I thought since today is Friday I'd write about something incredibly serious to take us into the weekend. Namely the GFC and our current recovery from it. Because I've just been reading about this and it's relevant to the real estate market, and since the weekend is a time to chill out I thought I'd purge my stressful thoughts here so I can skip to the pub after work with a clear head.
We all know that the real estate market has been in recovery mode since the financial crash towards the end of last year. We also know that the United States was hit a lot harder than we in Australia were, for which we are grateful, but which also provides us with some learnings in regards to how things which everyone thought were fine and dandy can go so terribly wrong.
And this is where I begin. I was reading about Wall Street's new plan to recover from the bad debt and dodgy mortgages that have been dragging the financial markets down since everything went pear shaped. Basically that plan, and what's now happening is investment banks have started to repackage old mortgage securities and sell them as new products. The problem is their plan seems to be a lot like what got the banks into this predicament in the first place, but then there has always been merit in that saying "history repeats itself". An economics professor in the USA has admitted that the scenario has a touch of déjà vu about it, but that at the end of the day the strategy could actually help end one of the more stubborn problems of the GFC.
In layman's terms, what happened first time around is that when home prices skyrocketed, banks bought risky mortgages and packaged them with solid ones. They then sold these as top-rated bonds, and with an abundance of investors clamering for the product, lenders provided even riskier mortgages, even for people who couldn't actually afford them. They could do this because they would get packaged up and end up as a AAA rated bond. When the bottom fell out of the market it was pretty much impossible to tell what these packaged bonds were worth, and with buyers knowing some of the bundle was worthless, they didn't want to pay full price. Ay carumba!
Banks are now trying to find a solution, one of which involves really good bonds getting bundled with those that are not so great and the banks give them AAA ratings meaning they're a safe investment. Sounds familiar doesn't it! The difference apparently is that unlike when the real estate market was booming, investors now know what they're buying, and there's also a guarantee. Those buying into the super risky bonds agree to take some of the risk from those buying more safely. The safe investors get paid first, and the risk takers lose money first – it comes down to maths. Of course there are still risks and some are the same as the first time around, but with the banks still suffering from the recent crash, it's likely to take much longer for that to happen.
And that's enough brain boggling real estate investment talk for a Friday! I feel much better.