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DanKarmelSecondPaper 4 - 17 Apr 2010 - Main.DanKarmel
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The Collapse | |
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< | According to Leff, the pitch for an effective sale or swindel must explain the mutual wealth being created for the parties. For the housing bubble, this was the “mysterious thin air” of real estate appreciation. When we discussed the collapse of the mortgage industry in class, Eben solicited suggestions for what had gone wrong. One person stated that the problem was the widespread societal assumption that home prices would never stop appreciating. This wasn’t the answer Eben was looking for, but at some level it was correct. With few exceptions, home prices had grown steadily for generations. Borrowers were willing to accept adjustable-rate mortgage (ARM) loans because they were confident that by the time the rate on their mortgage was due to adjust, they would have almost certainly generated wealth in their homes simply by living in them, and they could refinance their mortgages before the more onerous rates kicked in. | >
> | According to Leff, the pitch for an effective sale or swindel must explain the mutual wealth being created for the parties. For the housing bubble, this was the “mysterious thin air” of real estate appreciation. When we discussed the collapse of the mortgage industry in class, Eben solicited suggestions for what had gone wrong. One person stated that the problem was the widespread societal assumption that home prices would never stop appreciating. This wasn’t the answer Eben was looking for, but at some level it was correct. With few exceptions, home prices had grown steadily for generations. Borrowers were willing to accept adjustable-rate mortgage (ARM) loans because they were confident that by the time the rates on their mortgages were due to adjust, they would have almost certainly generated wealth in their homes simply by living in them, and they could refinance their mortgages before the more onerous rates kicked in. | | | As Eben pointed out though, this was only part of the story, since lenders and investors made similarly poor decisions. The question isn’t why most lay people thought housing was never going to die, the question is why didn’t all the really smart Wharton investment bankers know it? First of all, some did. Yet some of the legitimately most qualified minds in finance actually did buy into the hype. Personally, I recall a friend who received a Finance degree from Wharton telling me how her professor used to sing the praises of the subprime securitization invention – it had made the dream of home ownership possible for millions of people, and all the while at very little risk. |
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