Thank you so much for this. I am an engineering techie who has become deeply interested in economics and finance after the 2007-2009 financial crisis. Your videos provide valuable and clear explanations to complicated subjects I am currently reading about.
For the people asking about what the bank gains, you have to remember they tranche the MBS into different classes. A large portion will be AAA rated paper which the bank can sell to investors at above par pricing. Also, the mortgage backed bonds will sell for a higher price than its parts as the bond market is massive and the bank just transformed the asset into something much more liquid (more liquidity=less risk=lower yield it needs to command at sale vs the stated interest rate on the individual mortgage). So coming full circle, as all assets are worth the present value of future cash flows, the bank bought assets (mortgages) discounting them at a 5% rate, and transformed them into bonds that investors will pay/discount by a 3% rate as there is now a smaller liquidity premium.
Thanks i was trying to figure out how ratings get upgraded by packaging junk. I didnt consider the liquidity. Still a stupid rating bump. How on earth can a confusing system with no growth potential get a better rating than the US govt? Lol
@5:05 As the presenter correctly pointed out, 10% of the loan is worthless. Then, the investor will have 0% return since the worthless loan completely offsets the potential 10% return at the beginning, not 9%. I'm surprised almost nobody pointed this out. But other than this mistake, great video!
I think its because the weighted return of the MBS falls to 9% since 10% of the MBS's expected return is 0 due to default of payments.[(900/1000*10%)+(100/1000*0%) = 9%
I think the assumption is that the recovery revenue from selling the houses (10% of 1 billion = 100 million) is spread over the total payment period (10 years), therefore having an income of 10 million from recovery per year; the rest of the 0.8 billion 'active' loans continue to churn out interest payment of 80 million a year. If you add them up together and calculate the expected returns = 90 million/1 billion = 9% yearly. I guess the video just have to specify the assumptions and calculations, otherwise is sound.
No, the video is right The loss will be 1000 people x $ 1 million loan x 20% default rate x 50 % not recovered = $ 100 million over the 10 years, or $ 10 million loss every year The net return per year will be ($ 100 million interest income - the $ 10 million loss) / $ 1 billion x 100% = 9% He is talking about accounting gain/ loss, which does not consider the interest investors miss if someone defaults (under generally accepted accounting principles)
Good work. Minor comment: with a 20% default rate and 50% recovery that is 10% of the principal gone (not 10% of the interest). It actually wipes out the interest element completely.
I think the second half of the video just wants to emphasize that MBSs can become the bridge between mortgage borrowers who generally can't pass the lending requirement of the bank and investors (creditors) who pursue high rates of return and thus are willing to lend money to those borrowers though the risk is also high.
I didn't understand how did the Investment made money in this scenario. If he just gets back his 1 billion from the Investors, then what was the point of buying the rights for the loan? As far as I understood, in case of default, the investors are gonna lose the money, not the bank, am I right? Please anyone explain me again. Thanks.
But how if the SPE is formed 100% from money of the investors. Where did you get that officers hold 51% of the stock authorized? I am interested in learning more about it.
@ABCInfinit3 No, its a net loss of only 100 million. Remember they have a 50% recovery from the 20 million loss.You have it right in your other post. He is assuming that 50% of the loss will be recovered. So any loss incurred, divide that by half, because you have to remember that they can resell the house and get the proceeds to limit their losses.
What doesn't get said here is that the commercial banks weren't just selling off these already subprime loans solely because they needed more cash deposits on hand to make more loans, although that was certainly a factor given that they were passing them out like hotcakes), but because they were basically playing "hot potato" with them because they _knew_ they were bad. Investors in the investment banks wouldn't have had the same knowledge or standards as the commercial banks, and so would have merely continued themselves what the commercial banks were already doing, albeit, adding to the greater frequency of it. What this fails to note is that had these loans been better vetted by the banks that made them n the 1st place, they wouldn't have been a problem for the investment banks and their investors. So _WHY_ were the banks giving out so many bad loans, you ask? Well, for one, why worry about it when you can just sluff them off onto some other sucker, but even then there is a risk that once the investment banks catch on to this pattern of irresponsibility will stop buying them, putting those commercial banks in a real pickle,...But the _REAL_ main reason why they were was because they were required under law to give out mortgages to people that they ordinarily would not have given them to, and it is only upon this that the whole fiasco was built. That is why they were in such a hurry to get rid of them, which then only fueled the frequency at which they were being given out all the more (because they were under legal obligation to do so, so might as well cash in as much as you can while you still can). When the same FDIC that ordinarily would have frowned upon such practices was now giving the green light, in combination with, and given that, the law now REQUIRED those banks to give out bad loans, well, recipe for disaster. The banks ultimately had no choice or say in the matter, because had they been more restrictive as they ordinarily would have been, the strong arm of the law would have come down on them and prosecuted them for denying loans to poor people. The banks were just doing what they had to to stay afloat, so you can't blame them. This was a govt created disaster. Had it not been the case, the securities would not have been anywhere near the frequency and number that they were, and wouldn't have been anywhere near as risky. The self-regulating forces of the market would have kept it more or less in check. And as well, a PRIVATE (rather than govt run, as we have now) insurance agency would never have allowed such practices to take place, -- that is, short of the law REQUIRING much less "allowing" it. What a joke. Granted to Khan's credit he didn't speak on any of this, because this was not the point of the video. I'm just throwing in my own two cents.
