Essay About Major Causes Of The Sub-Prime Crisis And Predatory Mortgage Lending Strategies

Fly by Night Airline
The major causes of the sub-prime crisis was “bursting bubble” of the housing property in US, predatory money lending strategies, credit lines, inaccurate credit ratings and permissive policies of central banks. Valuations of the property market in US were increasing rapidly which resulted in home buyers buying houses as investment speculating that home prices will always be constantly increasing. At the same time interest rates were very low at only 1% due to the dot com bust that happened in 2000. Banks were aggressively lending out loans immorally and unethically to both prime and sub- prime debtors based on leverage principal without checks and documents on financial background of the debtors, while understanding the fact that these debtors have no capacity to pay off the loans which would result in foreclosure. Predatory mortgage lending strategies includes no Investors were sitting on a pile of cash looking for good investment, however, due to the low interest rates from the Federal Reserve investors are not buying treasury bills as the rate of return of 1% is too low. Citizens of US began to take this opportunity to buy houses rapidly, together with the policy issued out by the US government to increase home ownership. People started to approach mortgage brokers and are being referred to the lenders who give them the mortgages. Investment bankers approaches these lenders and purchases the mortgages from them, this would allow the investment bankers to receive money every month from the mortgages that they bought hence resulting in a profitable balance sheet. The mortgages are consolidated and introduced as Collateral Debt Obligation (CDO), derivatives whose values are derived by underlying assets. These CDOs goes through a tranche process that categorizes the risk these CDOs possesses. The tranche that absorbs the losses are often referred to as equity tranches while the remaining tranches are referred to as senior tranches. These tranches are