Slashdot Mirror
The Coder Behind the Mortgage Meltdown
axjms writes "New York Magazine has a confessional/abdication from the man who wrote the software that turns mortgages into bonds and those nasty little things called CMOs. An interesting first-person account from a coder whose work reached far beyond what he or anyone could have anticipated."
Joe Public: What happen ?
Coder: Somebody set up us the bomb.
Operator: We get signal.
Joe Public: What !
Operator: Main screen turn on.
Joe Public: It's you !!
Wall Street Fat Cat: How are you gentlemen !!
Wall Street Fat Cat: All your base are belong to us.
Wasn't it John Kenneth Gailbraith (an economist) who stated that "If all else fails, immortality can always be assured by spectacular error"?
We've been Osinski'd....
Faster! Faster! Faster would be better!
This article from eight years ago sure did a great job of predicting this whole thing. Is it any surprise that when a government (whether under Clinton or Bush) promotes "affordable housing" as an end in itself, by manipulating interest rates and bank regulations, that they're bound to create a bubble, and bubbles by definition cannot last?
Yep, you can pretty much say that the financial crises was caused by just about anyone, and you'd probably be right to some extant or another. Homeowners, loan officers, big banks, small banks, the FHA, AIG and companies like them, investors, the media, the non-journalistic media, republicans, democrats, and government regulators just to name a few and I'm sure you can come up with more if you try.
There's plenty of blame to go around, anyone who claims one group is responsible is pushing an agenda or very short sighted.
Until you de-redified it. Thanks.
Fixed that for you
Two words: Information asymmetry.
The end of the article starts to get to the heart of the problem, which really happened after he was involved. It was when they started doing this with all debt that it got really bad. And even then its only half the picture without looking at the other piece of this the Credit Default Swap. Another thing he alluded to when he talked about default models. The problem was much more complicated than this one guy.
Can you say scapegoat?
Of course, it's a geek who is to blame for it all with his immoral software witchery. It couldn't possibly be the result of a large number of greedy, thieving scum, who were regulated by greedy, corrupt scum, and they in turn were regulated by a greedy, corrupt government.
The writing was on the Wall(street) for the subprime meltdown for a very long time before this software was written. It was obvious to anyone with Economics 101, a long time ago.
I've argued the issue of the CRA on many occasions, but I guess I have to do it one more time. For starters, I refer you to an earlier Slashdot discussion on exactly why the CRA had very little if not nothing to do with it.
The short version: The vast majority of bad loans originated from brokers (e.g. DiTech, Countrywide, Ameriquest) who weren't covered by the CRA. Banks who were under the CRA actually did considerably better than other financial companies. Furthermore, CRA borrowers had to meet identical loan standards as anyone else.
The reasons that various groups have blamed the CRA has a lot to do with hating that regulation since at least 1990 or so, and very little to do with reality.
I am officially gone from
The guy coded it. Who created his requirements?
Sig ?
Classic case of garbage in garbage out. If you are selling mortgages to people who can not afford them and getting them approved by using phoney income numbers is it any wonder it blew up? What caused the meltdown was not securities or CDS or quaints or a piece of software. It was fraud plain and simple. Fraud on a massive and unprecedented scale; committed by lenders banks and ordinary citizens all trying to cheat the system.
The idea that giving loans to THOSE PEOPLE (implicitly poor, black, and whatever other qualities our society is calling moral failings this week) is behind the collapse of the financial industry and had nothing whatsoever to do with the saintly finance industry's business practices itself is a meme that really needs to bite the dust. Was CRA part of the problem? Maybe, but there's no such thing as a single cause to a collective fuckup/fiscal meltdown of this magnitude. I'd argue that the repeal of Glass-Steagall is an even larger singular driver.
I'm sorry if it seems like I'm singling you out or jumping down your throat in particular, I'm just real tired of simplistic finger-pointing at the CRA. (I even vaguely recall seeing numbers that said CRA-driven loans were actually less likely than average to be in foreclosure, but it's been a good while and I can't remember where to dig up the particular citation.)
News for Geeks in Austin, TX
I blame IP pirates undermining the entertainment industry.
