Tuesday, Nov 24, 2009

Before There Was A Bubble, We Had A Bubble

BusinessInsider: How A Government Bailout Created Today's Commercial Real Estate Catastrophe

By now we all know that “the next shoe to drop” as a result of the bursting of the credit bubble in commercial real estate. A nice interactive guide through commercial real estate catastrophes that brought us here. S&L and beyond. Bubbles and solutions to bubbles causing more bubbles.

Posted by mountain goat @ 01:29 PM (703 views)
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1. mountain goat said...

Page 7 "The international Basel I capital requirements, a well-capitalized bank was required to have an 8% capital buffer for "risk weighted assets." What that means, is that the bank had to have $8 in reserve for every $100 of risk weighted assets it held. But different kinds of assets were given different risk weights. Residential mortgage were given a 50% risk weight. This meant that banks only had to hold $4 for every $100 in residential mortgages—that is 4% reserve requirement. But commercial mortgages had a 100% risk weight, which meant banks had to hold the full $8 of reserves for every commercial mortgage.

But if the mortgages were securitized, the AAA and AA tranche got a 20% risk weight. This meant that the the bank only had to hold $1.60 in capital against $100 of CMBS. This allowed banks to dramatically increase their commercial lending. The lower reserve requirement allowed banks to buy even more securities than it could make loans. A bank with $4 billion in reserve could hold $50 billion in loans. But that same $4 billion could instead be used to invest in $250 billion worth of CMBS."

Ignoring the billions for a second, if I hold $4 I can invest $250. That's a leverage of 62.5x

Tuesday, November 24, 2009 01:40PM Report Comment

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