Opinion

Felix Salmon

Against the securitization contrarians

By Felix Salmon
September 24, 2009

As Stacy-Marie Ishmael says, “there has been an outbreak of contrarian thinking on the links between ratings, securitisation and the mortgage market” of late. She points to a paper by Ronel Elul, while Zubin Jelveh, who has been following the contrarian line for a while now, picks up on a different paper by Ryan Bubb and Alex Kaufman.

But the fact is that none of these findings are all that powerful. Elul, for instance, essentially confirms that securitization causes a decline in performance: “a typical prime ARM loan originated in 2006 becomes delinquent at a 20 percent higher rate if it is privately securitized,” he writes, and the fact that a similar pattern can’t be seen in subprime loans is basically just a function of the fact that “very few subprime loans were actually held in portfolio” — substantially all of them were destined for the securitization machine.

As for the Bubb-Kaufman paper, the chart that Jelveh picks up on shows a good 90% of subprime mortgages getting securitized. Can that really suggest, as Jelveh says, that securitization might not be to blame for the decline in lending standards? If lending standards dropped at the same time as the securitization rate soared, I’d say there’s a strong correlation between the two, and a pretty good prima facie case for a causal relationship too.

At heart, it all comes down to information: loans are stronger and more desirable than bonds, because a bank intends to hold its loan to maturity and does a lot of underwriting, shoring it up with covenants. Bonds, by contrast, are often held only briefly, and are often bought by investors who do precious little fundamental analysis; what’s more, they simply don’t have the kind of granular information that bank lenders have. And securitizations are even worse than bonds — no one really knows what’s in them, and they’re ultimately based more on models than on shoe-leather underwriting. So it’s entirely predictable that the boom in mortgage securitization was bad for the overall quality of the debt. And attempts to show otherwise are ultimately doomed.

Comments
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90% of subprime…would’ve thought that to be higher; must be a CRA-quota. With all the Ameriquests and New Centurys’ collectively originating what ever darkens the door, the origination model was always “teeing off downwind on an elevated tee box”…those shops were not engineered to own any risk, including to own the residuals; why own risk when it was so easily transferred ?

Securitization begat more loosened standards…since all the ’03/’04 paper seasoned quite well with a booming MSA increases.

Posted by Griff | Report as abusive
 

Your comments on Elul are good, but if you read page 7 of the paper carefully it sounds like any subprime loan that stayed in the portfolio stage of securitization for one year after origination was designated as having a “final investor type” of “Portfolio” loan even if it was securitized the next year. Hmm.

The author’s explanation of the use of a one year window for “final” status would be interesting.

Posted by anon | Report as abusive
 

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