Frontline on PBS had a good explanation of the mortgage meltdown. The problem wasn't the securitization of mortgages itself. The problem was that financial institutions borrowed money to buy more mortgage securities than they had in available cash, creating an insatiable demand for securitized mortgages. In an effort to keep the supply of mortgages to meet the demand, mortgage companies lent money to anyone who could breathe, even if they clearly couldn't repay the loans (i.e. "subprime mortgages"). When the homeowners defaulted on their loans, the bank seized their properties, which were the collateral for the loan. Because so many homes foreclosed, it created a huge supply of houses for sale on the market. This huge supply made housing prices drop, so that other home sellers owed more money on their mortgages than they could sell their house for. This in turn led to their houses going into foreclosure. Wash. Rinse. Repeat. For each foreclosure, the supply of money to the securitized mortgages dried up, making those securities drop in price. Because financial institutions had borrowed money to buy those securities, they ended up losing more cash than they originally had, which any investor knows can happen if you buy on margin.
It's all pretty simple, really.
What a fool believes, he sees, no wise man has the power to reason away.
There's nothing inherently wrong with guaranteeing housing for (nearly) all - it works well in China. The problem is when you can't pay for it. If you spend billions of dollars on housing your citizens and then balance your budget by counting on them paying you back then you're going to face a disaster. Get the money elsewhere; counting on someone with terrible credit to balance your deficit is just stupid.
That played a large part in this problem. I was eyeing a home from around 2000-2001. Proces were still reasonable. Then the rates dropped to ridiculous lows. Great, right? But then that caused a mad rush on homes, driving the prices to even more ridiculous highs. At that point, your monthly payment became even higher than when the interest rates were higher. At that point I dropped out of the market for a house. Who the hell else didn't see this coming? Who was Alan Greenspan really helping by keeping the rates so low?
A sentence you'll never see on an Internet discussion board: "You know what? You're right."
I was contracting at a mortgage company from Summer 2006 to Summer 2007, working on a model to predict mortgage behavior (and watching the office getting emptier and emptier). A few observations.
Why, in the name of the FSM, did my data have "stated income" as a yes-or-no field? Nobody sane would make a major loan to somebody who couldn't even verify his or her income, unless they had absolutely no concern about whether it would be paid. Nobody sane would purchase such a loan from a broker. There was no federal regulation saying "You have to make loans to indigent liars" that I know of.
We had several projections of housing prices. The number of them that showed any sort of decline? A bit less than one. It wasn't that nobody was talking about a bubble, either.
What I saw was idiotic, short-sighted, greed, laid out in 1s and 0s. This had nothing to do with any sort of pressure, other than for the quick buck right now.
"When you have eliminated the unacceptable, whatever is left, however improbable, must be the truthiness" - Holmes
When it's not your money your lending out.
Say, I'm a loan officer. I see someone being high-risk. Do I loan out to that person? Well, if I'm at risk, I might not, but since the home prices are going up, I give the loan, and then sell the loan to someone else. I'm not stuck with the loan, and I make money on loaning out money. See where my incentive is to loan out money whether the person can pay back or not?
Je ne parle pas francais.
Wired: The Formula That Killed Wall Street
David X. Li formula used "Gaussian copula function" for risk estimation. It greatly oversimplified risk estimation and ignored any nonlinear, topological and whatever nontrivial dependencies, taking into account only single correlation parameter. Formula was applied recursively and the end result was completely divorced from reality.
Cut the crap. You're telling me that FMA and FRE caused the world financial meltdown??? That's like blaming Bernie Madoff for the world financial meltdown. FMA and FRE were improperly run, and neutralized regulators, and its going to cost taxpayers in the 11 digits. But they are only a small part of the mortgage market collapse. Residential housing is not the only construction sector being hit, and how many poor people could FMA and FRE subsidize to go bankrupt?
Look at how bank lobbyists were able to deregulate their industry. What happens when they go into financial competition with a gov't program? They scream bloody murder. Its like saying unionism caused the American economic collapse.
There is no America. There is no democracy. There is only IBM and AT&T and DuPont, Dow, General Electric, and Exxon
> the financial crises was caused by just about anyone
Except for folks who bought within their means and paid their mortgages on time. Sadly, they will now end up paying for everything else.
