...The Mortgage and Financial Crises: The Role of Credit Risk Management and Corporate Governance William W. Lang Federal Reserve Bank of Philadelphia Ten Independence Mall, Philadelphia, PA 19106 Phone: 215-574-7225 E-mail: William.Lang@phil.frb.org Julapa Jagtiani Federal Reserve Bank of Philadelphia Ten Independence Mall, Philadelphia, PA 19106 Phone: 215-574-7284 E-mail: Julapa.Jagtiani@phil.frb.org February 9, 2010 Abstract This paper discusses the role of risk management and corporate governance as causal factors in the onset of the financial crisis. The downturn in the housing and mortgage markets precipitated the first phase of the financial crisis in August 2007 when the solvency of a number of large financial firms was threatened by huge losses in complex structured financial securities. Why did these firms have such high concentrations in mortgage-related securities? Given the information available to firms at the time, these high concentrations in mortgage-related securities violated basic principles of modern risk management. We argue that this failure was a result of principal-agent problems internal to the firms and to breakdowns of corporate governance systems designed to overcome these principal-agent problems. Forthcoming in Atlantic Economic Journal (2010) JEL Classification Numbers: G01, G18, G21, G28 Keywords: Financial Crisis, Risk Management, Corporate Governance, Subprime Crisis _________________________ The opinions expressed in this paper...
Words: 9804 - Pages: 40
...Challenges’ Dear Sir, I hereby submitting the final version of the term paper on behalf of my group on ‘Global Financial Crisis: Recovery and Challenges’ that you asked us to submit on November 17, 2015 as our report paper. The paper is a part of the course Fin 603: Financial Institutions & Market under MBA program. The main purpose of this paper was to determine the theoretical aspects of global financial crisis and recovery and challenges analysis on the selected country named United States of America. This course gave us both academic and practical exposures, we have learned about the great recession and international financial markets and the term paper gave us the opportunity to develop the practical experience. We have tried our level best to complete this term paper with respect to the desired requirements....
Words: 8158 - Pages: 33
...fundamental causes of the current financial crisis that hit the USA in 2008. A Close look at financial analysis specifies that theoretical modeling based on unrealistic anticipations led to serious problems in mispricing in the enormous unregulated market for credit default swaps that exploded upon catalytic rises in residential mortgage defaults. Latest academic research suggests solutions to the economic crisis that are appraised to be far less costly than bailing out investors who made poor decisions with respect to credit analysis. Introduction The financial crisis that occurred in 2008 is of such epic proportions that even astronomical amounts spent to address this issue have by far been not able to resolve it. This economic crisis is the worst to ever hit USA since the great depression and is utmost important to economists since this led to 2.6 million unemployed furthermore 3.4 trillion dollar were lost in real estate wealth and the stock market also lost 7.4 trillion according to the Federal Reserve. Besides the $700 billion bill approved by Congress, the Federal Reserve has bailed out institutions and markets by generating about $1.3 trillion in investments in various risky assets, also including loans to otherwise bankrupt organizations & collateralized debt obligations which were completely backed by subprime mortgages that were defaulting at rapid rates. Furthermore a $900 billion is in the process of being proposed in lending to big businesses (Aversa, 2008)...
Words: 2121 - Pages: 9
...pResented by the society of ActuARies, the cAsuAlty ActuARiAl society And the cAnAdiAn institute of ActuARies Risk Management: The Current Financial Crisis, Lessons Learned and Future Implications Copyright 2008 by the Society of Actuaries. R I s k M a n a g e M e n T: the current financial crisis, lessons learned and future implications introduction the current financial crisis presents a case study of a “financial tsunami” (as former federal Reserve chairman Alan Greenspan recently called it) on what can go wrong. its ramifications are far-reaching and the lessons learned will be embedded in risk management practices for years to come. As one of the premier enterprise risk professions in practice today, the actuarial profession is sharing its substantial insight into what went wrong and the implications for the future. on behalf of the society of Actuaries, the casualty Actuarial society and the canadian institute of Actuaries, we are pleased to provide a series of essays on Risk Management: The Current Financial Crisis, Lessons Learned and Future Implications. this e-book is the result of a call for essays on the subject coordinated by the following groups: • • • • The Joint Risk Management Section of the Society of Actuaries, Casualty Actuarial Society and Canadian institute of Actuaries The Investment Section of the Society of Actuaries International Network of Actuarial Risk Managers Enterprise Risk Management Institute International ...
