Wednesday, April 18, 2018

Housing: Part 294 - More doubt about the reckless subprime lending story

Here is the abstract to a paper by Ospina and Uhlig:
We examine the payoff performance, up to the end of 2013, of non-agency residential mortgage-backed securities (RMBS), issued up to 2008. We have created a new and detailed data set on the universe of non-agency residential mortgage backed securities, per carefully assembling source data from Bloomberg and other sources. We compare these payoffs to their ex-ante ratings as well as other characteristics. We establish seven facts. First, the bulk of these securities was rated AAA. Second, AAA securities did ok: on average, their total cumulated losses up to 2013 are 2.3 percent. Third, the subprime AAA-rated segment did particularly well. Fourth, later vintages did worse than earlier vintages, except for subprime AAA securities. Fifth, the bulk of the losses were concentrated on a small share of all securities. Sixth, the misrating for AAA securities was modest. Seventh, controlling for a home price bust, a home price boom was good for the repayment on these securities. Together, these facts provide challenge the conventional narrative, that improper ratings of RMBS were a major factor in the financial crisis of 2008.   (HT: Tyler Cowen)

Arnold Kling disagrees about the conclusion.


  1. That makes no sense. AAA-rated securities are designed to allow for massive leverage. Even a few % loss can be disastrous.

    1. If I understand the authors' point, cash flows were never negative on these securities on the whole. Impairments were lower than interest income. So, even though the collateral supporting the asset class suffered severe valuation declines, these securities provided returns close to the returns on treasuries.

  2. The lessons of Long Term Capital Management...