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While the origins of the 2008 financial collapse have been well reported — the reckless repackaging of toxic mortgages, the unscrupulous lending, the lack of government oversight — author Howard B. Hill proposes a different explanation. Hill brings a unique perspective to these familiar events; as a 25-year veteran of the securitization market, Hill was on the front lines of introducing many of the analytic techniques that played a decisive role in the crisis.

In Finance Monsters, he divulges the full narrative of how these sophisticated tools were developed, incorporated, and misused by the industry. His book is an urgent, riveting chronicle of innovation that outpaced regulation, and a thrilling blow-by-blow account of how the leading institutions in the field brought about a global crash.

In the following excerpt, Hill recalls the early days of the crisis, in which panic overtook prudence with devastating results.

You can purchase the book here.

As the structured finance credit crisis unfolded, two of the most popular words used to describe it were “contagion” and “contained.” Although both these words share the Latin prefix “con,” meaning “with,” the first word was used to throw gasoline on the fire and the second word was used in an attempt to throw water on the fire that was spreading out of control.

It was common throughout 2007 to hear business leaders, our Federal Reserve Chairman, and a stream of politicians all using the word “contained.” By repeating the mantra “the subprime mortgage problem is contained,” the containment team hoped they could convince the market and the public that it was only those little subprime people who had a problem.

Arrayed against the containment team were the reporters and hedge fund bears who shouted “contagion” every chance they got.

It was enough to make you wonder if either team knew how the capital markets really work. The belief they had in common was that creditworthiness (or the lack thereof) is contagious. The analysis was presented as if they thought that sharing an elevator with a person with poor credit might make a responsible person go home and default on their obligations.

The fact is that simple exposure to subprime borrowers does not make good borrowers turn into bad borrowers. Nor does one investment turn bad just because another does. That kind of contagion is an imaginary malady, like the “humours” doctors thought caused disease before they discovered bacteria.

The containment team looked to all the other classes of debt to assure themselves that credit problems were contained, pointing out that credit card bills, prime mortgages and car loans were still being paid on time. At the same time, the contagion team looked everywhere for evidence that other classes of debt were collapsing.

Meanwhile, the real contagion both should have been worried about was taking hold. The relentless focus in both the financial press and the general press on what they liked to call “the subprime meltdown” was leading investors to do everything they could to avoid any exposure to this sector of the debt market. Some investors automatically sold the stock of banks, insurance companies, mortgage lenders or any entity that might have exposure to subprime mortgage debt, no matter how small, and regardless of whether that exposure reflected any genuine risk or not.

Fire sales took place for financial products containing no genuine risk, such as a bond with top priority for payments and a huge percentage of the structured deal subordinated to it. We sometimes saw these kinds of bonds with 70 percent or 80 percent of the deal in junior positions in a credit “waterfall.”

Let’s see what actually happens in a deal such as this when a mortgage loan in the pool is foreclosed. After the house is sold, selling expenses, legal fees, repairs, etc. are repaid to the mortgage servicer who advanced those costs. Then the proceeds from the sale are forwarded to the Trustee for the securitization. Any loss is recorded as a reduction of principal (“write off”) for the lowest priority bond in the deal structure. Finally, the money that is recovered is used to pay down principal on the highest priority bond. A bond with 80 percent of the deal subordinated underneath it could withstand having every single house in the mortgage pool foreclosed and sold at a small fraction of its former value. Where I was working, we called these bonds “bulletproof,” because they actually get paid no matter what happens, and they could be paid off even faster if there are more foreclosures.

When investors avoid bonds like these, and force them to be sold for very high spreads, they essentially force every other bond to offer the same or higher spread. This is capital markets contagion, and it has nothing to do with creditworthiness.

Billions of dollars worth of subprime debt was being sold for a song, even the bulletproof stuff. The result was that borrowing became much more expensive. This affected both prime mortgage borrowers and foreign governments. Corporate entities also had to borrow operating capital at much higher rates than they would have otherwise.

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Soon, investors who bought mining company stocks, agricultural companies or fast-growing foreign companies were disappointed by earnings that came in lower than expected. Lower earnings should have been no surprise, given the fact that the asset-backed commercial paper programs were among the biggest suppliers of trade financing used to cover the cost of metal ores or agricultural commodities until delivery.

When the market avoided buying that commercial paper, those who relied on that funding had to locate new sources of financing. Many good borrowers in the commodities business had to turn to bank loans for their short-term financing. That was already a more expensive source, but became even more expensive as the banks themselves paid higher spreads due to worries about mortgage exposure.

Selling good bonds dirt cheap and making all financing too expensive is the result of true contagion. It was a natural outgrowth of the avoidance of subprime mortgage bonds, no matter what the flavor or concentration. And it makes no more sense than wholesale slaughter of every livestock breed around the world following an outbreak of Avian Flu in chicken flocks in just one country.