The laws you are talking about (which you have heard from your libertarian overlords), i.e. CRA, had nothing to do with the financial crisis as documented by studies conducted by nobelist economist Krugman, Seidman, Westrich and Gordon. Most of the subprime loans didn't come from institutions that are regulated by the CRA; the CRA regulated bank subsidiaries and affiliates only contributed around 25% to the subprime loans that caused the crisis and that is a percentage that is expected and predicted by the models. So no government regulation was not the cause of crisis but lax regulation. Financial Crisis Inquiry Commission also noted that CRA was not a significant factor in the crash, but those independent institutions that are free to give loans without any government oversight had a rate of 50% high-risk loans. That's free market regulating itself for you.
51MontyPython don’t forget the ratings organization were misrepresenting the quality of those loans as well. So investors thought they were buying a less risky loan. 😳🙄
The book The Big Short goes into this in great detail, but suffice it to say, the investment banks wouldn’t have been giving out these subprime mortgage-backed CDO's in the quantity and frequency if they didn't want to. The entire creation of the SYNTHETIC CDO is a testament to this (for anyone that doesn't know, the synthetic CDO was a bet on a bet, on a bet, about the subprime loans when there weren't enough people to offer even more crappy loans to). There was no law saying the Synthetic CDO needed to be created. Indeed, it was incredible creativity from the free market working in an obscure, intentionally non-transparent industry. In lieu of the regulated stock market where everything can mostly see what's happening, here they (Wall Street at large) was free to come up with a purposely complex machine that churned out worthless securities with zero oversight. The free market works best, ironically enough, when there's a partnership with government regulation.
What he meant was that the main assets from which future economic benefits( interest payments by borrowers) is expected are loans. Properties act only as a collateral and are of no value to investment banks if the borrower doesn't default.
Variable rate subprime NINJA loans are one of the major things that threw that model into the trash can. Worthless. And with the rating agencies breaking, under pressure, to give B-BBBs a 93+% ratings, essentially calling them A-AAAs, in 2007, it was no wonder that the house of cards collapsed in such a spectacular way.
Now, not only the default make the problem worst, the asset(house) value went down, eg. 20% of 1b defaulted = 200m worth of asset, the owner r not able to make payment, the bank took their asset and put in on auction, guess what, if the asset value now drop to just 50%, the bank can only recover 100m, ie, it loses not only the interest of 200mx10%, 20m per yr, also the capital is reduced by 100m.
How much do investors profit assuming no defaulting occurs? They pay $1,100 for the MBS, receive $100 per year in interest for 10 years, and they are also paid back $1000 at the end, right? So are they profiting $900 per share?
why the first bank sell it to investment bank at 1B? the money from the first bank is from the people's deposite, so it should be higher than the interest paid to the deposite holder? is that correct? higher than 5% as your presume in the first vedio
Thank you for this very interesting way of how cash is flown with interest Im here based on reading 10k forms on holding companies and a mixture of real estate and the way they generate revenue, over all much is appreciated thanks for taking the time most colleges would just over due it and create a whole world of head ache and debt..
What I don't understand is what is the point of making the SPE and issuing stock if the company is only going to get $1 Billion back? It seems as though they're lending $1 Billion, giving the rights to the interest payments to stockholders, and getting $1 Billion back in the form of issued stock. So what does the bank/SPE gain in net?
+Jem Bailey-Orchard See, in one of the prior videos, Sal explained that the bank that initially issued the loans "sold" the loans to an investment bank for a set price. So, the original bank received all of their cash back, plus fees. The investment bank paid for the loans with the cash of investors who purchased securities, and in-return, the investors receive interest on their securities. The investment bank then would have collected a brokerage fee for their management service.
+Jem Bailey-Orchard They will be making money not directly tied to the success of the loans. Investors will pay them for the service of managing assets in various ways (transaction fees, brokerage fees, etc) And the bank may hold securities of their own.
My question is, who owns my loan? original bank got paid from investment bank. Investment Bank got paid thru the MBS or investors. If i default, who has the legal right to foreclose? If the investement bank already got paid?
I can't understand why should a bank switch to this model in which it's securitizing the mortgages and selling them as a product to investors. After all it's the same ammount of money you get...either from 1000 borrowers x 1 million USD or 1 million investors x 1000 USD. The only advantage I see is that it gets rid of the risk of the borrowers' default and it also gets the lent money earlier than say 10 or 20 years.
When the bank sells the loans they charge fees, so they get more than a 1 million, let's say 1,1 million. So know that they have that 1,1 million, they can go and repeat the process again, each time gaining more money.
@KoalaBearWarrior They don't though. When those 200 people default you lose 200m off the principal. If 50% is recovered then you get 100m back so the principal is still only worth 900m. And then add the 10% interest the remaining 800 people are still paying which would be 80m a year.
@Khanacademy PLEASE HELP I understand everything but if the investment bank buys the rights to the mortgages from the local bank for $1Billions, then sets up a S.P.E. and sells all the "million" shares to investors for $1,000/share = $1Billion dollars, where does it benefit? The investors are now getting all of the interest and all the investment bank (or SPE) did was buy the rights to the income stream for $1Billion and then sold them through IPO for $1Billion, where's the profit for the SPE?