The Army reading list
oh good, my comments still there from the first time i saw the story:
i programmed in some of the same subject matter for several years recently, and much of this strikes me as a very believable tale. ...except it feels history-rewritten so as to remove any negative light from the author. he comes off entirely too saintly-while-surrounded-by-evil, and that makes me wonder what else to believe.
in particular how he made it seem like he just happened to fall into his deal to maintain/integrate/etc the software for its new owner, unpaid for a cut of its sales. that's a daring endeavor you take only when you honestly believe in long-term success, so i don't see "i'm tired and wanna take something easier", i see "all in, show your hands boys" kinda farm-betting. he knew then like he said now that his software could become the standard, shot for and achieved success. but i don't think his waxing philosophical about the potential dangers of that success started only after the trouble.
the contractors building the death star knew the risks of that association, so to speak. (I should explain, this is a meme, and honestly an unfair comparison)
Here here! Too bad I don't have the points to upmod you.
Its Republicans looking for a Democratic scapegoat to pin the world banking meltdown upon. Its a preposterous argument, when you look at the numbers involved. It was flat out deregulation and neutralization of regulators that allowed the mess to come about.
There is no America. There is no democracy. There is only IBM and AT&T and DuPont, Dow, General Electric, and Exxon
Wow.
That's all I have to say about that one.
Wow.
Hyperbole, Check!
Misogyny, Check!
Confusing Causation and Correlation, Check!
'The red means that it's "in the future" and being seen by a subscriber. For some reason they've been showing up for a few seconds to normal users too.'
That gives me a great idea! Why not devise some sort of complex financial instrument that nobody understands, which effectively bets the entire economy on the future colour of Slashdot articles? It would be no sillier than what happened over the last decade, and pretty easy to implement if we can come up with a single neat formula that seems to give correct predictions if you don't look too hard. Speaking of which, I thought we were still blaming this guy:
http://www.wired.com/techbiz/it/magazine/17-03/wp_quant?currentPage=all
And the key thing to realize here, was that the banks thought they had a no lose situation. Even the "disaster" of foreclosure still left the bank with a recoverable asset (the property). Instead of losing 135K on a loan, it was more like a 35K loss. The banks didn't count on a reversal of the housing markets, outright fraudulent lending, and how securitization would only mask the losses, not render the losses moot.
And mortgage securitization only breaks the small banks that specialized in it for their earnings. Investment banks like Lehman and Citigroup got wiped out from their derivatives manufacturing/gambling.
There is no America. There is no democracy. There is only IBM and AT&T and DuPont, Dow, General Electric, and Exxon
if it wasn't for the "affordable housing" and "homeownership for all" agenda pushed by both the Clinton and Bush administrations?
There's no reason everyone can't own a home. Whether you own or rent, you are paying for your living quarters either way. In fact, renting is even more expensive than owning when you consider that you don't get to keep any of the equity, and the landlord needs to make a profit. Knowing this, I would argue that any system where the vast majority of people are not home owners is fundamentally broken.
So the crime here isn't that poor people had the audacity to buy homes. The problem is the accounting tricks our fucked up system needed to get the poor people in their homes. If, instead of lending large sums of money to poor people up front, our system allowed people to pay as they go and still build equity in their homes, this wouldn't be a problem.
I imagine some kind of a rent-to-own for homes. If you stay the whole time and pay it off, you get to keep the house. If you can't pay it off for some reason, you're no worse than you would be if you had rented, and no one lost the cash they would have lent you to buy the home. Seems like the best of both worlds.
Give me Classic Slashdot or give me death!
Why was the CRA a bad idea? It didn't, after all, say banks had to make loans to people who couldn't afford them. What it said was "We've caught you refusing to give loans to certain groups regardless of their ability to repay. And as a society we don't think locking those groups out completely is in our best interests. So, given your proven track record, if you want to refuse to give loans to people in those groups you're going to need to provide written justification pointing out the exact financial basis for the rejection.". Under the rules, the banks could perfectly well refuse to give loans out to people in those groups whose financial situation would make the loans too risky. All they'd have to do is, for instance, write up a report attaching the guy's credit report and noting "He's defaulted on these loans for these amounts in the past 3 years, and we don't make loans to anybody with that record." (backing it up, of course, by showing they indeed didn't make loans to anybody with that kind of record).