One underlying cause for the eventual collapse of our debt markets was the policy reaction to the first recession of the new millennium – an extraordinary period of negative real interest rates.

We witnessed nearly unprecedented government spending increases at the same time that government revenues (taxes) decreased. The net result was huge inflation for assets that could be easily financed and exhaustion of savings to support current spending.

Trusting history, mortgage lenders believed the collateral value of the houses they lent against would not decline in any meaningful way, and certainly not nationwide. The capital markets enabled funding of mortgage loans, even subprime mortgage loans, only 30 to 50 basis points above LIBOR.

With LIBOR as low as 1.10 percent after the Fed lowered short term rates to 1%, a subprime borrower was paying a full 5 percent premium above funding costs even after taking expenses into account. Since the prior peak for loss rates on subprime mortgage loans was only 2 percent to 3 percent annually or 6 percent to 7 percent over the life of the deals, it seemed that there was plenty of cushion against losses.

Homeowners responded to this environment by taking an unprecedented amount of cash out of their homes, either by selling them, or by refinancing. By 2005, “cash out refi’s” were estimated to have added as much as $600 billion a year to the American economy. That was nearly 4 percent of the economy at the time.

The Federal Government was doing much the same, borrowing about $400 billion a year from Social Security and Medicare payroll taxes to spend on current projects, in addition to several hundred billion a year in deficit spending. As a nation and as households, we were trying to borrow our way to prosperity.

At some point, schemes that involve borrowing to support current consumption run out of assets or future income to pledge, or run out of lenders willing to lend. In the case of US housing, both effects combined to help the market “roll over” precipitously.

Effects are often compounded when two unfortunate events occur simultaneously. Virtually all the creditworthy potential home owners (as well as many who weren’t creditworthy) had acquired their first homes. At the same time, the increase in home values came to a halt and this latent source of future income to pay debt service disappeared.

This latent income had actually bailed out many of the subprime borrowers who paid their mortgages, credit cards and car loans by taking out cash through refinancings as the value of their homes increased much faster than the rate of inflation.

The open question is to what extent this latent income also made prime and near-prime borrowers appear to be able to handle their debt loads better than their earned income would allow.

The politicians and talking heads that fell into the “contained” camp spent most of 2007 focusing on the good performance numbers for credit card debt, prime mortgages, auto loans, and other debt. They concluded that the rising tide of mortgage delinquencies was limited to the typical subprime borrower, a borrower who lived as little as one or two paychecks away from defaulting on their debts. The “contagion” camp was watching the same statistics, looking for an uptick in problem credits to justify their view of worldwide credit destruction.

If you enjoyed this excerpt, purchase the full book here.

Excerpt from Finance Monsters by Howard B Hill. Copyright © 2014 by Howard Hill. Published on November 6, 2014. All rights reserved.

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Rep. Bennie Thompson

Photo by Customs and Border Protection (Public domain)

Chairman Bennie Thompson (D-MS) Friday afternoon announced the House Select Committee on the January 6 Attack has issued subpoenas to 14 Republicans from seven states who submitted the forged and "bogus" Electoral College certificates falsely claiming Donald Trump and not Joe Biden won the 2020 presidential election in their states.

The Chairman appeared to suggest the existence of a conspiracy as well, noting the "the planning and coordination of efforts," saying "these so-called alternate electors met," and may know "who was behind that scheme."