I am a beginner and have one doubt y is it told if anyone defaults and house is auctioned we get only 50% recovery.if house is worth 25 lak and auctioned off....y will I get only 50 % recovery and 10% loan is worthless what is the meaning of this. Sorry if my question sounds stupid but I can't understand this portion so can anyone teach me this part
@entertheoctagon You're over thinking it. If 20% default, then 80% are still paying right? So you have 80% + 0.5*10% = 90% of the 10% each year, so you then earn 9% a year, not 8%.
i got what was happening in the first part, but this is just pure confusion, also does the entity keep the 1.1 billion dollars or does it end up back at the banks?
Yes sirrrr the last 1 holding the loans is the loser!!!! Also it’s not the percentage of borrowers that default that matters. It’s when in the life of the loan the default happens. If you have a 100% default rate but the avg default term is 90% thru the loan’s life. You realized 90% of the payments & take the Real Asset as well!!!
@KoalaBearWarrior The way I interpreted what Khan said was for simplicity he assumes all 20% default in year 1. So they don't pay any of the interest and ends up at a loss of 200m. But since 50% is recovered through selling the houses its only 100m. 800 people still pay their 10% which would be 80m. So in year 1 that is a net loss of 20m. But there are 800 left to pay 10% which would be 80m/year and end up at a net gain of 700m after 10 years. Not sure but thats how I interpreted the situation.
Ideally, borrowers pay 10% per year over 10 years and pay back the total amount at the end. The investment bank receives $2Billion from borrowers. If 20% default, with the 50% recovery on their properties. The investment bank will get $100m from the recovery $800m from end pay-back Year : 1 2 3 .... 9 10 Interest $: 80m 80m 80m 80m 80m That is $800m over 10 years + $800m from the total properties + $100 from the recovery, that makes $1.7Billion, 15%loss??
My question when we have 20% default and 50% recovery then 10% of the loans are worthless, and the profit will be gone?? But you mention that the ptofit will be 9% rather than 10%
What me means is there is a pool of 1000 people that have taken a loan, now default rate is 20 % ( of 1000 borrowers)and recovery rate is 50 % ( of value of house being 1 million). So 200 people will default and the investment bank will recover 500k by selling their property. 500,000*200 = 10,000,000 ( 10 million). 10 million is 10% of 1 billion ( original loan value), hence the return expected (10%) will be down by 10 percent which is 1% ( 10 Percent of 10%). Hence the 9% return. Hope this helps
@@ikshitness late to respond, but i think you got the math wrong. 500k x 200 = 100M not 10M And 100M is 10% of 1B. Other than that, it's a good explaination.
I would like to ask a question when a regular bank gives out $1 billion worth of loans it uses fractional reserve banking rules to bring new money into existence - right? is it that when an investment bank buys these mortgages and sells them further - then existing money (i.e. savings) gets used. Now, that most of these mortgage backed securities have gone to dirt - so is it that existing money (i.e. money that is no longer debt) got destroyed? any responses are welcome
The treasury … that’s where the money comes from for all debts. All debts are PAID OFF ALREADY. THEY MADE US THINK WE OWE THEM. They have been committing securities fraud before the SEC was even created hence the reason WHY IT WAS CREATED. This complex explanation is purposely made SO THAT YOU DONT SEE YOURE BEING ROBBED BLIND. Banks DONT GET MONEY WITHOUT U. They don’t have money period
Yes. The commercial bank and investment bank are middle men. It's the investors in the SPE toothache are providing the loan capital to the home owners. Similar to how a retail store buys products wholesale from a manufacturer and charges you a markup when selling to you.
@ABCInfinit3 That is exactly what I came to but I suppose you have no idea when they will default. But it seems to me that if 20% default and %0% is recovered then that is your profit gone. But other than that these videos are brilliantly explained.
If 20% of the loan defaults, wouldn't that in turn make 20% less interest payers? And in turn wouldn't that make the returns 8% rather than 9%? Wouldn't the liquidation of the houses only return a part of the money the investors initially paid but not actually be part of the interest?
Their model is extremely basic... first these aren't shares... theyre fixed income investments which keeps bothering me. In actuality there are a lot of moving parts. when a mortgage goes DQ and defaults, usually the servicer will advance some of the principal and interest to the tranches and then recoup what they advanced when the home is sold. But theoretically, interest would stop paying, but the tranches usually (not always the case, and then there are interest shortfalls) have coupons that are less than the weighted average mortgage rate, so there should be enough interest flowing through to cover payments. Of course, things really blew up, but if you want more information, ask me. These are EXTREMELY risky and confusing. And a heads up I work with these on a daily basis for my job as an analyst.
@KoalaBearWarrior Why is the 50% coming out of the interest payments though? If 200 people default and the bank reclaims all of their 1m houses that would be 200m and then a 50% recovery would mean 100m. Shouldn't the 50% recovery only apply to the principal recovered from the sale of the houses?
@theporksicle If your house is worth 1.5 mill in that case then you should have no problem getting a "home equity" loan from another one of these greasy loan companies if not the same one. Or you could sell it for 1.5, pay off the mortgage, and walk with the cash
Old comment but I'll try to answer it anyways. I'm assuming that a 9% return is more than the amount they had to pay for money they loaned to buy those securities. Interest only loans could be much lower in this scenario.
