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1、FINAL RESEARCH PROJECTImpact of sub-prime loans on US housing and stock marketsByJohn H. Stumbo IINovember, 29 2008.Abstract:The new Presidential Administration has much work to do to stabilize the economy. The US housing and stock markets are in serious trouble. The US Government is struggling to f

2、ind a way out as millions of Americans struggle to put food on the table. This research paper has concluded that the US tax-payer that has received sub-prime lending has contributed significantly to the issue. The data supports the fact that financial institutions have ignored the risk associated wi

3、th sub-prime lending, and allow the passing of that risk to the US tax-payers. This allowed the prices of homes to increase along with the amount of risk that these institutions have been willing to undertake up to this point. The facts speak for themselves; fully 21 % of the sub-prime loans made in

4、 the US are in foreclosure. The American people really dont have anyone to blame but themselves for allowing this to happen. However, if you only listen to the media, the focus of the problem is only upon the financial institutions themselves and not the borrowers. If the American public made the de

5、cisions necessary to live within the means of the household, then we would not be in the financial trouble we currently find ourselves. Sub-prime lending should be outlawed, this will prevent this issue from ever happening again, and we must all learn to live within our means. It is key, to remember

6、 that the current state of the economy is not the fault of a single President or Administration; it is the accumulation of many years of poor lending habits of both the financial institutions and borrowers.Table of ContentsChapter 1: The research question and backgroundpage 2Introduction2Background3

7、Problem.4Purpose.6Significance of the study.7Summary.8Chapter 2: Review of existing literature9US stock market9US housing market11Chapter 3: The research design.12Research design12Research method.12Expected findings and implications.13Chapter 4: The research results.14Research results14Recommendatio

8、ns for future research.19References.2021Chapter 1IntroductionThe current state economy in the United States is soon to be in the hands of a new Presidential Administration. There is much that the new President and his Staff must do in order to continue to bring the changes needed into the economy. T

9、here are some that believe that the United States Stock Market Exchange is in dire straits and could topple down at any time. These fears for the economy are driven by the media and the new Administration must take care in order the keep the American Way of Life strong. The root cause, which has bee

10、n identified and agreed upon universally, is the “bad credit loan”; this is a result of sub-prime loans. There is no official definition of a sub-prime loan, but it is generally assumed to be a loan made to a borrower with a FICO credit rating below 660. A FICO score is a measure of credit risk deve

11、loped by Bill Fair and Earl Isaac in 1956. These “bad credit” loans apply to home mortgages, auto loans, and credit cards. Many want to place the blame for the current state of the economy on the sitting US President George W. Bush, its easy to place blame on the current leadership, but is it accura

12、te to place such blame? This means that the public wants to blame others for the economic situation; instead of examine how we got here in the first place; placing “wants” ahead of “needs” and receiving loans that could not be repaid. The inability to repay sub-prime loans has contributed significan

13、tly to the current state of the US economy. Background Recently, we have seen the bail out of the financial industry in the US. This bailout cost the American tax payer approximately $700 billion dollars. The bailout is focused to relieve the financial systems bad credit loans, and to start the bank

14、s lending again (Blodget, 2008). The majority of the “bad credit loans” are centered in the housing market, many homes in the US are now in a foreclosed state, and houses in the US are not valued as high as they had previously been appraised.The homes that are foreclosed and sit empty are a drain of

15、 the financial institution that owns the property. Foreclosures have accounted for more than $3.5 trillion in homeowner equity wiped out since the spring of 2006 and foreclosures reaching the highest level since the Great Depression (Wasik 2008). These properties mostly sit empty and cannot be sold

16、quickly to allow the bank to free up the funds associated with owning these properties. With so much outstanding debt, the banks stopped lending, not only to the public but also to each other. With the halt in lending, the US stock market tumbled, without the bail out who knows where the market woul

17、d have bottomed out. Without doubt something needed to be done to stabilize the market, but there are still challenges ahead as the market still teeters on the brink of the edge. Keeping the US stock market stable is globally important as the US stock market affects the other stock markets globally.

18、 Fluctuations in the US stock market cause far reach impacts into the other stock markets; having both positive and negative effects.ProblemThe US Treasury Departments bailout plan included many different monitoring systems and stipulations to ensure that the funds will be used correctly. However, w

19、ill these measures be enough to ensure that the American Tax-payer is not abused through the mistreatment of the funds available to these financial institutions, will there need to be additional measures in order to ensure proper usage of the available funds?These measures currently include:Equity s

20、takes: Federal assistance is to be accompanied by measures to ensure that tax-payers will receive any future gains in the market place. The bailout is not just a give-away of tax-payer monies to companies that cannot sustain normal operations due to poor business planning.This means that Federal pur

21、chases of mortgages or related assets are to be passed to tax-payers in the form of an equity stake, and should be proportional to the amount of aid any firm receives. Also an equity stake in all firms that benefit from aid from government assistance must be part of the plan. This is so both shareho

22、lders and tax-payers share both the cost, and any potential long-term benefit from the bail-out funding.Companies benefitting from the government aid that show an increase in future performance should pay back to the government, no matter if an asset class is doing better market wise than others. Th

23、is will keep companies from only releasing poorly performing assets as equity stakes with the government.Full disclosure is a requirement; all participating companies are subject to all regulatory and reporting mechanisms, including the reporting of all liabilities. Only normal accounting methods ar

24、e to be allowed. Compensation: All participating firms will hold compensation of senior executives to a “reasonable” level, this means that the “golden parachutes” of the past, as well as, the unusually large bonus that these senior executives are accustomed will no longer exist. Regulation: There i

