Banks Need A Clean Load of Laundry

clean-laundry When I thought about writing an article that would try to describe how we got ourselves into this financial mess I  thought about the analogy of going off to college with a clean load of laundry.

Imagine the real estate market 30 years ago.

Back then, if you wanted to buy a home you would go to the community bank or savings and loan and ask them to give you a loan. You would give them all of your personal financial information. They would qualify you for a loan based on the value of the home, the purchase price, how much you have in savings, how much you earn on your job.

Giving you a loan was pretty clean and neat. The bank would hold on the mortgage and receive monthly payments from you until the loan was paid off.

dirty-laundry1 Our banks grow up and go off to college and look what happens. The once neat pile of laundry turns into room full of dirty laundry.

Banks started to realize that they could not do more loans if they did not hold onto your mortgage for the full 30 years. So based on your credit, the value of the asset, they bundled the loan with other loans like your to investors.

This is called repackaging cash flow producing financial assets into Securities.

The banks soon found out there were many people interested in buying mortgage backed securities than there were loans. So here is what they did. They started to mix the loans together AAA rated loans with Subprime loans. The pile of mortgages kind of looks like our dirty laundry pile above and here is the problem we have today.

We need to sort out all of the laundry. We need to put whites with whites, color with colors, those that need to be washed as seperates and so forth. The rest we take to the dry cleaner.

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