I understood that the 1 million shares are bought at 1000$ each or at a slightly greater rate by the investors and the investors are to get 10% interest ideally unless the borrowers default . My question is if that in this case, how does the SPE make profit out of the whole deal? They are virtually directly the deal to happen between the borrower and investors.Could someone please clarify.Please correct me if my undestanding is wrong.
Kipps Bust Here's a question I have. Since the mortgages were already lent to the homeowners, how would the SPE make money off of finding buyers that already existed and were already paying into those mortgages (save of course for those few that would have defaulted)? I must still be missing something.
+51MontyPython The investment banks make money more through the investors than the homeowners. They make money by selling stock to investors which, they calculate, will amount to more than they purchased the loans from the commercial banks for. Also they charge the investors fees like the other guy said for brokering, closing, e.t.c.
The bundling into the remote vehicle in exchange for servicing the deal is where they get their money... they usually shave a few basis points off of the collected interest before the payments go through the waterfall. On another note, today, you can still buy whole loans, and what are called RPL (re-performing loans) and NPL (non-performing loans). depending on the valuation you make to purchase these, you can still make a decent amount of money off them. These now exist too like mortgage backed securities do. also wanna stress again these are fixed income investments and not shares, i feel like that confuses people.
The commercial banks are middle men too in this case. I assume IBs can touch investors more easily since they can sell securities through exchanges and brokerage firms, idk
This video is wrong...if the recovery rate is 50%, you don't just lose 50% of your interest...you lose 50% of what's been loaned. If 20% default, you lose 50% of 200 Million (100 million) AND get no interest from them. The result is 900 million plus the interest from the remaining 800 million in good loans, 980 million. Net LOSS of 20 million (2% loss, not a 9% gain)
20% default results in $200M out of which if the banks are able to recover only 50% from the collateral which is the house then they would get $100M which is 10% of all the mortgages.
이거 투자은행이 은행에 이자 싸게 돈 빌릴려고 만든 구조 아닌가? 시작은? 은행은 조금이라도 이자를 더 받고, 사람들이 돈 못 갚는 리스크를 헷지하는 두가지 장점이 있고, 투자은행은 생 돈을 빌리고 이자를 내는 것보다 채무관계를 넘겨 받고 사람들한테 이자를 받은 걸 은행에 주고 거기에 수수료도 주고, 자기들은 원금을 받아서 굴릴 생각을 한 듯. 근데 이 방법이 이자를 더 싸게 돈을 쓸 수 있는 게 아니면 이걸 할 이유가 없지... 채권처럼 생각한건가 여기까지는 납득 가능한데... 아 맞다. Us 부동산이 상승한다에 베팅한 거지. 또 파생상품 만들어서 판게 이제 투자은행의 비도덕성 아닌가;; 근데 사람들이 빚을 못 갚고 그 빚을 대신 갚아야하는 상황에 리만 파산?
![เปิด อาณาจักร หมื่นล้าน "สาระตั้ม" l [Nickynachat]](http://i.ytimg.com/vi/3XE0nPF4YkQ/mqdefault.jpg)
![F.HERO Ft. JSPKK x ลำไย ไหทองคำ x M-PEE - ไม่สนิทบิดหมด (Thai Riders Anthem) [Official MV]](http://i.ytimg.com/vi/kPJZ0UihBfk/mqdefault.jpg)
![[Live สด] การออกรางวัลสลากกินแบ่งรัฐบาล งวดวันที่ 16 พฤศจิกายน 2567](http://i.ytimg.com/vi/wPd7VFfWHIA/mqdefault.jpg)
Thank you so much for this. I am an engineering techie who has become deeply interested in economics and finance after the 2007-2009 financial crisis. Your videos provide valuable and clear explanations to complicated subjects I am currently reading about.
What are you doing now? Are you in finance,?
Hey Oliver how is life now
For the people asking about what the bank gains, you have to remember they tranche the MBS into different classes. A large portion will be AAA rated paper which the bank can sell to investors at above par pricing. Also, the mortgage backed bonds will sell for a higher price than its parts as the bond market is massive and the bank just transformed the asset into something much more liquid (more liquidity=less risk=lower yield it needs to command at sale vs the stated interest rate on the individual mortgage). So coming full circle, as all assets are worth the present value of future cash flows, the bank bought assets (mortgages) discounting them at a 5% rate, and transformed them into bonds that investors will pay/discount by a 3% rate as there is now a smaller liquidity premium.
Good to know. Was wondering this. Glad I checked the comments.
Thanks i was trying to figure out how ratings get upgraded by packaging junk. I didnt consider the liquidity. Still a stupid rating bump. How on earth can a confusing system with no growth potential get a better rating than the US govt? Lol
This is the part of the movie where the blocks fall over. The triple A's were not so .
@5:05 As the presenter correctly pointed out, 10% of the loan is worthless. Then, the investor will have 0% return since the worthless loan completely offsets the potential 10% return at the beginning, not 9%. I'm surprised almost nobody pointed this out. But other than this mistake, great video!
Lool I thought the same thing
But it’s AAA rated, how could it possibly fail?