Words: 52470 - Pages: 210
...III. Structure Overview Appendix A. Initial Reference Portfolio B. Selected ACA Biographies C. Goldman Sachs Contact Information 1 Disclaimer The information contained herein is confidential information regarding securities that may in the future be offered by ABACUS 2007-AC1, Ltd. (the “Issuer”). The information is being delivered to a limited number of sophisticated prospective institutional investors in order to assist them in determining whether they have an interest in the type of securities described herein and is solely for their internal use. By accepting this information, the recipient agrees that it will use and it will cause its directors, partners, officers, employees and representatives to use the information only to evaluate its potential interest in the securities described herein and for no other purpose and will not divulge any such information to any other party. Any reproduction of this information, in whole or in part, is prohibited. Notwithstanding the foregoing, each recipient (and each employee, representative, or other agent of such recipient) may disclose to any and all other persons, without limitation of any kind, the tax treatment and tax structure of the Issuer, the securities described herein and any future offering thereof and the ownership and...
Words: 13223 - Pages: 53
...I. II. TABLE OF CONTENTS Summary................................................................................................................... 1 Background .............................................................................................................. 2 A. The Examinations ................................................................................................ 2 B. Current Regulatory Requirements and Proposed New Rules and Rule Amendments With Respect to Credit Rating Agencies....................................... 4 III. The Ratings Process................................................................................................. 6 A. The Creation of RMBS and CDOs ...................................................................... 6 B. Determining Credit Ratings for RMBS and CDOs.............................................. 7 IV. The Staff’s Examinations: Summary of Factual Findings, Observations and Recommendations .................................................................................................. 10 A. There was a Substantial Increase in the Number and in the Complexity of RMBS and CDO Deals Since 2002, and Some Rating Agencies Appeared to Struggle with the Growth................................................................................... 10 B. Significant Aspects of the Ratings Process Were Not Always Disclosed ......... 13 C. Policies and Procedures for Rating RMBS and CDOs Can be Better Documented ..........
Words: 16881 - Pages: 68
...FIFTH EDITION 2005 Transforming Real Estate Finance A CMBS Primer Primary Analysts: Howard Esaki Marielle Jan de Beur Masumi Goldman This book is an overview of the Commercial Mortgage-Backed Securities (CMBS) market. The contents of this publication are over eight years in the making and include excerpts of research reports from as early as 1997. In this fifth edition of our primer, we have reorganized the chapters to highlight the different investment options within CMBS. New material since our last edition includes sections on the various types of AAA CMBS classes, total rate of return swaps, floating rate large loan transactions, and an updated version of the commercial mortgage default study. We hope you find this book useful and welcome comments so that we can improve future editions. FIFTH EDITION 2005 Transforming Real Estate Finance A CMBS Primer Primary Analysts: Howard Esaki Marielle Jan de Beur Masumi Goldman The Primary Analyst(s) identified above certify that the views expressed in this report accurately reflect his/her/their personal views about the subject securities/instruments/issuers, and no part of his/her/their compensation was, is or will be directly or indirectly related to the specific views or recommendations contained herein. This report has been prepared in accordance with our conflict management policy. The policy describes our organizational and administrative arrangements for the avoidance, management and disclosure...
Words: 93545 - Pages: 375
...A N N U A L REPORT 2015 Financial Highlights As of or for the year ended December 31, (in millions, except per share, ratio data and headcount) Reported basis1 Total net revenue Total noninterest expense Pre-provision profit Provision for credit losses Net income Per common share data Net income per share: Basic Diluted Cash dividends declared Book value Tangible book value2 2015 $ $ $ Selected ratios Return on common equity Return on tangible common equity2 Common equity Tier 1 (“CET1”) capital ratio3 Tier 1 capital ratio3 Total capital ratio3 Selected balance sheet data (period-end) Loans Total assets Deposits Total stockholders’ equity Headcount 93,543 59,014 34,529 3,827 24,442 6.05 6.00 1.72 60.46 48.13 2014 $ $ $ 95,112 61,274 33,838 3,139 21,745 5.33 5.29 1.58 56.98 44.60 11% 13 11.6 13.3 14.7 $ 837,299 2,351,698 1,279,715 247,573 234,598 10% 13 10.2 11.4 12.7 $ 757,336 2,572,274 1,363,427 231,727 241,359 Note: 2014 has been revised to reflect the adoption of new accounting guidance related to debt issuance costs and investments in affordable housing projects. For additional information, see Accounting and Reporting Developments and Note 1 on pages 170 and 183, respectively. 1 Results are presented in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP), except where otherwise noted. 2 Non-GAAP financial measure. For further discussion, see “Explanation and Reconciliation of the Firm’s Use Of Non-GAAP ...
