Archive for the ‘Housing Market’ Category

Understanding the US Housing Market and the Credit Crisis

Tuesday, June 24th, 2008

These essays are designed to help you understand the US real estate and credit crisis. Virtually every other day there is a report that markets are down due to credit worries about the US real estate crisis [see, among many, this article, which blames high oil prices in part on the credit crisis caused by subprime debt]. While it is difficult to directly profit on this crisis (although a hedge fund that aggressively shorted subprime debt did earn 1000% in 2007 [see this article]), by understanding the structure and nature of the housing market and the nature of the problems that have occurred you can make better investment decisions. You will learn the difference between the what we believe are two aspects of the housing crisis, the boom in home construction (too many houses were built between 2001 and 2005) and the credit crisis (too many loans were made to borrowers who cannot pay back their mortgages between 2004 and 2006).

The essays in the U.S. housing market section of this site should provide a good overview of the situation. The first set provides a picture of the US housing market. The government has a larger role in housing than most other markets in the US (except perhaps agriculture), and the nature of that role as well as its consequences are analyzed. To understand the size of the subprime crisis you must first understand the size of the housing market relative to the population, the value of those houses and how they are financed. The US mortgage market has its own peculiarities, so there is a discussion of the types of financing that are used and the importance of the credit rating (and a precise definition of the word subprime); finally there are discussions of the types of credit available to borrowers who have poor credit ratings and a description of what happens when a borrower stops paying his mortgage.

The second set of topics provides a brief overview of the crisis, starting with the housing boom in 2001 through the credit bubble and the recent credit worries. There is a description of securitization, the process by which an individual mortgage is bundled with others, packaged and sold to institutional investors. The problems that developed in this market within the last year are then discussed, and finally there is a discussion of the actual impact of the mortgage crisis in interbank markets, and a way for you to see how markets are functioning.

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