I think its because the weighted return of the MBS falls to 9% since 10% of the MBS's expected return is 0 due to default of payments.[(900/1000*10%)+(100/1000*0%) = 9%
I think the assumption is that the recovery revenue from selling the houses (10% of 1 billion = 100 million) is spread over the total payment period (10 years), therefore having an income of 10 million from recovery per year; the rest of the 0.8 billion 'active' loans continue to churn out interest payment of 80 million a year. If you add them up together and calculate the expected returns = 90 million/1 billion = 9% yearly. I guess the video just have to specify the assumptions and calculations, otherwise is sound.
@@Eric-cj7qn nice
THATS WHAT THEY WANT YOU TO THINK. One word… TREASURY
No, the video is right
The loss will be 1000 people x $ 1 million loan x 20% default rate x 50 % not recovered = $ 100 million over the 10 years, or $ 10 million loss every year
The net return per year will be ($ 100 million interest income - the $ 10 million loss) / $ 1 billion x 100% = 9%
He is talking about accounting gain/ loss, which does not consider the interest investors miss if someone defaults (under generally accepted accounting principles)
Good work. Minor comment: with a 20% default rate and 50% recovery that is 10% of the principal gone (not 10% of the interest). It actually wipes out the interest element completely.
I think the second half of the video just wants to emphasize that MBSs can become the bridge between mortgage borrowers who generally can't pass the lending requirement of the bank and investors (creditors) who pursue high rates of return and thus are willing to lend money to those borrowers though the risk is also high.
Loved this video
he's talking about a pen is my fav one
Best explanation I ever heard. Great job! Thank you so much.
I didn't understand how did the Investment made money in this scenario. If he just gets back his 1 billion from the Investors, then what was the point of buying the rights for the loan? As far as I understood, in case of default, the investors are gonna lose the money, not the bank, am I right? Please anyone explain me again. Thanks.
please anyone explain this lol
Love all these videos.
But how if the SPE is formed 100% from money of the investors. Where did you get that officers hold 51% of the stock authorized? I am interested in learning more about it.
@ABCInfinit3 No, its a net loss of only 100 million. Remember they have a 50% recovery from the 20 million loss.You have it right in your other post. He is assuming that 50% of the loss will be recovered. So any loss incurred, divide that by half, because you have to remember that they can resell the house and get the proceeds to limit their losses.
What doesn't get said here is that the commercial banks weren't just selling off these already subprime loans solely because they needed more cash deposits on hand to make more loans, although that was certainly a factor given that they were passing them out like hotcakes), but because they were basically playing "hot potato" with them because they _knew_ they were bad.
Investors in the investment banks wouldn't have had the same knowledge or standards as the commercial banks, and so would have merely continued themselves what the commercial banks were already doing, albeit, adding to the greater frequency of it. What this fails to note is that had these loans been better vetted by the banks that made them n the 1st place, they wouldn't have been a problem for the investment banks and their investors.
So _WHY_ were the banks giving out so many bad loans, you ask? Well, for one, why worry about it when you can just sluff them off onto some other sucker, but even then there is a risk that once the investment banks catch on to this pattern of irresponsibility will stop buying them, putting those commercial banks in a real pickle,...But the _REAL_ main reason why they were was because they were required under law to give out mortgages to people that they ordinarily would not have given them to, and it is only upon this that the whole fiasco was built. That is why they were in such a hurry to get rid of them, which then only fueled the frequency at which they were being given out all the more (because they were under legal obligation to do so, so might as well cash in as much as you can while you still can).
When the same FDIC that ordinarily would have frowned upon such practices was now giving the green light, in combination with, and given that, the law now REQUIRED those banks to give out bad loans, well, recipe for disaster. The banks ultimately had no choice or say in the matter, because had they been more restrictive as they ordinarily would have been, the strong arm of the law would have come down on them and prosecuted them for denying loans to poor people. The banks were just doing what they had to to stay afloat, so you can't blame them. This was a govt created disaster. Had it not been the case, the securities would not have been anywhere near the frequency and number that they were, and wouldn't have been anywhere near as risky. The self-regulating forces of the market would have kept it more or less in check. And as well, a PRIVATE (rather than govt run, as we have now) insurance agency would never have allowed such practices to take place, -- that is, short of the law REQUIRING much less "allowing" it. What a joke. Granted to Khan's credit he didn't speak on any of this, because this was not the point of the video. I'm just throwing in my own two cents.
The laws you are talking about (which you have heard from your libertarian overlords), i.e. CRA, had nothing to do with the financial crisis as documented by studies conducted by nobelist economist Krugman, Seidman, Westrich and Gordon. Most of the subprime loans didn't come from institutions that are regulated by the CRA; the CRA regulated bank subsidiaries and affiliates only contributed around 25% to the subprime loans that caused the crisis and that is a percentage that is expected and predicted by the models. So no government regulation was not the cause of crisis but lax regulation. Financial Crisis Inquiry Commission also noted that CRA was not a significant factor in the crash, but those independent institutions that are free to give loans without any government oversight had a rate of 50% high-risk loans. That's free market regulating itself for you.
