golfgal (and perhaps a few others), I think you misunderstand how some of these securities work. Yes, you’re correct, that most of them are not worthless because, yes, there is some collateral protection. (And, in fact, some of the securities in question may very well be worth more than the valuation the market is placing on them currently.) Having said that, THERE ARE ABSOLUTELY QUITE A FEW WORTHLESS MBS – “GOOSE EGGS,” IN TECHNICAL TERMS – OUT THERE.
Allow me to explain.
Let’s say I own two different portions of a single subprime mortgage securitization. One portion is rated AAA; the other is rated CCC. And let’s say that this securitization, as a whole, ends up with a 20% default rate and losses that total 10% of face value. Well, considering it’s going to take one of the initial loss positions for the whole securitization, guess how much that CCC piece is probably going to be worth? You got it: somewhere around zero.
Now, the AAA piece is rated AAA because it’s protected by all the pieces rated AA and below which are, in descending order, going to take on the securitization’s losses (to varying degrees). (These losses will be assigned by formulas outlined in the offering documents.) As the losses mount, they wipe out most, and in some cases all, of the value of the “Z tranches” and start moving up the ratings scale. So, let’s be clear here: There are some MBS that are, literally, worthless. There are others that are merely impaired. The question is what is the difference between the market value and the economic value of these various securities. Regardless of all of these shenanigans we’re going to find out the true answer over the next couple of years. I’m skeptical that the market has it completely wrong, although there’s likely some variance due to illiquidity and behavioral issues.
golfgal, you said, “The valuation question – its whatever people will pay.” We’re in complete agreement here. According to your statement, there’s no need for this “super fund” at all. These institutions should just sell this dreck into the market and find out what the market thinks its worth. Let’s just say that I’m not going to hold my breath on that one…
