10. Economics and default risk Incomes tend to rise; ability to borrow improves Banks are also keen to lend so that the boom is reflected in their balance sheets as well Competition leads to lower rates; riskier credit decisions, customers tend to bargain Lower profitability is a result; profits and risk based pricing are important to build reserves for future bad times Borrowers take larger loans, second house, become speculators Banks search for growth in profits by seeking more borrowers; at better rates= subprime borrowers Because of many buyers funded by loans, property prices go sky-high If property prices correct downwards, weaker borrowers/ those who took loans recently are impacted: default Increasing instances of default alert the banks and they tighten their criteria, foreclosing if LTV drops Foreclosures releases property into the market, prices drop further BOOM RECESSION As prices drop, LTV drops further; as banks get scared they call back loans quicker than before In boom times, everyone does well
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16. Things to watch Signals and impact in the Bond and CDO market
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