51MontyPython don’t forget the ratings organization were misrepresenting the quality of those loans as well. So investors thought they were buying a less risky loan. 😳🙄
The book The Big Short goes into this in great detail, but suffice it to say, the investment banks wouldn’t have been giving out these subprime mortgage-backed CDO's in the quantity and frequency if they didn't want to. The entire creation of the SYNTHETIC CDO is a testament to this (for anyone that doesn't know, the synthetic CDO was a bet on a bet, on a bet, about the subprime loans when there weren't enough people to offer even more crappy loans to). There was no law saying the Synthetic CDO needed to be created. Indeed, it was incredible creativity from the free market working in an obscure, intentionally non-transparent industry. In lieu of the regulated stock market where everything can mostly see what's happening, here they (Wall Street at large) was free to come up with a purposely complex machine that churned out worthless securities with zero oversight. The free market works best, ironically enough, when there's a partnership with government regulation.
@1:40, the main assets are not the loans, but the properties securing the loans.
What he meant was that the main assets from which future economic benefits( interest payments by borrowers) is expected are loans. Properties act only as a collateral and are of no value to investment banks if the borrower doesn't default.
Variable rate subprime NINJA loans are one of the major things that threw that model into the trash can.
Worthless.
And with the rating agencies breaking, under pressure, to give B-BBBs a 93+% ratings, essentially calling them A-AAAs, in 2007, it was no wonder that the house of cards collapsed in such a spectacular way.
Now, not only the default make the problem worst, the asset(house) value went down, eg. 20% of 1b defaulted = 200m worth of asset, the owner r not able to make payment, the bank took their asset and put in on auction, guess what, if the asset value now drop to just 50%, the bank can only recover 100m, ie, it loses not only the interest of 200mx10%, 20m per yr, also the capital is reduced by 100m.
@ABCInfinit3 yes, he's implying that the sales of the houses will cover 50% of the missed interest pmts for the period
How much do investors profit assuming no defaulting occurs? They pay $1,100 for the MBS, receive $100 per year in interest for 10 years, and they are also paid back $1000 at the end, right? So are they profiting $900 per share?
why the first bank sell it to investment bank at 1B? the money from the first bank is from the people's deposite, so it should be higher than the interest paid to the deposite holder? is that correct? higher than 5% as your presume in the first vedio
Dude, you are awesome!!! I love these videos....thank you thank you!!
They create giromoney in an account not "real" money. Most of the money today is only a number on a computer harddisk.
Thank you for this very interesting way of how cash is flown with interest Im here based on reading 10k forms on holding companies and a mixture of real estate and the way they generate revenue, over all much is appreciated thanks for taking the time most colleges would just over due it and create a whole world of head ache and debt..
MBS has whole different meaning in 2018 Khan!
Carlos Diaz explain
Yes, please explain.
@@kodison4016 i think he just means that an MBS has a different meaning post-2008
@@SlackerBluePodcast Mohammad Bin Salman
What I don't understand is what is the point of making the SPE and issuing stock if the company is only going to get $1 Billion back? It seems as though they're lending $1 Billion, giving the rights to the interest payments to stockholders, and getting $1 Billion back in the form of issued stock. So what does the bank/SPE gain in net?
Interest. If 1Bn is loaned out, the investors will be receiving interest compounded on the principle payments.
Right, but if the investors gain the interest, but does the bank gain?
+Jem Bailey-Orchard See, in one of the prior videos, Sal explained that the bank that initially issued the loans "sold" the loans to an investment bank for a set price. So, the original bank received all of their cash back, plus fees. The investment bank paid for the loans with the cash of investors who purchased securities, and in-return, the investors receive interest on their securities. The investment bank then would have collected a brokerage fee for their management service.
Okay, so the money the investment bank makes is external to the transaction taking place with the loans?
+Jem Bailey-Orchard They will be making money not directly tied to the success of the loans. Investors will pay them for the service of managing assets in various ways (transaction fees, brokerage fees, etc) And the bank may hold securities of their own.
My question is, who owns my loan?
original bank got paid from investment bank.
Investment Bank got paid thru the MBS or investors.
If i default, who has the legal right to foreclose? If the investement bank already got paid?
great explanation thanks. Very hard to find good simple information on the subject thanks for taking the time to put it out.
I can't understand why should a bank switch to this model in which it's securitizing the mortgages and selling them as a product to investors. After all it's the same ammount of money you get...either from 1000 borrowers x 1 million USD or 1 million investors x 1000 USD. The only advantage I see is that it gets rid of the risk of the borrowers' default and it also gets the lent money earlier than say 10 or 20 years.
When the bank sells the loans they charge fees, so they get more than a 1 million, let's say 1,1 million. So know that they have that 1,1 million, they can go and repeat the process again, each time gaining more money.
@KoalaBearWarrior They don't though. When those 200 people default you lose 200m off the principal. If 50% is recovered then you get 100m back so the principal is still only worth 900m. And then add the 10% interest the remaining 800 people are still paying which would be 80m a year.
Terrific
@Khanacademy PLEASE HELP
I understand everything but if the investment bank buys the rights to the mortgages from the local bank for $1Billions, then sets up a S.P.E. and sells all the "million" shares to investors for $1,000/share = $1Billion dollars, where does it benefit? The investors are now getting all of the interest and all the investment bank (or SPE) did was buy the rights to the income stream for $1Billion and then sold them through IPO for $1Billion, where's the profit for the SPE?
