would be a problem. I remember in early 2005 having a conversation with a trader at my firm in whic we discussed the possible pain down the road. The problem is that too many firms relied on quantitative models developed by, well, rocket scientists. At least Goldman knew when to get out. The boys at GS knew that, while there was money to be made, it wasn't going to continue forever. Trees do not grow to the sky.

Now about the Fed. I agree, why was tehre no concern during the past few years? If there was a perceived problem of fraud, action should have been taken. Changes to Reg Z could shut down subprime. Maybe it needs to be shut down, at least in its present form.

Agree that home prices need to fall and the weak sisters in the lending business need to fall by the wayside or be absorbed.

In my daily piece, I described that permitting the markest to correct is like trying to convince a child to take bad tasting medicine for his or her own good.

I described the markets as viewing Ben Bernanke as Mary Poppins ready with that much-desired spoonful of sugar.

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