Sunday, August 19, 2007

NY Times on the Mortgage Meltdown

Articles like this are what make the Times part of journalism's gold standard. Clear, timely and (unfortunately for some) accurate. What they can't predict is now far the ripples will travel as the sub-prime mortgage bubble bursts. Among other effects, it is reasonable to predict that mortgage interest rates are rising and carelessly granted home loans are, at least for the moment, a thing of the past.
...As his gamble began to pay off in the first months of 2007, Mr. Melcher, a money manager based in New York, plowed the profits into ever bigger wagers that the mortgage crisis would worsen further, eventually risking some $60 million of the fund’s money.

“We saw the opportunity of a lifetime, and since then events have unfolded on schedule,” he said. Mr. Melcher’s flagship fund has since doubled in value, even as this summer’s market turmoil cost other investors billions, forced the closing of several major hedge funds and pushed the stock market down 7 percent since mid-July. This week, Mr. Melcher is heading to Paris for a vacation with his wife.
...the cast of characters who missed signals like the rise of delinquencies and foreclosures is becoming easier to identify. They include investment banks happy to sell risky but lucrative mortgage debt to hedge funds hungry for high interest payments, bond rating agencies willing to hope for the best in the housing market and provide sterling credit appraisals to debt issuers, and subprime mortgage brokers addicted to high sales volumes.

What is more, some of these players now find themselves in a dual role as both enabler and victim, like the legions of individual borrowers who were convinced that their homes could only keep rising in value and were confident that they could afford to stretch for the biggest mortgage possible.

All of the old-timers knew that subprime mortgages were what we called neutron loans — they killed the people and left the houses,” said Louis S. Barnes, 58, a partner at Boulder West, a mortgage banking firm in Lafayette, Colo. “The deals made in 2005 and 2006 were going to run into trouble because the credit pendulum at the time was stuck at easy.”
"Neutron loans." What a great description! And it may be more apt than they thought. The term refers, of course, to the neutron bomb, a nuclear weapon which has been conceived, tested and shown to be viable but has never been (as far as we know) deployed on a battlefield. The popular notion that it is a bomb which only kills people leaving infrastructure intact is not accurate. It is true that radiation from a neutron bomb can penetrate armor and kill the people behind it without apparent damage to the armor. But the detonation of an neutron bomb, like any other bomb, would have a catastrophic impact, not only on houses but most other civilian structures. It is, after all, a bomb.
And like the neutron bomb, sub-prime mortgages may leave standing the houses they helped inspire builders and developers to produce, the eventual results of sub-prime loans may kill more people than the first line of borrowers who took them. The institutions that extended credit to shaky prospects are taking a much harder hit than they expected. And they are biting the dust in swelling numbers.

Oh, and Mr Melcher? He's one of those ultra-savy investors who knows how to make a fortune as others are sinking. His hedge-fund is the institutional version of selling short...on the margin. Even after a ship sinks there is a picnic for life in the ocean.
Look closely. There is a big tear on my cheek.

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