Words: 207037 - Pages: 829
...Foundations and Trends R in Finance Vol. 4, No. 4 (2009) 247–325 c 2010 V. V. Acharya, T. Cooley, M. Richardson and I. Walter DOI: 10.1561/0500000025 Manufacturing Tail Risk: A Perspective on the Financial Crisis of 2007–2009 By Viral V. Acharya, Thomas Cooley, Matthew Richardson and Ingo Walter Contents 1 Introduction 2 How Did We Get There? 2.1 2.2 2.3 The Panic of 1907 and Its Aftermath Bank Competition, Financial Innovation and Risk-Taking in the Last Decades of the 20th Century Risk-Taking Incentives of Financial Institutions 249 253 253 258 264 3 The New Banking Model of Manufacturing Tail Risk 4 Alternative Explanations of the Financial Crisis 5 Conclusion A Appendix: Tail Risk in the Rest of the World References 273 292 311 314 320 Foundations and Trends R in Finance Vol. 4, No. 4 (2009) 247–325 c 2010 V. V. Acharya, T. Cooley, M. Richardson and I. Walter DOI: 10.1561/0500000025 Manufacturing Tail Risk: A Perspective on the Financial Crisis of 2007–2009 Viral V. Acharya1 , Thomas Cooley2 , Matthew Richardson3 and Ingo Walter4 1 2 3 4 Stern USA, Stern USA Stern USA Stern USA School of Business, New York University, New York, NY 10012, vacharya@stern.nyu.edu School of Business, New York University, New York, NY 10012, School of Business, New York University, New York, NY 10012, School of Business, New York University, New York, NY 10012, Abstract We argue that the fundamental cause of the financial crisis of 2007–2009 was that large, complex...
Words: 22992 - Pages: 92
...Asia Pacific Equity Research 25 February 2005 Australian Mortgage Industry Volume 1 A Lot of Fat ! JPMorgan Australian Banks Team Brian Johnson (61-2) 9220-1605 brian.d.johnson@jpmorgan.com Richard Wiles (612) 9220 1525 richard.e.wiles@jpmorgan.com Ed Henning (61-2) 9220-1933 ed.a.henning@jpmorgan.com Fujitsu Australia Team Martin North (61-2) 9293-0617 martin.north@au.fujitsu.com Tom Dissing (61-2) 9293-0423 tom.dissing@au.fujitsu.com This report is the result of a joint effort between Fujitsu Australia and JPMorgan, focusing on developments in the Australian mortgage industry. We use the Fujitsu Mortgage Market and Yield Improvement Modelling. See page 30 for analyst certification and important disclosures, including investment banking relationships. JPMorgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Brian Johnson (61-2) 9220-1605 brian.d.johnson@jpmorgan.com Asia Pacific Equity Research 25 February 2005 Table of Contents Executive Summary .................................................................3 Industry Overview ....................................................................5 Mortgage Brokers................................................................
Words: 10032 - Pages: 41
...University of Nottingham Credit Risk Management in Major British Banks By Xiuzhu Zhao 2007 A Dissertation presented in part consideration for the degree of “MA Finance and Investment” Acknowledgement I would like to express my special thanks to my supervisor Mrs. Margaret Woods, who has given me strong support and encouragement during the whole research, and I am very appreciate of the expert guidance and inspiration she brought me. I am very grateful to my parents for their love and encouragement during my whole education period. The academic suggestions my father has given help me a lot in designing the dissertation. Last but not least, I would like to thank all my friends especially those in Melton Hall. I will never forget the help they have offered, which raises my confidence in completing this dissertation. i Abstract Credit risk is always treated as the major risk inherent in a bank’s banking and trading activities. And if not well managed, this kind of risk may drag a bank into great trouble or even bankruptcy, which can be proved by various bank failure cases. For banks, managing credit risk is not a simple task since comprehensive considerations and practices are needed for identifying, measuring, controlling and minimizing credit risk. In this dissertation, the credit risk management practices of major British banks are examined through the quantitative research on all Major British Banking Group members and qualitative analysis on the four sample banks....