When I hear people talking about how that's so unreasonable, I can't help but recall that the banks were in fact caught refusing to give loans to a black man with a certain credit record but were perfectly happy to give that same loan to a white man with the exact same credit record. When you've been caught with your hand in the cookie jar repeatedly, it's not unreasonable for your Mom to start taking steps. When I hear people saying how if the banks can't loan money willy-nilly to anybody they won't loan at all, I can't help but hear the brat in the playground who if he can't have it all his way throws a tantrum and threatens to take all his toys home. I think the term is "does not play well with others".
the galactic insanity of the CRA
Whether the CRA was a good idea or not might be up for debate, but if "galactic insanity" implies that it was operating at a scale necessary to be a real driver of the crisis, there are significant indications you're wrong.
Consider, for starters, these statistics:
"Federal Reserve Board data show that:
* More than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions...
* Only one of the top 25 subprime lenders in 2006 was directly subject to the housing law that's being lambasted by conservative critics."
There are a number of other relevant resources (such as those posted elsewhere in this discussion and in my comment history) which also examine the idea that the CRA was a significant cause of the current problems. The data seems to indicate that not only were CRA loans not any significant portion of problematic loans, they're actually turning out better than comparable private loans.
Tweet, tweet.
I don't understand the need (apparently in the article above) for people to blame everyone who had any connection at all to the financial crisis. This guy didn't do anything yet some of them are referring to him as a "scumbag" (and maybe a few naughty terms, I didn't look that hard). Further, Osinski claims to feel a little guilty, though he never explains why he should feel a shred of guilt. As I see it, he built a tool. Maybe highly leveraged traders leaned on that tool too much, but it's not intended to spot systemic risks (particularly the risk that all assets decline in a correlated way). Those systemic risks are what brought everything down. So a tool, working as intended, used by fools who made some hideously risky bets.
While this is true, a lot of the economy during this time (when I bought my house) was propped up by the housing/irresponsible lending engine. In a way the people who were responsible about managing their finances still benefited indirectly from all this financial nonsense.
This system is, I think, known as "owner financing" - the current owner of the property agrees to finance the purchase, and in return, the buyer pays them a monthly payment (instead of a bank); if the buyer defaults, ownership of the house would revert back to the original owner.
Problem with this is, you still need somebody in the mix who has a vast sum of money - bank or owner - to provide the financing for the new buyer, or the new buyer will end up paying exorbitant monthly fees to cover the interest & risk on the loan the owner must take out to provide financing.
I'd amend your initial sentence to read: "There's no reason everyone couldn't own a home they can afford." This is the problem - some predatory banks extended too much easy credit to people knowing they didn't have the means to repay, and some unscrupulous people took that credit knowing they didn't have the means to repay. Not everybody is a crook on either side, but both sets of people are guilty of ignoring the simple reality that they were spending (or enabling people to spend) beyond their means.
If you buy a house you can't afford based on the assumption that "home prices will always rise, so I can just refinance once I have equity!" are taking a gamble, not making an investment.
He was part of a team that wrote some trading application. Confession? Is this a joke? Blaming wall street for this meltdown is like blaming your electrician when the power company stop providing power. All they do is repackage stuff. All the repackaging in the world wouldn't raise home ownership from 20% to 30% in 10 years. This was through policy... Brought to you by your friendly government (which I must be a right-wing nut for questioning, right?). Reminds of a the Jackie Mason joke: "This is the richest company in the history of the world and every year we lose money. That's because your congressman gets paid whether we lose money or not. I say put em on commission..." Honestly though... It's the "ownership society" that created this crisis -- not the middleman they are trying to blame now.
Any guest worker system is indistinguishable from indentured servitude.
Ah, Slashdot: where not even your made-up, bullshit words are safe from the grammar Nazis.
This is what $2 million of bonus can do to grown men.
I wanted desperately to try to argue that perhaps the kind of person who can position himself to make that kind of money is simply the kind of person who would be amenable to literal pissing contests and so on, rather than money itself changing what were previously normal people.
