(Picture depicts U.S. House of Representatives vote on 8/29/2008 re: "Wall Street Bailout")

The Fallout Has Just Begun

How in the world did we get here to begin with?

Over a year has gone by since the real estate mortgage markets experienced the first day of "nuclear winter." For three or four years prior to July 2007, the credit markets for real estate lending were on fire. The thinking among the "smart money" on Wall Street was that under modern central bank policies, risk was a thing of the past. The economy would still move up and down, but in much gentler waves, and when things got rough, the Fed could fix it.

"Fix-It" Fed

Remember the Y2K crisis? The Fed fixed it. Remember the stock market difficulties after 9/11? The Fed fixed them. Remember the 1998 Russian ruble crisis and the ensuing credit market turmoil it caused? The Fed fixed it. Even when the stock market crashed in October 1987, the Fed fixed it.

These examples prove the Fed will not tolerate more than minimal corrections in the U.S. economy. Investors have now succumbed to the notion of "The Greenspan Put." This catchy little phrase essentially means there is no longer any risk in the markets that the Fed cannot fix by lowering interest rates. When global investors perceive no risk, investment capital flows everywhere. Investment prices go up and yields go down. Cap rates on real estate hit record lows. In this kind of environment, how do investors find higher yield? The answer is that they take on more risk. They make home loans to people who cannot afford to pay them back. Then they sell those loans to investors who do not know what they are buying. Who cares? The profits roll in, and that's all that matters!

Housing Wheel of Good Fortune

This new "no risk" era has had a remarkable impact on the housing market. Prices started rising and suddenly homes were no longer just places to live - they became investments as well. As prices continued to escalate, investors figured if one house was a good investment,why not buy more? TV shows began to reflect the popularity of investing inhomes. Investors could tune in to "Flip This House," then switch channels and watch "Flip That House."

 In post-World War II U.S. history, there have been three barriers to buying a first home: a down payment, a job and good credit. But early in this decade, the desperate search for yield prompted investors to buy riskier mortgages. Lenders had a new way of doing business. No job? No credit? No cash? No problem! They began making 100 percent loans without documenting borrower financials. Traditional risk management and mortgage underwriting standards that had served well for decades were swept aside. This new type of mortgage lender went by the name of Wall Street. Mr. Street did not need Fannie Mae and Freddie Mac underwriting guidelines because he did not sell his loans to Fannie and Freddie. He sold them to all kinds of investors all over the world. These loans were supposed to be virtually riskfree, rated AAA by the most reputable ratings agencies.

In 2006, prices stopped going up. Then they started to decline. Some people stopped paying their mortgages. Suddenly, investors decided not to buy more U.S. residential mortgages from Mr. Street. At this writing, those investors still are not interested in buying new mortgages. So guess who is left to make the loans? The traditional lenders who made them back in the good old days. Even an old friend - FHA - quickly evolved into the subprime lender of the 21st century.

And Then The Music Stopped

America finally woke up September 29, 2008, when, after weeks of debate and discussion about "our troubled lending institutions - especially MORTGAGE lenders - our beloved political leaders stepped to the plate and said "we are NOT going to allow the FED to fix it this time", and the picture above "tells the rest of the story."