Quantum Windbag
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- May 9, 2010
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A couple of people have asked me specifically why I think Occupy Wall Street is in the wrong place. Freakonomics actually did a column about it today, and they touched on all of the things I am concerned about, and brought up a couple I hadn't thought about.
Freakonomics » Dear Occupy Wall Street: Are You Sure You’re in the Right Place?
It comes down to one thing, be careful what you ask for.
:
- In 1997 Andrew Cuomo, the Secretary of Housing and Urban Development under Bill Clinton, allowed Fannie Mae to reduce the standards by which they would secure loans. This helped create the entire subprime category. Was this a bad thing? Of course not it allowed more people to leave the ghetto, move to the suburbs, and achieve the American Dream of owning a home. Who knew that Dream would turn into a nightmare in a mere decade. Cuomo is not Nostradamus. We can blame him of course, but he had good intentions despite the negative results.
- We can blame the Federal Reserve of course. They lowered interest rates after the dot-com bust so much that there was no way for anybody to achieve safe, steady returns using conservative investments like bonds. Everyone you, me, retirees wanted higher returns for their 401(k) and pension plan. So we went to the banks and said, What can we do? And the banks said, Well, youre the ones asking for higher yields, so here it is. And they bundled together all the newly made subprime mortgages into mortgage-backed securities (MBS) so that the average guy could finally get some yield since the Federal Reserve was blocking all other alternatives. So if you want to occupy the Federal Reserve, go to Washington, D.C. Of course, they had good intentions too. They wanted people to stop buying bonds and start buying stocks. And it worked! Until it didnt.
- And what about the banks who bundled together these mortgage-backed securities? I dont know, you and I asked for those securities through our 401(k) plans. So they were just responding to demand, right?
Fine, so what about the hedge funds. Suddenly they saw these mortgage-backed securities yielding 10% and immediately bought them up. They were greedy! But werent they just trying to find safe returns for their investors? Either way, the hedge funds arent on Wall Street. Go occupy Greenwich, or Park Avenue but not Wall Street.
But then investment banks like Lehman saw what the hedge funds were doing, and they started doing it too: scooping up as much yield as they could, risk be damned! Greed! Again though, this was a handful of CEOs, many of whom have been fired from their jobs. Im not trying to apologize for them. But lets make sure our anger is pointed in the right direction.
- Which now brings me to the biggest culprits yet: the accountants! Right in the middle of all of this mess, the Financial Accounting Standards Board (FASB) changed GAAP accounting rules so that you could no longer mark a mortgage-backed security according to your own statistical analysis. You had to start marking it down as soon as there were the slightest defaults and the paper started trading at lower values (this is called mark-to-market). Which meant that hedge funds trading in these illiquid securities could make just a few trades involving a hundred thousand dollars or so, and suddenly trillions of dollars would be wiped out of the value of the banks. Hedge funds gleefully took advantage of this accounting rule change, and tons of bank equity was wiped out. Once FASB changed the rule back (April, 2009) the banks (and all stocks) went straight up.
Freakonomics » Dear Occupy Wall Street: Are You Sure You’re in the Right Place?
It comes down to one thing, be careful what you ask for.