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Wednesday, October 1, 2008 -

U.S Bailout ???
Has anyone really explained the U.S. government bailout to you? Me neither! Let me see if I have this right. Let's say the $700 billion does not represent homes. It represents the bad home loans that have been securitized into paper instruments that are supposed to (look) like a good investment note. The problem is, the cat is now out of the bag, and everyone knows they are not a good investment; in fact they are at risk. Now enters the government with a rescue plan.

Here is an overview. A 100% loan is made on a home that costs 250K. The home mortgage is sold to a new institution that turns it into a paper instrument. The note is packaged and sold off to a bank that can't get rid of it. Why? Six months before the home was sold at 250K, it was selling for 170K. There was a tremendous run up in appreciation due to the availability of 100% financing.

The buyer then walked away from the home and stopped making payments because they were unaffordable. Now it is society's problem. He then mails his keys back to the bank because his neighbourhood has declined in price to 190K - and the clock on the home value is still dropping. New buyers cannot obtain financing, and they cannot sell their smaller property to buy this one. Everyone is in the same boat. Other neighbours are in trouble also. So here is where the government plan kicks in.
The government buys these bad notes off the institutions for, let's say 220K, and with the borrowed money ($700 billion) they exchange the bad debt from the bank to fresh new cash to infuse into the institutions. Now the government sits on this paper (and the homes that are represented by this bad paper) until the market comes back. Hell starts to freeze over.

Neighbourhoods sit with vacant homes for years and are stripped of copper, siding, system mechanics, windows etc. Now here is the thrust of the plan when the markets recover; the government plans to sell back to the banks the same assets sorted or graded to current market. Now the value of the home has dropped to 110K in a blighted, crime-ridden neighbourhood that no one wants to live in. The homes are marked to current value and sold for 37K because they have been neglected for five years, and the crack parties have taken their toll on the property.

So a profit could be made, but it is very unlikely due to the fact they were on 100% loans, and written on inflated assets that have not been adjusted for current market value. So let's fast-forward five years later. The assets will have continued a decline in value, and will slide in price precipitously because the properties will be unmaintained. Meanwhile the home that you are living in is worth 65K. You paid 265K for it, but since the government is dumping the shells of vacant homes for pennies on the dollar, you're screwed. It took you two years to save up your down payment with 20% down. You made cash improvements to the property, and upgraded it and maintained it. Your investment is lost.
So for all who think a bailout is a good idea, it depends if you are buying or selling.
I’m Glad I live here.
posted in General at Wed, 01 Oct 2008 16:01:59 +0000

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