Words: 23126 - Pages: 93
...for helpful comments and Michael Gordy for suggesting the idea behind section 7. This paper represents the views of the author and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System or other members of its staff. I can be reached via email at michael.s.gibson@frb.gov. Postal address: Mail Stop 91, 20th and C Streets NW, Washington, DC 20551. Phone: 1-202-452-2495. Fax: 1-202-452-3819. Understanding the Risk of Synthetic CDOs Abstract: Synthetic collateralized debt obligations, or synthetic CDOs, are popular vehicles for trading the credit risk of a portfolio of assets. Following a brief summary of the development of the synthetic CDO market, I draw on recent innovations in modeling to present a pricing model for CDO tranches that does not require Monte Carlo simulation. I use the model to analyze the risk characteristics of the tranches of synthetic CDOs. The analysis shows that although the more junior CDO tranches – equity and mezzanine tranches – typically contain a small fraction of the notional amount of the CDO’s reference portfolio, they bear a majority of the credit risk. One implication is that credit risk disclosures relying on notional amounts are especially inadequate for firms that invest in CDOs. I show how the equity and mezzanine tranches can be viewed as leveraged exposures to the underlying credit risk of the CDO’s reference portfolio. Even though mezzanine tranches are typically rated investment-grade...
Words: 9878 - Pages: 40
...Investment Management Long Term Capital Management HBS Case Questions 1. Analyze different trading strategies of LTCM Answer: LTCM engaged in primarily in convergence and relative value strategies. Relative value strategy : It is a spread trade and it involves two assets whose prices or yields tend to converge with time . it involves long and short positions of similar instruments. This often happens when a company has more than one holding company listed in different markets (e.g. Royal Dutch and Shell). The price divergence in these different markets creates profitability. Although the price may not completely converge, but the premium tends to narrow over time. Convergence Strategy: In case of convergence strategy the two asset prices or yields must converge. when there was a specifiable future date(usually medium-term fixed maturities) by which convergence of offsetting short and long positions in similar instruments should occur. An example would be a strategy consists of buying off-the-run high yield bonds and shorting on-the-run low yield bonds. Once the newly issued on-the-run bonds become off-the run, the yields on the two bonds converge and LTCM makes a profit. This is a simple strategy and not necessarily a risky trade since it is very likely that the yields will converge once the on-the-run bonds become off-the-run. Since the yield spread between on- and off-the-run bonds is very...
Words: 2745 - Pages: 11
... This Essay offers a strategy for regulating financial markets to better prevent the kind of disaster we saw during the Financial Crisis of 2008. By developing a model of risk-manager decisionmaking, this Essay illustrates how even “good people” acting in utterly rational and expected ways brought us into economic turmoil. The assertion of this Essay is that the root cause of the Financial Crisis was systemic moral hazard. Systemic moral hazard poses a unique challenge in crafting a regulatory response. The challenge lies in that the best response to systemic moral hazard is “predictive prevention.” It is inherently difficult to reward individuals for producing predictive prevention. Unsurprisingly, markets fail to produce it at optimal levels and thus cannot prevent systemic moral hazard and the kind of crises that ensue. The difficulty in valuing predictive prevention is seen when we model how risk managers make decisions regarding the prevention of excessive risk. The model reveals how the balance can be tipped in favor of risk taking that leads to systemic failure and broad social harm. The model also reveals how regulation might work to reset the balance to one that is superior for society. We can achieve optimal risktaking decisionmaking in two ways: (1) by requiring all asset managers in the market to put their own money at risk in their trading decisions; and (2) by requiring all asset managers to use “best practices” in managing risk, or else be subject to legal liability...
Words: 26469 - Pages: 106
...banks in financial markets and have influenced changes in the structure and performance of the U.S. banking industry. The analysis also covers new, fast-growing financial innovations linked to IT investment e.g., asset securitization and derivatives. IT’s effect on the banking industry has been positive. Increased competition has caused banks to lose traditional customers, but IT enabled the banks to offer new products, expand into nontraditional areas, operate more efficiently, and minimize risk. The aggregate economy is better off because of a more efficient financial industry and because of the increased quality and value of banking services. IT has been central to the evolution of the market for securitized instruments. Mortgagebacked securities have experienced phenomenal growth over the past 25 years....
Words: 14834 - Pages: 60
