Sub-Prime lender crisis

What happened in the credit markets?

The sub-prime crisis was the result of US mortgage companies providing highly geared loans (loans with high interest) to borrowers with poor credit histories at a time when the US housing market was starting to sour. Lots of those loans are going bad.

The US Federal Reserve had issued an estimate that losses in the sub-prime market would be about $AUS110 billion.

Investors became much more cautions and even banks were wary of lending to each other. Those that were willing to lend or invest in debt securities wanted much higher yields to reflect the higher level of risk in the market.

According to the deputy governor of the Reserve Bank of Australia, speaking at a financial services conference in Sydney in August, the flow-on effect of this onset of risk aversion then hit banks and other mortgage lenders that issue short-term securities, such as asset backed commercial paper.

RAMS Home Loans funded almost half of its $14 billion home loan book by issuing these short-term securities in the US commercial paper market. By the middle of August, RAMS found liquidity in that market had dried up completely and it was unable to roll over securities that had matured. RAMS had to exercise a provision that would allow it to extend the term of its securities for 180 days.

This month RAMS announced that it would sell its 92-store franchise operation and brand to Westpac in return for help overcoming its funding crisis.

Inevitably, these higher costs have flowed through to consumers in the form of higher home loan rates.

Note: Above story is an extract from Sydney Morning Herald - 17/Oct/2007 - Money Section Page 5. Please refer to SMH for full story.