I am a beginner and have one doubt y is it told if anyone defaults and house is auctioned we get only 50% recovery.if house is worth 25 lak and auctioned off....y will I get only 50 % recovery and 10% loan is worthless what is the meaning of this.
Sorry if my question sounds stupid but I can't understand this portion so can anyone teach me this part
@entertheoctagon You're over thinking it. If 20% default, then 80% are still paying right? So you have 80% + 0.5*10% = 90% of the 10% each year, so you then earn 9% a year, not 8%.
i got what was happening in the first part, but this is just pure confusion, also does the entity keep the 1.1 billion dollars or does it end up back at the banks?
its over 9000!!!!!!
Yes sirrrr the last 1 holding the loans is the loser!!!! Also it’s not the percentage of borrowers that default that matters. It’s when in the life of the loan the default happens. If you have a 100% default rate but the avg default term is 90% thru the loan’s life. You realized 90% of the payments & take the Real Asset as well!!!
Do you know where I can get defaulted loans?
@KoalaBearWarrior The way I interpreted what Khan said was for simplicity he assumes all 20% default in year 1. So they don't pay any of the interest and ends up at a loss of 200m. But since 50% is recovered through selling the houses its only 100m. 800 people still pay their 10% which would be 80m. So in year 1 that is a net loss of 20m. But there are 800 left to pay 10% which would be 80m/year and end up at a net gain of 700m after 10 years. Not sure but thats how I interpreted the situation.
plot twist: the default rate was not just 20% and the market collapsed
Does anyone knows Where I can buy defaulted backed securities? AKA defaulted loans. I am whiling to team up with someone on these.
Are mortgage backed securities completely the same as asset backed securities?
Ideally, borrowers pay 10% per year over 10 years and pay back the total amount at the end. The investment bank receives $2Billion from borrowers.
If 20% default, with the 50% recovery on their properties.
The investment bank will get
$100m from the recovery
$800m from end pay-back
Year : 1 2 3 .... 9 10
Interest $: 80m 80m 80m 80m 80m
That is $800m over 10 years + $800m from the total properties + $100 from the recovery, that makes $1.7Billion, 15%loss??
My question when we have 20% default and 50% recovery then 10% of the loans are worthless, and the profit will be gone?? But you mention that the ptofit will be 9% rather than 10%
What me means is there is a pool of 1000 people that have taken a loan, now default rate is 20 % ( of 1000 borrowers)and recovery rate is 50 % ( of value of house being 1 million). So 200 people will default and the investment bank will recover 500k by selling their property.
500,000*200 = 10,000,000 ( 10 million).
10 million is 10% of 1 billion ( original loan value), hence the return expected (10%) will be down by 10 percent which is 1% ( 10 Percent of 10%). Hence the 9% return.
Hope this helps
@@ikshitness late to respond, but i think you got the math wrong.
500k x 200 = 100M not 10M
And 100M is 10% of 1B.
Other than that, it's a good explaination.
I would like to ask a question
when a regular bank gives out $1 billion worth of loans it uses fractional reserve banking rules to bring new money into existence - right?
is it that when an investment bank buys these mortgages and sells them further - then existing money (i.e. savings) gets used.
Now, that most of these mortgage backed securities have gone to dirt - so is it that existing money (i.e. money that is no longer debt) got destroyed?
any responses are welcome
The treasury … that’s where the money comes from for all debts. All debts are PAID OFF ALREADY. THEY MADE US THINK WE OWE THEM. They have been committing securities fraud before the SEC was even created hence the reason WHY IT WAS CREATED. This complex explanation is purposely made SO THAT YOU DONT SEE YOURE BEING ROBBED BLIND. Banks DONT GET MONEY WITHOUT U. They don’t have money period
I love your videos
but how does the investment bank make money in this process?
IB makes money by selling those MBS to other entities at a premium
They sell it for $1100 per share. That is $1.1 Billion. So the Investment Bank makes $100 million.
nahh man they sell it in different categories with different prices
What happens to the principal amount of the loan? Special purpose entity gets it?
Yes. The commercial bank and investment bank are middle men. It's the investors in the SPE toothache are providing the loan capital to the home owners. Similar to how a retail store buys products wholesale from a manufacturer and charges you a markup when selling to you.
It's a going concern concept...keeps going
Does the SPE also have right to the title of the home if the borrower defaults?
+Tyler Heald Yes, it does and the benefits extracted from auctions/ recovery of the defaulted home will ultimately be passed on to stockholders.
@ABCInfinit3 That is exactly what I came to but I suppose you have no idea when they will default. But it seems to me that if 20% default and %0% is recovered then that is your profit gone. But other than that these videos are brilliantly explained.
If 20% of the loan defaults, wouldn't that in turn make 20% less interest payers? And in turn wouldn't that make the returns 8% rather than 9%? Wouldn't the liquidation of the houses only return a part of the money the investors initially paid but not actually be part of the interest?
You still want the answer to this? It was 3 years ago, idk.
