1. The Sub Prime Crisis Feb 08, 2009
By A V Vedpuriswar

2. The state of the Global Financial System
“Increasingly complex financial instruments have contributed to the
development of a far more flexible, efficient and hence resilient financial system than the one that existed a quarter century ago.”
Alan Greenspan, November 2005
“The bright new financial system – for all its rich rewards and unimaginable wealth for some – has failed the test of the marketplace by repeatedly risking
a cascading breakdown of the system as a whole.”
- Paul Volcker, April 2008 1 1 1

3. Taking Stock

4. The shakeout on Wall Street

5. What is special about the current meltdown?
Asset price deflation & deleveraging
Cross currents of inflation & disinflation
Greater intervention by government

6. The picture at a glance

7. The World of Derivatives
Type of Derivative
H1 2008
End 2007
H1 2001
Interest rate
$464.7 trillion
$382.3 trillion
$ trillion
Credit
$54.6 trillion
$62.2 trillion
$ billion
Equity
$11.9 trillion
$10 trillion

8. The complex world of CDS

9. Federal Funds Rate movement ( 2000-2008)

11. House Price trends

12. Key figures at a glance
Global GDP
$ 55 trillion
US GDP
$ 14 trillion
Estd Sub prime losses
$ 1 trillion
Declared losses
$ 600 billion

13. Value of US residential real estate (2007)
Real estate market
$ trillion
Mortgage debt
$ 10.7 trillion
Homeowner equity
$ 12.3 trillion
Securitised mortgage
$ trillion

14. Understanding the US mortgage markets
Agency Mortgage
Securitized portion
Non agency mortgage

15. US Securitized issuance ($ Billion)
Year
Agency RMBS
Non Agency RMBS
CMBS
ABS
CDO
Total
2000
479
136 49
184 86
933
2001
1088
267 74
250 61
1740
2002
1443
414 60
248 56
2221
2003
2131
586 87
256 67
3127
2004
1019
864
102
246
115
2346
2005
965
1191
178
305
187
2826
2006
899
1145
214
278
326
2863
2007
1161
707
236
270
298
2671
2008 H-1
692 47 13
116 14
882
Source: UBS Essentials 2009

16. Agency share of mortgage issuance
1995 – 2003
75 – 85%
2004
54%
2005
45%
2006

17. Reasons for drop in housing affordability
Rise in interest rates from mid – 2003
Rise in home prices

18. 1998-99 sub prime crisis Commercial banks reluctant
Independent specialty finance companies
Gain-on-sale accounting
1998 liquidity crisis
The sub prime lenders went bankrupt
Middle aged borrowers
Aim-to take equity out of home
No CDS  no mechanism to short mortgage credit

19. The sub prime crisis of 2007-2008
Low interest rates
Weak regulation
Securitization
Separation of origination process from ultimate credit risk
New derivatives

20. Virtuous sub prime cycle
Rise in home prices
Buyers priced out
New affordable products
Home sales rise
Buyers can now afford

21. Betting on the future Basic assumptions Greater credit risk
Affordability
Betting on the future
Basic assumptions
Greater credit risk

22. What fuelled the crisis
Competitive pressures
Government – mantra of pro business, pro home ownership, laissez-faire
Greed
Mislaligned incentives

23. Highly leveraged societies

24. Highly leveraged investment banks

25. A quick look at past crises

26. A tale of two bubbles

27. Global Economic outlook

28. Spreads remain high

29. Europe in recession

30. The world in recession
In an updated World Economic Outlook, published on November 6th, the IMF predicted that world GDP growth would fall to 2.2% in 2009, based on purchasing-power parity (PPP) weights, from 5% in 2007 and 3.7% in Global growth of less than 3% implies a world recession, so its latest forecasts would push the world over the edge. Some forecasts by private-sector firms are even gloomier, with several now predicting global GDP growth of no more than 1.5% in Global GDP has never fallen in any year since the 1930s Depression. Its worst years since then were 1982 and 1991, with growth of 0.9% and 1.5% respectively

32. The Emerging Markets at a glance

33. Not much scope to cut interest rates

34. Serious challenges ahead
The road ahead
Serious challenges ahead
Role of the financial system
What lies ahead?

35. Why inflation may stage a comeback
High resource consumption in emerging markets
Rise in government deficits and public debt
Labour shortage due to demographic transition

36. The demographic crisis (1)
Country
Working* / Retired
Germany 2
Italy
Japan
Sweden
2.4
France
Britain
USA
3.33
Ireland
4.0
Working : Age: 20 – 60
Retired: Age > 60
Source: Robert Shapiro, “Future Cast 2020.”

37. The demographic crisis (2)
Country
% of older people
Still working
55-59
65-69
Italy 40
3-6
France
60-65
Germany
USA 69 25
Japan 76 37
Sweden 81

38. The demographic crisis (3)
Country
Retirement benefits
Last drawn pay
Italy
90%
Germany
70%
France
Sweden
Japan
59%
USA
50% UK
Ireland
37%

39. The demographic crisis (4)
Country
Public pension benefits in 2020
(% of GDP)
America
5.3
China 10
Sweden 11
Germany 13
Japan
France 15
Italy

40. Health care % GDP, 2006 spending
The Health care crisis
Country
Health care % GDP, spending
China 2
Japan 8 UK
France
10-11
Germany
USA 16

41. Key implication
The financial system will have to deliver quickly and deliver to meet these challenges.

42. The future of securitization
Volumes will fall.
Repackaging and pooling are valuable source of funds.
Securitization will remain.
Structures will become simpler.
Rating agencies will be more conservative.
Rating agencies will not be taken more seriously.
Originators will have more skin in the game.

43. Thank You