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Only One Thing You Need to Know: The Bernanke Put


What you need to know (and what it means)!


Minyanville's daily Five Things You Need to Know to stay ahead of the pack on Wall Street:

The Bernanke Put

Federal Reserve Chairman Ben Bernanke, in prepared remarks before a conference on bank structure at the Chicago Fed, absolved the Fed of playing any role whatsoever in the subprime loan debacle, declared the subprime problem "isolated" from "responsible lending" and then waved around a gigantic put option just to let everyone know that, regardless, the Fed will step in and clean up whatever mess is left over.

  • Bernanke's remarks on the subprime mortgage market were "contained" in a speech colorfully titled, "The Subprime Mortgage Market."
  • How did we get to this point where the "well-contained" and "isolated" subprime mortgage market has produced the worst housing slump since the Great Depression?
  • How did we get to this point where the "well-contained" and "isolated" subprime mortgage market has caused the median existing-home price to drop nationwide for the first time since the Great Depression?
  • How did we get to this point where the "well-contained" and "isolated" subprime mortgage market has produced foreclosures running at a pace 60% higher than they were the year before?
  • How did we get to this point where the "well-contained" and "isolated" subprime mortgage market has put 2.2 million Americans at risk of losing their homes?
  • According to Bernanke we got to this point when subprime mortgage lending magically decided to expand in the mid-1990s.
  • "Having emerged more than two decades ago, subprime mortgage lending began to expand in earnest in the mid-1990s, the expansion spurred in large part by innovations that reduced the costs for lenders of assessing and pricing risks," Bernanke says.
  • "In addition, lenders developed new techniques for using [credit scoring] to determine underwriting standards, set interest rates, and manage their risks," he added.
  • To manage their risks? Really? To manage their risks? Are you sure that's gonna be your story? Cause you can make up something else if you want, you know. No? So, you're gonna stick with new techniques "to manage their risks"? OK.
  • Below is a list of the NOW DEFUNCT mortgage lenders that were apparently not quite as successful at taking advantage of the "new techniques for using [credit scoring] to determine underwriting standards, set interest rates, and manage their risks."
  • Great Moments in Mortgage Lending Risk Management History:
    List of Defunct Mortgage Lenders

