These days the talk of the town……. oops talk of the whole globe is failure of several banks in US.
But I would say it is not the failure of the financial institutions but due the business model they were having.
But before getting to know what the model is, its better to know a few terms which is being on air for a while…….. (or at least the way I have understood thoseJJJJ)
1. Sub prime lending:
That is nothing but lending to some one whom u know so well that he/she will have problems in repaying the loan.
Sub-prime works in a very simple way:
1. Give a loan to some one who doesn’t have a credit rating worth a loan.
2. The loan period will be usually for a very long period. Say 30 yrs.
3. The person taking the loan will be taking the loan under the impression that after some time he will be able to make some money and settle the loan.
4. The lending terms usually will be like interest fixed for first 2 yrs. (for selling the loan to the poor borrower)
5. After the fixed rate period the lender starts charging at the premium rate from the borrower.
6. When the borrower turns bad most of the lenders sell the receivables to some financial institutions at a discount.
7. The financial institutions finance these sub prime receivable from the deposits accepted at a lower rate and purchasing the receivables of the sub prime lenders.
8. The money of the Banks, Hedge Funds, Insurance companies and Pension funds is invested in the financial institutions.
9. Thus the money deposited with a financial institution at notion that it is of low risk is indirectly finding a way into highly risky Sub prime market.
» Subprime lending, also called "B-Paper", "near-prime" or "second chance" lending, is a general term that refers to the practice of making loans to borrowers who do not qualify for market interest rates because of their patchy credit history or poor income records
» Subprime lending encompasses a variety of credit instruments, including subprime mortgages, subprime car loans, and subprime credit cards, among others.
» There is nothing called as Savings Bank Account in USA. They live in a world where plastic money takes care of things (credit cards).
2. Rating Agencies:
» These agencies are nothing but a agency similar to our ISI (ISI - Bureau of Indian Standards) who rate to a financial instrument.
» These agencies are supposed to be independent from the financial institutions and Banks.
» But being the investment banks like Goldman Sachs having business in Equity research they have their own ratings.
» Thus the game begins, the corporate houses bargain for a good rating for merchant banking and other businesses with the Investment banks.
But I would say it is not the failure of the financial institutions but due the business model they were having.
But before getting to know what the model is, its better to know a few terms which is being on air for a while…….. (or at least the way I have understood thoseJJJJ)
1. Sub prime lending:
That is nothing but lending to some one whom u know so well that he/she will have problems in repaying the loan.
Sub-prime works in a very simple way:
1. Give a loan to some one who doesn’t have a credit rating worth a loan.
2. The loan period will be usually for a very long period. Say 30 yrs.
3. The person taking the loan will be taking the loan under the impression that after some time he will be able to make some money and settle the loan.
4. The lending terms usually will be like interest fixed for first 2 yrs. (for selling the loan to the poor borrower)
5. After the fixed rate period the lender starts charging at the premium rate from the borrower.
6. When the borrower turns bad most of the lenders sell the receivables to some financial institutions at a discount.
7. The financial institutions finance these sub prime receivable from the deposits accepted at a lower rate and purchasing the receivables of the sub prime lenders.
8. The money of the Banks, Hedge Funds, Insurance companies and Pension funds is invested in the financial institutions.
9. Thus the money deposited with a financial institution at notion that it is of low risk is indirectly finding a way into highly risky Sub prime market.
» Subprime lending, also called "B-Paper", "near-prime" or "second chance" lending, is a general term that refers to the practice of making loans to borrowers who do not qualify for market interest rates because of their patchy credit history or poor income records
» Subprime lending encompasses a variety of credit instruments, including subprime mortgages, subprime car loans, and subprime credit cards, among others.
» There is nothing called as Savings Bank Account in USA. They live in a world where plastic money takes care of things (credit cards).
2. Rating Agencies:
» These agencies are nothing but a agency similar to our ISI (ISI - Bureau of Indian Standards) who rate to a financial instrument.
» These agencies are supposed to be independent from the financial institutions and Banks.
» But being the investment banks like Goldman Sachs having business in Equity research they have their own ratings.
» Thus the game begins, the corporate houses bargain for a good rating for merchant banking and other businesses with the Investment banks.
...to be continued...........
Comments