In fact, renting is even more expensive than owning when you consider that you don't get to keep any of the equity, and the landlord needs to make a profit.
Actually, no. The whole point of the psychological aspect of the bubble was/is that "housing only goes up". Therefore landlords didn't care that the typical rental cost was a fraction of their mortgage payment.
For example, say the cost was $500K. That would imply, at a reasonable rent to cost ratio of 100, a rental cost of $5000 per month. But the going rental rate for a SFR is only $1800. Thus each month a landlord loses $3200 in cashflow.
However the whole point of the bubble is to mix up cash flow and balance sheets. So, if that $500K house cost $250K two years ago, it's gonna double in two years, right? Because housing only goes up, right? So, if you expect to gain $500K on the balance sheet in two years, that is simplistically a monthly gain of $20833. A new car each and every month....
So, the bubblehead thinks he gains $1800 a month from rent, lost $3200 a month in expenses, and gains $20833 per month in bubble prices. Sounds highly profitable. Now what happens when real estate no longer goes up? What if it drops by half, thus a balance sheet loss of 10K per month, every month? Ooops. Mail the keys back to the bank and tell the bank, tough luck. Don't worry about the bank, taxpayers will bail them out.
Another way renting can be cheaper is looking at opportunity costs. If the "savings" of ownership are less than the money lost thru peasant work of maintaining the house, then you're better off outsourcing property management to the landlord. People whom get alot of money by working crazy hours are far better off outsourcing toilet plunging and lawnmowing to a landlord. Also some people are willing to pay alot for someone else to handle the hassles for them.
The final way renting can be cheaper, is if you know anything about economics, and see whats going on in the inflation adjusted prices over the long term over the last century, in the ratio of house prices to rent over the last century, in the ratio of median income to median home price, in the ratio of median home price to... heck just about any commodity, in the historical graph of interest rate vs house price with attention given to the current temporarily multi-generationally low interest rate implying a very temporarily multi-generationally high house price, in the trends of median middle class income over the years, in the demographics of baby boomers flaming out with not enough younger folks to move in/up, in the graphs of house construction vs population change (supply vs demand), it's not too hard to see whats going to happen to prices. On one side you've got all the math and graphs that are worth considering, and on the other side, you've got slogans like "real estate only goes up", pretty easy to evaluate what will happen soon. So, pay a small rent to the landlord whom will take a staggering huge capital loss. Some homes in CA have been/are dropping in the high five figures per month, an order of magnitude larger than their rent...
"Science flies us to the moon. Religion flies us into buildings." - Victor Stenger
Well that's because there wasn't anything, strictly speaking, illegal done.
Nothing illegal done? Let's start with the dishonest loan brokers. Those brokers had people come in with a $40,000/yr salary, but put on the application that the salary was $160,0000/yr. Of course, these were no-doc loans, so no documentation was required. There was a lot of of fraud going on. Let's send a few thousand loan brokers to jail. Anyone with me?
Because they aren't allowed to charge interest (too Jewish or something)
It's called usury, and it is prohibited quite explicitly by Islamic law. Nothing to do with Jews.
Well really what happened is the bank gave Joe Foreclosure a loan.. They knew Joe is a bad risk so they bought insurance for that loan from AIG.
Now that loan is 100% guaranteed to pay off so the debt of off my books (balanced by the Insurance policy) repeat over and over again.... Ohh since these loans are fully insured they run out and package bundles of them up as AAA bonds and sell em off to market investors.
This is all fine and dandy, AIG wrote policys out for trillions in mortgages. To bad and they only had the cash to pay on a handful. No big deal they thought.. Home values have only gone up for 30 years..
The the bubble burst.. record numbers of homeowners were defaulting on mortgages. The Banks turned to AIG for the insurance. AIG didn't have the cash..
Now the banks are over leveraged and all those bad loans are wrapped up out there as AAA bonds they are liable for.
Thats why the feds have to keep pumping billions into AIG.. If they fail the policies fail. then the banks fail and the bond market fails..
You know the rest..
