Sunday, June 22, 2014

Repo and how it related to sub prime crisis

The financial crisis was not caused by homeowners borrowing too much money. It was caused by giant financial institutions borrowing too much money, much of it from each other on the repurchase (repo) market. This matters, because we can't prevent the next crisis by fixing mortgages. We have to fix repos. 
Citi Group's analyst  Matt got this correct in his research report, are the brokers Broken.


"Much of the focus on financials during the credit crunch has been upon writedowns. First on subprime and CDOs of ABS, then on ABCP, ARS and a string of other products, and now on more normal loan portfolios. Investors have been almost obsessive about finding the next ‘shoe to drop’.  Yet from a credit perspective, the major question facing all financials going forward is not one of writedowns but one of funding and leverage. After all, it was the catastrophic loss of funding caused by a sudden evaporation of confidence which led to the demise of both Bear Stearns and Northern Rock, not anything to do with writedowns. The common strand linking those two institutions was their dependence on wholesale markets for funding. And yet their models were not so different from those of many other financial institutions today. The other US broker-dealers, in particular, are funded heavily through short-term repo and secured lending markets, and do not have the diversification implied by a large deposit base. Does this mean that they too are similarly vulnerable?" 
Repos are still not fixed and this market still connects banks , shadow banking entities and still have the power to convert entity or product specific crisis into systematic crisis. some of the latest comments in the news
"Regulators and policymakers currently have no reliable, ongoing information on bilateral repo market activity." -- Financial Stability Oversight Council, May 7, 2014.

"The banks remain dangerously interconnected and vulnerable to sudden runs because of their dependence on short-term, often overnight borrowing through the multitrillion-dollar repurchase agreement, or repo, market. -- Jennifer Taub, associate professor, Vermont Law School, April 4, 2014.

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A detailed explanation about repo and how it was main driver behind the 2008 crisis, About Repo.

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