25、s to be a time table of accountability that is to be regulated and adhered to by all participating companies seeking relief.Home owner relief: Bankruptcy judgments will be allowed to be modified if the appraised value of the home falls below the mortgage value. These homeowners that receive a modifi

26、ed loan, either through court or a new plan with the bank will not have the loans penalized by poor credit scores.Process: The US Treasury Secretary is to report to Congress every 90 days on the status of the bailout and companies receiving funding. PurposeThe purpose of this research project was to

27、 examine the effect of the “bailout” on the US housing industry. With the current state of the economy is the “bailout” be enough to stabilize the housing market in the US. Many economists believe that the “bailout” is merely the beginning and that it will be necessary to extend the financial indust

28、ry additional funds in order to stabilize fully. The new US President will have a tough job dealing with the state of the economy, and will need to make the best decisions possible in order to keep the US stock market from tumbling further. These decisions will most certainly be of keen interest of

29、the homeowner in the US. Homeowners represent the largest percentage of voters in the US; the effects on the economy and how it relates to the housing market seem to be the primary concern of the voters, along with the increases in taxes that these “bailouts” entail.The tax-payers do not want to see

30、 hard earned money be “given” to the financial industry; many think that letting them fail might allow stabilization to happen more rapidly. This approach would most certainly be the most direct; however it would also be the most damaging to the US stock market as a whole. This approach would see th

31、e collapse of many US banks and financial institutions.To do nothing and let the system cave-in upon itself would be irresponsible. Convincing the tax-payers that it is necessary to increase taxes to support these “bailouts” is very difficult. After all its because of the tax-payer that we are curre

32、ntly in the economic state we find ourselves located. The responsible thing to do is to seek the best possible solution to the problem, and monitor and correct that solution as often as necessary to maintain a steady course. Significance of the StudyThis research has generated an understanding of wh

33、ere tax monies are being spent in order to stabilize the economy. The verbiage used in the “bailout” plan is very confusing and not easy to understand. Many tax-payers do not understand why there even needed to be a “bailout” much less what the specifics entail. This study has enabled the understand

34、ing of the impacts on the US stock market of the “bailout” and also the impact to the US housing market.Objectives of the ResearchThe research for this project was centered the economic “bailout” plan for the US financial industry. The measures contained in the plan allow for understanding of the pl

35、an itself and the impacts to the economy reflected to the tax-payer. The focus was on the impact of the sub-prime loan of the housing industry and the down-stream effects on the US stock market. With the election of the new US President, it is important that tax-payers understand the current state o

36、f the economy, not just what they hear on TV. Without understanding the issues associated with the economy decisions cannot be made effectively regarding the new President. Enabling the understanding of the current state of the economy, the impact of the “bailout” plan and the effect on the US stock

37、 market and US housing market is of great importance. SummaryThis study allowed understanding of the “bailout” plan, the current state of the US stock market and the US housing market. The focus of the next chapter is to depict the articles used to gain knowledge of the problem and the impacts assoc

38、iated. Chapter 3 will be used to research conducted and the methods used to gain understanding.Chapter 2REVIEW OF LITERATUREUS stock marketThe U.S. economy is one of the largest and most important economies of the world. With the continual growth of its GDP, the U.S. economy continues to overshadow

39、the rest of the world (Investopedia, 2008). This statement allows that the US stock market is strong and has impacts on the global markets. However, recently as of the month of October 2008, the Dow is off 22.8 percent, the S&P 500 is off 24.7 percent and the NASDAQ is down 25.8 percent - putting th

40、em on track for their worst month since the October 1987 crash. In the S&Ps case, this October could wind up being its worst month ever in the post-World War Two era (Mnyandu, 2008). This has been a very difficult month for the US stock market. The trust in the US financial has been shaken, the US t

41、ax-payer has been affected both by the usage of hard earned tax dollars spent to “bailout” the US financial industry.As the market is taking a huge hit, the Federal Reserve slashed its Fed funds rate by 0.5 percent (InvestorCentric, 2008). The Fed is taking these actions in hopes that it will help c

42、onvince banks to resume lending, but thus far, their actions have done little to change the mindset of the banks. Some estimates are saying the bailout package will begin making an impact in the markets in about a month, so it is possible that resurgence in bank lending could occur around that same

43、time, but that is just a guess. It all boils down to trust (InvestorCentric, 2008).It would seem that the current state of the market is down however the decline was seen as far back as March, 2007 it was reported that Dow Jones Industrial Average - up 157 points (1.3%), after dropping more than 600

44、 points from its all-time high of 12,786 on February 20, 2007, S&P 500 - up 21 points (1.5%), after falling 80 points from its high of 1,453 on February 15, 2007, NASDAQ - up 44 points (1.9%), percent after losing 7% since its high of 2,524 on February 22, 2007 (Amadeo, 2007). This shows that the re

45、cent activity is not confined to a specific time period; the issues have been brewing for quite some time. The current state of the US stock market is a reflection of events that have happened in the past, representing a trend, and the projections of the future, representing trust.Trust is shaken in

46、 the US stock market seventy percent of investors surveyed this month expressed confidence in the U.S. capital markets, down from 84 percent in July 2007. Last years survey was conducted before clear public evidence of mortgage and credit market difficulties. Rising gas and oil prices, the weakness

47、of the U.S. dollar and the home foreclosure crisis were cited by investors as the top three reasons for their reduced faith now (CAQ, 2008).Regaining trust from investors is paramount to overcoming the current market crisis. In an effort to regain trust the Federal Reserve slashed its Fed funds rate by 0.5 percent, and will continue to cut the funds rate as necessary to continue the stabilization of the market. This move will help the market but will not itself solve the trust issue wi