Their model is extremely basic... first these aren't shares... theyre fixed income investments which keeps bothering me. In actuality there are a lot of moving parts. when a mortgage goes DQ and defaults, usually the servicer will advance some of the principal and interest to the tranches and then recoup what they advanced when the home is sold. But theoretically, interest would stop paying, but the tranches usually (not always the case, and then there are interest shortfalls) have coupons that are less than the weighted average mortgage rate, so there should be enough interest flowing through to cover payments. Of course, things really blew up, but if you want more information, ask me. These are EXTREMELY risky and confusing. And a heads up I work with these on a daily basis for my job as an analyst.
Keep in mind that of the 20% loan defaults, there's a recovery rate of 50%.
@KoalaBearWarrior Why is the 50% coming out of the interest payments though? If 200 people default and the bank reclaims all of their 1m houses that would be 200m and then a 50% recovery would mean 100m. Shouldn't the 50% recovery only apply to the principal recovered from the sale of the houses?
The individuals get dividend and hope for the appreciation of the stock price
How could the stock price appreciate? If the interest rates go up?
@theporksicle If your house is worth 1.5 mill in that case then you should have no problem getting a "home equity" loan from another one of these greasy loan companies if not the same one. Or you could sell it for 1.5, pay off the mortgage, and walk with the cash
After the SPE sells its shares to
individuals, how do those "individuals" profit?
4 years ago but these are fixed income investments and its a coupon payment
Old comment but I'll try to answer it anyways.
I'm assuming that a 9% return is more than the amount they had to pay for money they loaned to buy those securities.
Interest only loans could be much lower in this scenario.
@@ethanrubin2380 4years ago but it helped me
I understood that the 1 million shares are bought at 1000$ each or at a slightly greater rate by the investors and the investors are to get 10% interest ideally unless the borrowers default . My question is if that in this case, how does the SPE make profit out of the whole deal? They are virtually directly the deal to happen between the borrower and investors.Could someone please clarify.Please correct me if my undestanding is wrong.
The SPE makes money like a traditional mortgage broker, finder fee, closing cost etc to the buyer
Kipps Bust Here's a question I have. Since the mortgages were already lent to the homeowners, how would the SPE make money off of finding buyers that already existed and were already paying into those mortgages (save of course for those few that would have defaulted)? I must still be missing something.
+51MontyPython The investment banks make money more through the investors than the homeowners. They make money by selling stock to investors which, they calculate, will amount to more than they purchased the loans from the commercial banks for. Also they charge the investors fees like the other guy said for brokering, closing, e.t.c.
The bundling into the remote vehicle in exchange for servicing the deal is where they get their money... they usually shave a few basis points off of the collected interest before the payments go through the waterfall. On another note, today, you can still buy whole loans, and what are called RPL (re-performing loans) and NPL (non-performing loans). depending on the valuation you make to purchase these, you can still make a decent amount of money off them. These now exist too like mortgage backed securities do. also wanna stress again these are fixed income investments and not shares, i feel like that confuses people.
bare minimum expliantion of true bond backed and packaged MBS'
but good for the pleebs
This is what he said in the previous video. Assume its $1100 per share.
Didn't realise Kiefer Sutherland was financially literate or astute.
thanks
why dint you teach CFA ?
@KoalaBearWarrior Sorry strike the 100 million number. I meant the amount of total interest payable each year.
Hey, why can't the corporate bank set up the Special Purpose Entity? Isn't the Investment Bank just a middleman?
The commercial banks are middle men too in this case. I assume IBs can touch investors more easily since they can sell securities through exchanges and brokerage firms, idk
This video is wrong...if the recovery rate is 50%, you don't just lose 50% of your interest...you lose 50% of what's been loaned. If 20% default, you lose 50% of 200 Million (100 million) AND get no interest from them. The result is 900 million plus the interest from the remaining 800 million in good loans, 980 million. Net LOSS of 20 million (2% loss, not a 9% gain)
My question: In the case where 20% borrower default, there seems to be a 15% loss in Total, why do you mention only a 10% loss?
20% default results in $200M out of which if the banks are able to recover only 50% from the collateral which is the house then they would get $100M which is 10% of all the mortgages.
How can I reach you personally
@theporksicle Well then, no doubt the bank would pocket that and the "investors" would at best get their 10%
이거 투자은행이 은행에 이자 싸게 돈 빌릴려고 만든 구조 아닌가? 시작은? 은행은 조금이라도 이자를 더 받고, 사람들이 돈 못 갚는 리스크를 헷지하는 두가지 장점이 있고, 투자은행은 생 돈을 빌리고 이자를 내는 것보다 채무관계를 넘겨 받고 사람들한테 이자를 받은 걸 은행에 주고 거기에 수수료도 주고, 자기들은 원금을 받아서 굴릴 생각을 한 듯. 근데 이 방법이 이자를 더 싸게 돈을 쓸 수 있는 게 아니면 이걸 할 이유가 없지... 채권처럼 생각한건가 여기까지는 납득 가능한데... 아 맞다. Us 부동산이 상승한다에 베팅한 거지. 또 파생상품 만들어서 판게 이제 투자은행의 비도덕성 아닌가;; 근데 사람들이 빚을 못 갚고 그 빚을 대신 갚아야하는 상황에 리만 파산?
은행에 주는 수수료보다 부동산차익이 더 크다고 계산한 거...
sorry to say but the quality of the Video is very Poor. 😵💫😵
Securities fraud