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Nobody knows how widespread the subprime damage will be. First, bad loans are extending far beyond subprime mortgages -- there are also increased default rates in higher credit quality loans such as Alt-A and Prime. And there are bad loans among many types of securitized instruments -- e.g., packages of loans bundled from credit card receivables, automobile loans, and leveraged buyout loans. These problems have yet to get much attention from investors.
Estimates of the cost of the subprime meltdown range from $400 billion to $6 trillion, largely depending on whether the estimate takes into account the lost value of housing. The $400 billion is the lost value from write-downs of securities backed in various ways by subprime mortgages -- these securities include Collateralized Debt Obligations (CDOs), Mortgage-Backed Securities (MBSs), and Structured Investment Vehicles (SIVs).
The $6 trillion estimate takes into account the possibility that housing prices in the U.S. could drop as much as 15% to 20% due to the market's adjustment to the growing supply and declining demand in the wake of the drying up of mortgage money to finance home purchases.
I would be surprised if there were not more surprises resulting from the subprime mess – so these estimates are probably not accurate. And it will probably take as long as a decade before it all gets sorted out.
Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter.
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Reader Comments (Page 1 of 1)
12-17-2007 @ 12:28PM
Don Bradley said...
The subprime forclosure on homes this year is not the cause of the meltdown. The inab ility of banks and brokers to repackage and sell these loans to the next foolish buyer is the real problem. This scam is like a house of cards being passed from one buyer to the next. The buyers have stopped passing the bag and the scam is up. Foolish high level bankers looking for a big kill are left with the bag, not able top pass it on. Its the banks looking for a bailout from the government. Most homeowners will do anything to hold onto their homes, includeing getting screwed by the lender for fees and an increase in payments. This whole mess can be fixed in a one page document holding rates steady for a period, lowering bank income (the main problem)for a turnaround period.
The lenders will come out on top of this mess and the struggleing homeowner will be left holding the bag.