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Commentary

The Trust Is Gone

From Calculated Risk:

Homebuyer’s were speculating with no money down. Mortgage brokers didn’t care because they would sell the loans immediately and collect their fees. Wall Street didn’t care because they could package the loans and sell them to investors. Investors would have cared, except they trusted the rating agencies. And as this article describes, the rating agencies weren’t evaluating the underlying loans – they were performing statistical analysis using models based on lenders that cared if the borrower would repay the loan.

Who takes the blame? Rating agencies (the article referred to is here) seem to be the focus now.

What this entire business is is a loss of trust. Investors trusted the hedge and pension funds. Hedge funds trusted the rating agencies. Rating agencies trusted the banks. Banks trusted the borrowers. But if the trust was all ok, why was there a need to charge fees and high interest rates?

That means there is somewhere a small tiny possibility that someone will betray you. Currently it’s all being pinned on the borrowers. They lied, so we all suffer. But who asked the rating agencies to trust the banks? What kind of idiotic person decides that homeowners can lie, but a bank will not? In the history of mankind, more banks have lied as a percentage of their population, than home-loan-borrowers. [Note: I’m making this up, but I think the data will prove me right] But we will still trust them over the latter?

So rating agencies were stupid. And why then were investors trusting rating agencies? Especially since they hadn’t even paid for their (obviously laughably wrong) opinion?

Trust was breached at every level, and history will show us it has always been that way. You can fix the banks by forcing them to take on a lot more of the risk they offloaded. That fixes the borrowers – who will lie if they can, but banks will catch them if they have so much to lose. Then suddenly no one wants to lend anymore, which is more a political problem than an economic one. No loans, no lucrative jobs, and no risk taking – not signs of good capitalism.

You can fix the rating agencies by open-sourcing their business and providing no government protection. (i.e. public funds should not be required to have AAA or even rated securities). That will kill the rating business, a much lesser political problem.

But then it increases the burden on hedge and pension funds. Or does it? Such money comes with little accountability and in some cases a mongoose can do better investing; but investors persist because they do not want to become mongooses, or don’t really know what being a mongoose involves. (What will I eat? Snakes? Yuck.)

Investors, we know, are the stupidest of the lot anyway and will trust anything even if it is only etched on telephone poles. Some of them are rich sods that understood the risk. Most of them are funds that didn’t deserve to even think of the risk. Towns in Norway. School funds. Pension funds.

The trust is gone, and now all of the investing will unwind. Do whatever regulation you want, the trust is not coming back that easy. It will take a long time for us to realise that while there may be a lot of money in the “sidelines”, it will not come easy to those that need it, because they can’t trust anyone anymore.

  • Anonymous says:

    >Finally it all boils down to the core philosophy one follows. For example if one thinks a House is a place to live rather than an investment then he would “cut the cloth to his needs”. Similarly if one thinks of Fiancial investments as a way to “get rich quick” rather than a way to “live a happy life within your means”, then one would not have been tempted to buy AAA rated securities. They would have probably had a mix of stocks, bonds and other investments in the right proportion to meet their individual needs.

  • sreeram says:

    >the best way to enjoy real estate? trekking.