May 9, 2008|
Mortgage menace and more...
Shelter providers run for cover Read our view on HDFC
The results declared by some of the largest mortgage lending companies in India (particularly HDFC) did not signal any alarming slowdown in the demand for home loan, nor has there been any perceptible damage to the financials of these companies. This is notwithstanding the fact that real estate prices in some pockets have certainly seen some cool off. The same, however, does not hold true in the case of their US counterparts.
At a time when prices of housing units in the US are finding it difficult to seek stability, the regulators, administration officials and lawmakers are looking at two giant mortgage companies - Fannie Mae and Freddie Mac - to keep the housing market afloat. Further, with most 'non-housing finance companies' that had crowded up this space over the last couple of years, now abandoning the mortgage business, Fannie Mae and Freddie Mac now overwhelmingly dominate it, handling more than 80% of all mortgages bought by investors in the first quarter of 2008. That is more than double their market share in 2006. These companies, which were formed by government but are currently owned by investors, suffered more than US$ 9 bn in mortgage-related losses in 2007, and the same is expected to multiply this year.
It must be noted that both Fannie Mae and Freddie Mac do not lend directly to house buyers. Rather, they buy mortgages from banks and other lenders, and thereby provide fresh capital for home loans. The companies keep some of the mortgages they buy, hoping to profit from them, and sell the rest to investors with a guarantee to pay off the loan if the borrower defaults. However, if Fannie Mae or Freddie Mac were to fail, the pinch on the US taxpayers pockets would be much harder that that witnessed in the Bear Stearns' case.
Because of the widespread perception that the government would intervene if either company failed, they can borrow money at lower interest rates than their competitors. As a result, they have earned enormous profits in the last decade and handsomely rewarded their shareholders (from 1995 to 2005 each company's stock grew more than 500%).
But as per Economist, with mortgage defaults and foreclosures rising, their combined cushion of US$ 83 bn, the capital that their regulator requires them to hold, underpins a colossal US$ 5 trillion in debt and other financial commitments. Given this, the health of the strongest mortgage providers in the US seems to be in the dire need of the 'Fed pill'.
The hazard of innovation...
Innovation can be good, unless adapted without foreseeing the downsides. The same can be said about the innovations in the global financial markets that are now opening up a can of worms. Use of innovative credit instruments and complex layering of risk diffusion have reduced information costs, but at the same time they have also forced the investor or risk taker to become progressively remote from the ultimate borrowers where the actual risks reside. With a host of intermediaries in the form of mortgage brokers, special investment vehicles (SIVs) and hedge funds, the identification and location of risks in the whole chain is becoming increasingly challenging. According to the IMF's estimates, potential losses to banks from exposure to the US sub-prime mortgage market and from related structured securities, could be of the order of US$ 440 bn to US$ 510 bn, which would put significant pressure on the capital adequacy (CAR) of the US and European banks.
Further, the inability to judge the risks on the innovated products has also brought the role of rating agencies under scrutiny. The issues such as small number of rating agencies and the possible conflict of interest clearly suggest that the reliance only on rating agencies for risk assessment needs to be avoided.
More Views on News
Jun 10, 2017
Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.
Aug 19, 2017
Ever heard of Lindy Effect? Find out how you can use it to pick timeless stocks.
Aug 18, 2017
Buying the index now will hardly help make money in stocks even in ten years.
Aug 18, 2017
Donald J Trump, a wrasslin' fan, took a 'Holy Sh*t!' blow on Tuesday.
Aug 17, 2017
PersonalFN simplifies the mutual fund account statement for you.
More Views on News
Aug 7, 2017
The data tells us quite a different story from the one the government is trying to project.
Aug 10, 2017
Don't miss these proxy bets on growing companies or in a few years you will be looking back with regret.
Aug 8, 2017
Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...
Aug 12, 2017
The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.
Aug 7, 2017
Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...
Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement. LEGAL DISCLAIMER:
Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here
. The performance data quoted represents past performance and does not guarantee future results.SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.
Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: email@example.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407