Rm 06-v2
- 1. Risk Management University of Economics, Kraków, 2012 Tomasz Aleksandrowicz
- 2. risk at financial markets world financial crisis financial risk management
- 3. Biggest XX centaury financial crises • 1929 - Wall Street Crash (Great Depression) • 1973 – oil prices crisis (1973 – 1974 market crash) • 1987 – Black Monday (19 October) • 1989 – 1991 - savings and loan crisis (US) • 1990 - Japanese asset price bubble • 1992–93 – Black Wednesday (16 September) • 1994 - economic crisis in Mexico • 1997 - Asian financial crisis • 1998 - Russian financial crisis • 2001 - dot-com bubble
- 4. world financial crisis case story: dramatic turn of events of 2008
- 5. • 17 February – UK government nationalized struggling Northern Rock bank
- 6. • March 14 – Bear Stearns gets $30bn Fed funding as shares plummet • March 16 – Bear Stearns is acquired for $240m a by JPMorgan Chase in a fire sale to avoid bankruptcy (worth $18bn year earlier)
- 7. • March - July – more banks around the world starts to announce huge losses many of them seek financing by issuing stock or from governments
- 8. • September 7 - US government takeover of Fannie Mae and Freddie Mac • two companies at that time owned or guaranteed about half of the US $12 trillion mortgage market • this move causes panic on the markets
- 9. • September 14 – Merrill Lynch, 158-year old investment bank is sold to Bank of America for $50bn
- 10. • September 15 – Lehman Brothers goes bankrupt • Stock Exchange collapse: DIJA down 500 points, FTSE100 down 400 points
- 11. • September 16 – AIG credit ratings downgraded • September 16 – $140bn withdrawn from money market funds which causes freeze of CP market • September 17 – US FED lends $85bn to AIG to prevent bankruptcy
- 12. • September 18 – HBOS plc the biggest UK mortgage provider took over by Lloyds TSB for £12bn
- 13. US government response • September 18 - Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke meets with legislators with proposal of $700 billion emergency bailout of toxic assets
- 14. • September 25 – due to bank run and $16.4bn deposit withdrawn in 10 days Washington Mutual is closed down by regulator – remaining assets sold to JP Morgan Chase for $1.9bn • at that time bank assets were worth $307bn
- 15. • September 29 - Citigroup Inc. announced that he would acquire banking operations of Wachovia • Later October 3: Wells Fargo makes a higher offer for Wachovia paying $15bn
- 16. • September 29 – September 31: As crisis hits Europe – more banks nationalized
- 17. • First days of October – Iceland banking sector nationalized • stock exchange operations suspended • rating agencies downgrades • economic downturn • Iceland first country to seek IMF help
- 18. US solution to liquidity crisis • October 3 – President George W. Bush signs act creating a $700 bn Troubled Assets Relief Program (TARP) to purchase failing bank assets • October 6 – Fed announces that it will provide $900 billion in short- term cash loans to banks • October 7 – Fed makes emergency move to lend $1.3 trillion directly to companies outside the financial sector (effect of freeze in CP)
- 19. October 6 2008 – October 10 2008 • Worst week for the stock market in 75 years • The Dow Jones loses 22.1%, its worst week ever on record, down 40.3 % since reaching a record high of 14,164.53 October 9, 2007. • The Standard & Poor's 500 index loses 18.2 %, its worst week since 1933, down 42.5 % in since its own high October 9, 2007
- 20. world financial crisis banking and financial sector crisis become global crisis
- 21. World Recession in 2009 (% GDP change)
- 22. Europe sovereign debt crisis
- 24. roots of world financial crisis causes of crisis in risk perspective
- 25. causes of financial crisis • no simple answer • many direct and indirect factors • variety of narratives describing the crisis • highlights from risk management perspective
- 26. main factors • policy of deregulation of financial sector • government actions to help house purchase • historically low interest rates after 2001 (household debt ratio up) • speculation (buying houses on investment purposes) • extensive use of sub-prime loans • raise of shadow banking system • predatory lending • housing bubble (peaked in 2005-2006, burst in 2007)
- 27. ARM (adjustable-rate mortgages) • standard mortgage product • mortgage loan with variable (adjustable) interest rate • direct link to the underlying index or to bank policy • initial discounts (e.g. first year payments are interest only) • variable rate of the loan to offset variable interest rates of deposits • standard banking product commonly offered to customers
- 28. sub-prime lending • making loans to customers who might have difficulty with repayment schedule • compensate for higher credit risk – higher interest rates – less favourable than ordinary terms • targeting people with little or no assets, bad credit history, lower or unstable income • traditionally isolated from regular loans
- 29. securitization • Securitization - process in which loans or other income generating assets are bundled to create bonds which can be sold to investors. • What could be securitized: – home equity loans – mortgages and sub-prime mortgages – student loans – car loans – credit card payments – other
- 30. securitized instruments • ABS (asset-backed security) a security where value and income payments are derived from and collateralized (or "backed") by a specified pool of underlying assets • MBS (mortgage-backed security) as above ABS but used for mortgages • CDO (collateralized debt obligation) type of ABS with multiple "tranches" that are issued by special purpose entities and collateralized by debt obligations including bonds and loans
- 31. CDO/SPV model SPV (special purpose vehicle) - a separate institution created to handle the securitization of ABS
- 33. conclusions • systematic assumption of house price increase • real estate investment and speculation • too liberal credit policy for mortgages – NINA loans (no income, no assets customers without down payment) – SIVA loans (stated income not verified) - based even only on credit rating • extensive sub-prime lending using also ARM lending • predatory loans activities • too extensive and complex securitization • failed to regulate shadow banking system • CDO - mixing up prime and sub-prime assets
- 34. risk management specific factors • rise of financial engineering and complexity of the securities • derivatives market not regulated • rating agencies paid by security issuer model • financial sector salaries and incentives connected with short term performance (not regulated)