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Chris Cuomo

News Literacy Week 2022, an annual awareness event started by the News Literacy Project, a nonpartisan nonprofit dedicated to making everyone “smart, active consumers of news and information and equal and engaged participants in a democracy” has closed out. From January 24 to 28, classes, webinars, and Twitter chats taught students and adults how to root out misinformation when consuming news media.
There’s no downplaying the importance of understanding what is accurate in the media. These days, news literacy is a survival tactic. One study estimated that at least 800 people died because they embraced a COVID falsehood — and that inquiry was conducted in the earliest months of the pandemic. About 67 percent of the unvaccinated believe at least one COVID-19 myth, according to the Kaiser Family Foundation.
It’s not that accurate information isn’t available; people are rejecting reports of vaccine efficacy and safety because they distrust the news media. A third of Americans polled by Gallup said they have no trust at all in mass media; another 27 percent don’t have much at all.
Getting people to believe information presented to them depends more on trust than it does on the actual data being shared. That is, improving trust isn’t an issue of improving reporting. It’s an issue of improving relationships with one’s audience.
And that’s the real news problem right now; some celebrity anchors at cable news outlets are doing little to strengthen their relationships with their audiences and a lot to strengthen their relationships with government officials.
The most obvious example is how CNN terminated Prime Time anchor Chris Cuomo last month for his failure to disclose the entirety of his role in advising his brother, former New York Gov. Andrew Cuomo, on the sexual harassment accusation that unfolded in Albany, a scandal that eventually led to Andrew Cuomo’s resignation.
But there are others. Just this month, the House Select Committee to Investigate the January 6th Attack on the United States Capitol revealed that another anchor on another cable news network, Laura Ingraham of Fox News’ The Ingraham Angle, texted then-White House Chief of Staff Mark Meadows last January, advising Meadows how Trump should react to reports of possible armed protests at state capitols around the country. This revelation followed the story that Sean Hannity, host of the eponymous news hour at Fox News, also texted Meadows with advice last year.
And while he didn't advise a government official, CNN anchor Don Lemon revealed information not available to the public when he texted embattled Empire actor Jussie Smollett to tip him off about the Chicago Police Department’s wavering faith in his story about an assault. That’s from Smollett’s own sworn testimony.
When English philosopher Edmund Burke joked about the press being the Fourth Estate — in addition to the First, Second and Third (the clergy, nobility and commoners, respectively) — his point was that, despite their influence on each other, these “estates” — bastions of power — are supposed to be separate.
The Fourth Estate will always be an essential counterweight to government. But, since Donald Trump was elected in 2016, we’ve been so focused on stopping an executive branch from pressing the press to support an administration's agenda — either by belittling journalists or threatening to arrest them for doing their jobs — that we’ve ignored the ways that it affects and influences other Estates, and not necessarily through its reporting.
That is, we have news personalities-cum-reporters who are influencing government policy — and not telling us about it until it’s too late.
The United States has fostered an incredible closeness between the Second Estate — which in 2021 and 2022 would be political leaders — and the Fourth Estate. About a year ago, an Axios reporter had to be reassigned because she was dating one of President Biden’s press secretaries. Last year, James Bennet, the former editorial page editor of the New York Times and brother of Colorado Senator and 2020 Presidential candidate Michael Bennet, had to recuse himself publicly from the Gray Lady’s endorsement process. In 2013, the Washington Post reported at least eight marriages between Obama officials and established journalists.
To be clear, there aren’t any accusations that anyone just mentioned engaged in anything other than ethical behavior. But I, for one, don’t believe that James and Michael Bennet didn’t discuss Michael’s campaign. I don’t think the Axios reporter and her West Wing-employed boyfriend — or any journalists and their federally employed spouses, for that matter — didn’t share facts that the public will never know. Such is the nature of family and intimacy.
And as long as those conversations don’t affect the coverage of any news events, there’s nothing specifically, technically wrong with them. But that doesn’t mean that they aren’t damaging.
As these stories show, when we don’t know about these advisor roles, at least not until someone other than the journalist in question exposes them, it causes a further erosion of trust in news media.
What’s foolish about the Cuomo, Ingraham, Hannity, and Lemon improprieties is that they don't necessarily need to be the problem they’ve become. Cuomo’s show contained opinion content like 46 percent of CNN’s programming. An active debate rages on as to whether Fox News is all opinion and whether or not it can rightly even be called opinion journalism since its shows are so studded with inaccuracies and lies.
What that means is that Cuomo, Ingraham, Hannity, and Lemon are allowed to take a stand as opinion journalists; Cuomo and Lemon never really worked under a mandate of objectivity and Ingraham and Hannity likely wouldn’t honor it if they did. Indeed, a certain subjectivity — and explaining how it developed for the journalist — is part of an opinion journalist’s craft. To me, little of these consulting roles would be problematic if any of these anchors had just disclosed them and the ways they advised the people they cover.
But they didn’t. Instead, the advice they dispensed to government employees and celebrities was disclosed by a third party and news of it contributes to the public’s distrust in the media. While personal PR advisory connections between journalists and politicians haven’t been pinpointed as a source of distrust, they may have an effect. Almost two-thirds of respondents in a Pew Research poll said they attributed what they deemed unfair coverage to a political agenda on the part of the news organization. No one has rigorously examined the ways in which individual journalists can swing institutional opinion so it may be part of the reason why consumers are suspicious of news.
Cleaning up ex post facto is both a violation of journalistic ethics and ineffective. Apologies and corrections after the fact don't always improve media trust. In other credibility contests, like courtroom battles, statements against one’s interests enhance a person’s believability. But that’s not necessarily true of news; a 2015 study found that corrections don’t automatically enhance a news outlet’s credibility.
It’s a new adage for the 21st century: It’s not the consulting; it’s the cover-up. Journalists need to disclose their connections to government officials — up front — to help maintain trust in news media. Lives depend on it.

Chandra Bozelko did time in a maximum-security facility in Connecticut. While inside she became the first incarcerated person with a regular byline in a publication outside of the facility. Her “Prison Diaries" column ran in The New Haven Independent, and she later established a blog under the same name that earned several professional awards. Her columns now appear regularly in The National Memo.


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