Lisa Simpson
Sep 17,2009
In: Finance

Wall Street Is Up to Old Tricks Again with a New Wrapping

business

Wall Street is playing the old game by turning mortgage debts into AAA bonds. It has discovered a solution from the problem of soured debts and dangerous mortgages that have been choking the financial market. The solution that is soon to be revealed is somewhat familiar. It is very much like what made the banks get into murky waters initially.

In the past few months the investment banks have been wrapping old mortgage securities with new gift paper and are selling them as new plans. In its core it mimes the knotty investment parcels that were at the centre of the collapse of the markets.

Professor Herbert Kaufman of Arizona State University said, “There is a little bit of déjà vu in this.” However he added, that the scheme would somewhat help to ease the continuing problems plaguing the financial world. Loans are still not available as the bankers continue to remain shy.

These problems have been brought forward from the housing zoom when prices skyrocketed and banks purchased dangerous mortgages, packaged them with the solid ones and sold them as best rated bonds. The investors were eager to snap them up and this led to lenders coming up with more dangerous mortgages pushing loans to people who could not afford them. At that time it did not matter as all were credited with AAA ratings.

With the collapse of the housing market it became nearly impossible to figure out the real worth of these bonds. The banks and the insurance firms that owned these knew that in the pile were some really good solid mortgages. This made them reluctant to sell them at emergency low prices. But the purchasers also knew that some of these were worthless and they did not want to pay high prices. This led to some of the problems of the housing bubble continuing to sizzle.

Recently banks have been cautiously inching towards a viable solution in which the good and the bad get packaged together in not quite satisfactory bonds. These have been given AAA ratings – a stamp pointing to the safety of the bonds.

Richard Reilly of White & Case of New York said, “You’ve now taken what was an A-rated security and made it eligible for AAA treatment.”

The bonds lying at the bottom of the pail – the leftovers are being sold for cents on the dollar to investors and other hedge funds that are ready to risk it hoping for windfalls.