Comments on: Cramming Down on Whom? http://alephblog.com/2009/01/09/cramming-down-on-whom/ Helping Institutions and Ordinary People Invest Better by Focusing on Risk Control Sun, 12 Feb 2012 18:05:33 +0000 hourly 1 http://wordpress.org/?v=3.3.1 By: matthttp://alephblog.com/2009/01/09/cramming-down-on-whom/comment-page-1/#comment-20654 matt Fri, 09 Jan 2009 21:56:13 +0000 http://alephblog.com/?p=1316#comment-20654 I don't like the idea of a cramdown. Here's why: Cramdowns create what is effectively a position in real estate with a put option (a hedged position, if you will). The problem is that they never paid the premium up front for that put. As someone who has been saving for the past several years to buy a home, it's annoying to think that I could have just bought the biggest house possible on easy credit, went into foreclosure and then had the principal on the loan marked down to whatever I can afford. For corporations, bailouts lay down the foundation for excessive risk taking in the future (because if I take excessive risk and run the company into the ground, the gubmint will save me, and the upside potential is unbalanced by risk of serious loss). Likewise, it seems like this will create the same moral hazard for borrowers: Borrow as recklessly as possible and then if you can't afford it, the loan gets marked down to whatever you can afford. And the assumption that the cramdowns hurt the lenders to the point that they tighten lending standards is inconsistent with the American financial model. Right now, the government is saying from all points that lending needs to loosen. Additionally, the corporate bailouts create an environment where lenders probably don't feel the pain from the cramdowns because the loss is simply absorbed by the bailout money. I don’t like the idea of a cramdown. Here’s why:

Cramdowns create what is effectively a position in real estate with a put option (a hedged position, if you will). The problem is that they never paid the premium up front for that put.

As someone who has been saving for the past several years to buy a home, it’s annoying to think that I could have just bought the biggest house possible on easy credit, went into foreclosure and then had the principal on the loan marked down to whatever I can afford.

For corporations, bailouts lay down the foundation for excessive risk taking in the future (because if I take excessive risk and run the company into the ground, the gubmint will save me, and the upside potential is unbalanced by risk of serious loss).

Likewise, it seems like this will create the same moral hazard for borrowers: Borrow as recklessly as possible and then if you can’t afford it, the loan gets marked down to whatever you can afford.

And the assumption that the cramdowns hurt the lenders to the point that they tighten lending standards is inconsistent with the American financial model. Right now, the government is saying from all points that lending needs to loosen. Additionally, the corporate bailouts create an environment where lenders probably don’t feel the pain from the cramdowns because the loss is simply absorbed by the bailout money.

]]> By: Ben Williamshttp://alephblog.com/2009/01/09/cramming-down-on-whom/comment-page-1/#comment-20653 Ben Williams Fri, 09 Jan 2009 20:44:03 +0000 http://alephblog.com/?p=1316#comment-20653 Seems like a cramdown could work out to be in the banks' best interest: like a 'short' sale, it should usually have a much better result than a foreclosure, since foreclosures are so toxic (abandoned property deteriorates, buyers see foreclosed properties as suspect). With equity participation, it works much like corporate bankruptcy: the homeowner's equity is wiped out, and the debt is partially replaced with new equity. Not ideal, but usually better than liquidation. Seems like a cramdown could work out to be in the banks’ best interest: like a ‘short’ sale, it should usually have a much better result than a foreclosure, since foreclosures are so toxic (abandoned property deteriorates, buyers see foreclosed properties as suspect). With equity participation, it works much like corporate bankruptcy: the homeowner’s equity is wiped out, and the debt is partially replaced with new equity. Not ideal, but usually better than liquidation.

]]> By: matt_swansojeikerhttp://alephblog.com/2009/01/09/cramming-down-on-whom/comment-page-1/#comment-20643 matt_swansojeiker Fri, 09 Jan 2009 17:21:34 +0000 http://alephblog.com/?p=1316#comment-20643 We're approaching the point of recognition, at least. Whether we'll be able to survive the outcome is another matter. While I agree with the proposal, I can't see how it does anything to home values but drive them down further and faster. And that seems at cross purposes with the authorities' frantic efforts to put a "floor" on home prices through the purchase of MBS paper, not to mention its (quasi? I'm still not sure)guarantee of agency debt. It's also amusing to read how TPTB are spinning Citi's endorsement of the plan as some kind of key breakthrough. $45 billion ought to buy at least that much....... We’re approaching the point of recognition, at least. Whether we’ll be able to survive the outcome is another matter.

While I agree with the proposal, I can’t see how it does anything to home values but drive them down further and faster. And that seems at cross purposes with the authorities’ frantic efforts to put a “floor” on home prices through the purchase of MBS paper, not to mention its (quasi? I’m still not sure)guarantee of agency debt.

It’s also amusing to read how TPTB are spinning Citi’s endorsement of the plan as some kind of key breakthrough. $45 billion ought to buy at least that much…….

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