If you think it's expensive to hire a professional to do the job, wait until you hire an amateur. --Red Adair
Exactly. Securitization packages up pools of loans into bonds that get given a credit rating by an agency. A lot of bond buyers just go by the bonds' ratings. These bond buyers are the ones who ultimately provide the easy money that ends up being used for the junk mortgages.
Who are these bond buyers? All sorts of banks, and, more worrisome, retirement pensions and bond mutual funds in people's 401k plans. Look, for example, at what happened to Fidelity Ultra-Short Bond Fund. This is a fund that was supposed to be extra-low risk; it lists "preservation of capital" as a goal, and it's supposed to compete with money-market funds and bank accounts. It lost 20% because of exposure to highly-rated subprime securities.
Are you adequate?
Living in an apartment with only enough space for your needs?!? Why do you hate America?
Although, it will still cost them far less than the American Empire they've been supporting for 60 years. And for some reason, I don't suspect the nightly news will mention it. Strange.
America's a wacky place. Spending less than 100 billion saving people who were dumb with mortgages is cause for Panic! Hyperbole about Socialism! Quick, throw a tea party! Fox News anchors weeping on air for their fallen values system!
Spending 1,000 billion on warfare every year is Patriotic! Go team! USA! USA! USA! Post some videos about shock and awe! Let's run some swell pieces on brand new weapons systems designed specifically to "protect freedom," and never mention their price tag...
The oddest thing about Osinski's article is his claim to be "the one" to have written the CDO packaging software that brought down Wall Street-
That statement alone pegged my bogometer. Sweeping claims for sole ownership of a *type* of system that developed by many banks - bullshit.
During the 80s and 90s, I worked for several major Wall St. IBs, writing institution-level portfolio risk-valuation software - dealing with billions in net value across markets, trillions in notional face value (whoop-t-do.) And I collaborated with coworkers who wrote and maintained, get this, CDO packaging/securitization systems.
Osinski, wherever he was at the time, wasn't "the one." Many people worked at this, across numerous banks (eventually.) That he has a guilt complex about it is kind of absurd. He might have been an early developer, though certainly not the only one, and he was most definitely not the inventor of mortgage-backed bonds. That alone should clear his conscience.
His guilt is either misplaced, or amplified to a level that runs way, waaay outside his actual responsibilities as a developer.
Also, his claim that the code became "the standard" used by IBs around the world seems utterly bogus. At the firms I was employed by (and consulted for), while we did license code and contract out for systems developed by quant software boutiques for specific needs, things like securitization systems were in-house. Because: a) it was very complex, b) it had to be very specifically tailored to your "inventory" systems (and the retail banks you bought from), and c) at the time, you did not want an outside firm getting into your books or onto your network. (This was in the days before FIX became a standard.)
So, maybe this guy is seeing a second/third career as a writer. Good luck with that.
O lord, bless this thy holy hand grenade, that with it thou mayest blow thine enemies to tiny bits, in thy mercy.
Apparently a lot of people do not know what they are talking about. The people most invested in the system cannot see the flaws and do not want to. The financial jargon is used to obfuscate. Some genius that actually understands it all at the byte and master accounts level, made it very simple for everyone to understand.
Derivatives = Bets
Credit Default Swaps = insurance on bets
Hedge Funds = borrowing of money to gamble with (unregulated and secret also used to manipulate markets)
Taxpayer Bailout = Taxpayers covering the gambling losses for gamblers? (it won't happen without a revolution taking place to correct it)
Reality = Insurance (e.g. AIG) cannot cover failed bets which amount to: USD 206k per person-on-planet.
The number it is based on has grown from USD 1.144 Quadrillion to USD 1.405 Quadrillion, ie, +22% worldwide. The GDP of the entire world is USD 50 trillion. The derivatives "bets" total USD 1,144 trillion which is 22 times the GDP of the whole world. The money 1,144 trillion doesn't really exist in system but only in the terms of a contract, artificial value not validated by economic system participants. It would be inappropriate for the citizens to go into debt as they already have, to cover these contracts. The people that created this catastrophe do not feel the pain of their decisions, but the common folk do. You can read all the rest of this and a bunch more insight into a system that would actually work on http://coinage.me/ Perhaps most ironic was an attempt to build a computer game based on the current economic model, eventually the game / economy always crashed.