More figures needed to determine effects of the sub-prime crisis

Alliance Trust, which has just published an analysis of the chain of events that triggered the current credit crunch, says that until more figures are revealed by the institutions holding related debt or securities it will be impossible to determine exactly how harsh the effects will be on the economy.

Shona Dobbie, Head of Alliance Trust Research Centre, said, “There has been a role reversal between the world’s financial markets and the economy. Before this summer’s credit crisis, it seemed to be the economy that was driving markets forward, and now it is the markets, and how well they can weather this crisis, that appear to hold the key to the future direction of the economy. We have uncovered a lot of astonishing facts and figures in our research into the causes of the credit crisis, but what is most surprising is how little we can unravel about where these enormous liabilities have ended up. It is now up to institutions to untangle this web because trust among them can only be rebuilt when we get more clarity.”

Alliance Trust’s research into the sub-prime issue highlights some surprising figures:

While lending to ‘sub-prime’ borrowers with patchy credit histories has traditionally accounted for less than a tenth of the US mortgage market, by 2006, sub-prime accounted for a fifth of new mortgages in the US.

Sub-prime mortgages have a total value of around $600bn, a tiny proportion of the more than $13trn US economy

Mortgage backed securities (MBSs), products based on the expected income stream from mortgages, soon represented 25% of the total asset backed securities market, surpassing the market share of securities backed by credit cards, cars and student loans.

A complicated chain of structured finance allowed the expected income from the original ‘sub-prime’ mortgages to be packaged up, pooled, sliced and diced, mixed with other assets and resold to other institutions. The high level of leverage involved along this chain means that their impact on financial markets was magnified by up to 100 times the value of the original loans.