With debt piled high in a variety of voodoo mortgages, the declining economy will soon turn into a bobsled ride to tears.
By Bill Fleckenstein -- MSN Money
The eyes tend to glaze over at the mention of "collateralized debt obligations" (CDOs) and "credit default swaps" (CDSs).
It's understandable. These financial instruments -- the glue that has held together the speculation in housing finance and the housing ATM -- have proved somewhat incomprehensible, even to the professionals. That's why I referred to them as "financial dark matter" in my column two weeks ago. (Special thanks to my friend Jim Grant for having gotten me up to speed on this subject in his past two issues of Grant's Interest Rate Observer.)
Shedding light on dark matter
But while CDOs and CDSs are hard to fathom, a disruption in these risk-filled markets would become all too comprehensible to average folks -- as the aftermath would bring serious turmoil in real estate and the economy. In the spirit of "forewarned is forearmed," I will now attempt to explain a bit of this mortgage exotica, and then show what risky behavior it has financed in neighborhoods across America.
In
the marketplace, there are indices known as ABX.HE. They are a
synthetic version of assets backed by U.S. home loans. They are
subdivided into "tranches," or sections, that are grouped by their
relative risk. Two weeks ago, a friend alerted me to the rather large
trade that went through in a particular tranche of one of these
indices. (It happened to be the BBB- tranche, which is the riskiest.)
When the trade took place, it knocked the bid price a bit lower. It has
continued to drift and now is off about 1.5 percent.
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