The Bad Credit Mortgage Meltdown: Signs are Telling

According to the Wall Street Journal, George Bernard Shaw once announced that “love consists in overestimating the difference between one woman and another.”

A similar principle can also apply to financial decisions, and it may provide some insight into the current bad credit mortgage meltdown.

Financial overestimates maintain the engine of savings and investment.

Both buyer and seller have to think they are making a great deal. As in love, an element of human nature plays a role and the cold cloth of rational analysis is set aside.

Consider Maria. Brimming with confidence about her job and night school credits and the neighborhood in which her house is being built, she buys a dwelling for somewhat more money later than she has now - a modest and conventional overestimate which has usually worked for most people.

Allen, her mortgage broker, fills out the forms and takes his fee.

Although he would not personally loan Maria that amount of money, he knows that his organization can sell the alloy of Maria’s real income, the sweat of her brow and her inner optimism, as a security to an investment house in Sarnia, Ontario or Milan, Italy.

Soon it, and scores of others like it, become part of a large tranche of an offering from Banque Paribas that is then purchased for the endowment of a teaching hospital in Denver.

At that point no one remembers or needs to that Maria and Allen had inked a deal predicated on Maria’s zesty zeal about her life and money and Allen’s confidence that his bosses and the rating agencies would conclude that in the larger scheme of things everyone estimated perfectly.

Maria’s occasional sweat about late 2007, when the mortgage rates on her loan bums up, is soothed by the knowledge that so many others are engaged in the same hopeful game.

Then, suddenly, folks indigenously optimistic about the future feel a wind of fear about Maria and her home loan overestimate and her shortfall of cash.

It’s a wind felt by the people who provided Allen that money which they now want back because they hate losses - and no one can blame them for that.

Not only have millionaires lost confidence in a million Marias - but they suddenly face the sophisticated perplexity of trying to find just where that money they took from their pockets actually is.

The task is bewilderingly difficult because many of the transactions were actually managed by computers with whirring models assessing countless points of yesterday’s data.

So there’s nothing for the anxious investor looking for his money to do but trudge trudge trudge through the financial thickets. Even James Bond would have to shoot his way through the bonds upon bonds.

Then triumphantly he finds where his stash is actually located! Perched in New York in an entity called (don’t try this at home) the High-Grade Structured Credit Strategies Enhanced Leveraged Fund.

A very reassuring name! What intrepid literature! But then he notices a sign on the door saying “Closed. Oops. No Money Here.”

• Meanwhile, Maria, her sweat cold, is calling relatives who still live on the same old street and perhaps have a few socks full of cash they can spare.
• Allen has been told to find other work.
• Companies whose stocks were valued at $70 are now $40.

Psycho-economists opine that The Confidence has been lost, or mislaid for a bit, and that the power of the economy should not be seen through Maria’s glasses. And of course there are blamers galore with lots to go around.

For the Allens who never checked Maria’s paperwork and who assumed because she had a heartbeat she was both fine and subprime all at once and who, worse, didn’t give a damn.

And blame for the companies who lurked outside building sites promising the moonlight, on the deck, for just a little overestimate please.

And blame for regulators who couldn’t follow the trail of crumbs leading from an intimate overestimate by a hopeful buyer of a bungalow to massive Paris banks who decide to close their cash window and take a long lunch.

And the rating agencies largely paid by the companies they rate.

It’s always been the job of decent bankers to keep careful track of the inventory of the pantry. They manage home mortgage credit for us, and do not or should not give credit where credit is not due.

At the same time, as the proverb in the Good Book says, where there is no vision the people perish. And there is the ongoing matter of the vital overestimate.

The blade balance between optimism, accomplishment and recklessness is known very well to race-car drivers who, if they get it wrong can cause a pileup on the track and people get dead.

It’s utterly amazing that Maria’s mortgage has been so important to the huge money movements of the wealthiest humans in history.

Just hope her Uncle Sal has some cash in that argyle sock.

SOURCE: Wall Street Journal