Friday, June 29, 2007

Bloomberg's Numbers

by Tanta on 6/29/2007 08:50:00 AM

Hat tip to Ministry of Truth for bringing up this startling Bloomberg article, "S&P, Moody's Hide Rising Risk on $200 Billion of Mortgage Bonds." (How much did Fitch pay to get out of the headline?) As our fine commenters have noted, that's an amazingly bearish headline for Bloomberg. It's also a startlingly bald accusation: there's a line between asserting that the rating agencies are not downgrading bonds as fast as some observers think they should, and asserting that they are "hiding rising risk," without the usual "may be" weasel. Bloomberg just stomped right over that line, which suggests to me that tempers have become a bit short:

Standard & Poor's, Moody's Investors Service and Fitch Ratings are masking burgeoning losses in the market for subprime mortgage bonds by failing to cut the credit ratings on about $200 billion of securities backed by home loans.

"Are masking burgeoning losses"? That's even worse than "hiding rising risk." One rather hopes that Bloomberg has its numbers right.

This particular blogger is not sure she understand's Bloomberg's numbers. We get, in order:

  1. "$200 billion of securities backed by home loans" should have their ratings cut.
  2. "Almost 65 percent of the bonds in indexes that track subprime mortgage debt don't meet the ratings criteria in place when they were sold"
  3. "the $800 billion market for securities backed by subprime mortgages"
  4. "$1 trillion of collateralized debt obligations, the fastest growing part of the financial markets"
  5. "estimates that collateralized debt obligations . . . will lose $125 billion"
  6. "25 percent of the face value of CDOs is in jeopardy, or $250 billion"
  7. "asset-backed bonds, securities that use consumer, commercial and other loans and receivables as collateral . . . which includes mortgage securities, has doubled to about $10 trillion"
  8. "the $6.65 trillion in outstanding mortgage-backed debt"
  9. "Investors snapped up $500 million of the securities [CDOs] globally last year"
  10. "subprime-related debt made up about 45 percent of the collateral backing the $375 billion of CDOs sold in the U.S. in 2006"
  11. "Of the 300 bonds in ABX indexes, the benchmarks for the subprime mortgage debt market, 190 fail to meet the credit support standard . . . Most of those, representing about $200 billion, are rated below AAA"

OK. So we know right off the bat that item 9 has to be off by an order of magnitude if item 10 is true. If the true size of "the market" of subprime-backed mortgage bonds is $800B, that makes it 80% of the size of the CDO market, 12% of the size of the total MBS market, and 8% of the size of the total ABS market.

If $375B of CDOs were sold in 2006 in the U.S. and 45% of that involved "subprime-related debt," and we assume just for fun that "subprime-related debt" means subprime-backed MBS and that CDOs invest mostly in subordinate tranches (because we aren't sure otherwise where they get enough high-yield to make their numbers work), that suggests that there were at least $169B of low-rated tranches of subprime securitizations available to resecuritize into a CDO last year. That would be just over 20% of this "total market" of $800B. That would imply a pretty thick layer of subordination. I'm thinking that either those CDOs are buying higher-rated paper than we've been led to believe, or else, possibly, "subprime-related debt" includes things like credit default swaps on subprime paper, which implies that brains will explode before we'll be able to line up bond balances on one hand and the notional value of CDO holdings on the other.

Whatever. My brain exploded a good 20 minutes ago. Does anyone else want to take a stab at estimating the potential principal losses that exceed the current estimated principal losses on $200B in subprime ABS, so that we have some idea of how many dollars of losses the rating agencies are "hiding"?