    (as of May 16, 2007, from The Mortgage Lender Implode-O-Meter)
    2007-05-16: Mortgage Tree Lending
    2007-05-03: Homeland Capital Group
    2007-05-02: Nation One Mortgage
    2007-04-30: Dana Capital Group
    2007-04-27: Millenium Funding Group
    2007-04-20: MILA
    2007-04-20: Home Equity of America
    2007-04-19: Opteum (Wholesale, Conduit)
    2007-04-19: Innovative Mortgage Capital
    2007-04-16: Home Capital, Inc.
    2007-04-13: Home 123 Mortgage
    2007-04-12: Homefield Financial
    2007-04-11: First Horizon Wholesale
    2007-04-11: Platinum Capital Group
    2007-04-09: First Source Funding Group
    2007-04-10: Alterna Mortgage
    2007-04-09: Solutions Funding
    2007-04-05: People's Mortgage
    2004-04-04: Zone Funding
    2007-04-02: SouthStar Funding
    2007-03-30: Warehouse USA
    2007-03-29: H&R Block Mortgage
    2007-03-31: Madison Equity Loans
    2007-03-22: Sunset Direct Lending
    2007-03-22: Kellner Mortgage Investments
    2007-03-20: LoanCity
    2007-03-17: CoreStar Financial Group
    2007-03-16: Ameriquest
    2007-03-15: Investaid Corp.
    2007-03-14: People's Choice Financial Corp.
    2007-03-14: Master Financial
    2007-03-10: Maribella Mortgage
    2007-03-09: FMF Capital LLC
  • We want to be very clear that we're not making this list up. Seriously.
    2007-03-08: New Century Financial Corp.
    2007-03-05: Ameritrust Mortgage Company
    2007-03-05: Trojan Lending
    2007-03-02: Fremont General Corporation
    2007-03-02: DomesticBank
    2007-02-28: Franklin Financial
    2007-02-26: Ivanhoe Mortgage/Central Pacific Mortgage
    2007-02-25: Eagle First Mortgage
    2007-02-16: Coastal Capital
    2007-02-14: Silver State Mortgage
    2007-02-13: ResMAE Mortgage Corporation
    2007-02-12: ECC Capital/Encore Credit
    2007-02-08: Lender's Direct Capital Corporation
    2007-01-31: Concorde Acceptance
    2007-01-31: DeepGreen Financial
    2007-01-25: Millenium Bankshares
    2007-01-25: Summit Mortgage
    2007-01-24: Mandalay Mortgage
    2007-01-23: Rose Mortgage
    2007-01-19: EquiBanc
    2007-01-19: FundingAmerica
    2007-01-09: Popular Financial Holdings
    2007-01-08: Clear Choice Financial/Bay Capital
    2007-01-08: Origen Wholesale Lending
    2007-01-05: SecuredFunding
    2007-01-03: Preferred Advantage
    2006-12-29: MLN
    2006-12-20: Harbourton Mortgage Investment Corporation
    2006-12-07: OwnIt Mortgage
    2006-12-06: Sebring Capital Partners
    2006-11-21: Axis Mortgage & Investments
    2006-11-08(?): Meritage Mortgage
    2006-04-14: Acoustic Home Loans
    2006-05-06: Merit Financial
  • OK, we just wanted to, you know, for the record, take a look at how these new techniques in credit scoring and risk management are playing out. Now, back to the Bernanke Put speech.
  • "Homeownership has also helped many families build wealth, and accumulated home equity may serve as a financial reserve that can be tapped as needed at a lower cost than most other forms of credit," Bernanke notes.
  • So, to be clear, homeownership has helped people "build wealth," which can then be "tapped" as a "financial reserve"? What happens after you "tap your wealth"? Just asking.
  • Bernanke is quick to note that mortgage originators have contributed to the recent problems in subprime.
  • "The practices of some mortgage originators have also contributed to the problems in the subprime sector. As the underlying pace of mortgage originations began to slow, but with investor demand for securities with high yields still strong, some lenders evidently loosened underwriting standards," he says.
  • Why did the underlying pace of mortgage originations begin to slow? No word from the Fed Chairman on that.
  • Why was "investor demand for securities with high yield" so strong in the first place? Again, no word from the Fed Chairman on that either.
  • We wonder if that's perhaps because the Fed's role in access to credit would need to be examined?
  • Moreover, not once are those who purchased credit mentioned in his speech. Not once.
  • It's as if "loosened" lending standards helped "cause" the default surge somehow!
  • Are we to believe that lenders just woke up one morning and said "Hey, let's extend credit to the worst possible loan risks we can find!"?!?
  • Access to credit and credit demand go hand-in-hand.
  • "The problems in the subprime mortgage market have occurred in the context of a slowdown in overall economic growth," Bernanke says in detailing the "Macroeconomic Implications."
  • He doesn't mention that the Fed has noted "moderate economic expansion" and above average resource utilization in their Fed statements almost from the day he took over as Fed Chair.
  • "The cooling of the housing market is an important source of this slowdown," he adds.
  • Yet , "we believe the effect of the troubles in the subprime sector on the broader housing market will likely be limited, and we do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system," Bernanke says.
  • And finally, in conclusion, we get the implicit Bernanke Put:
    "We at the Federal Reserve will do all that we can to prevent fraud and abusive lending and to ensure that lenders employ sound underwriting practices and make effective disclosures to consumers. At the same time, we must be careful not to inadvertently suppress responsible lending or eliminate refinancing opportunities for subprime borrowers. Together with other regulators and the Congress, our success in balancing these objectives will have significant implications for the financial well-being, access to credit, and opportunities for homeownership of many of our fellow citizens."
  • So there you have it, in one fell swoop he absolves the Fed of playing any role whatsoever in the subprime loan debacle, declares the subprime problem "isolated" from "responsible lending" and then waves around a gigantic put option just to let everyone know that, regardless, the Fed will step in and clean up whatever mess is left over.
  • That's why today there's only one thing you need to know. No worries. Carry on. The Fed's got your back.
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