Question & Answer

What is the danger of issuing too much stock? What is the role of the securities firm that serves as the underwriter, and how can it ensure that the firm does not issue too much stock? (LO2, LO4)

Explain the rights of common stockholders that are not available to other individuals. (LO2)

Many critics argue that greed in the mortgage markets caused the credit crisis. Yet many market advocates suggest that greed is good, as the thirst for profits by firms that participate in mortgage markets allows for economic growth. Write a short essay on how regulations can allow for greed while also ensuring proper transparency in the mortgage markets so that another credit crisis does not occur. 

Explain how the Financial Reform Act of 2010 attempted to prevent biased ratings of mortgage-backed securities by credit rating agencies. (LO5)

The U.S. government intervened to resolve problems in the mortgage markets during the credit crisis. Summarize the advantages and disadvantages of the government intervention during the credit crisis. Should the government intervene when mortgage market conditions are very weak? (LO5)

Explain why mortgage originators have been criticized for their behavior during the credit crisis. Should other participants in the mortgage securitization process have recognized that lack of complete disclosure in mortgages? (LO5)

Why do you think it is difficult for investors to assess the financial condition of a financial institution that has purchased a large amount of mortgage-backed securities? (LO5)

The U.S. Treasury attempted to resolve the credit crisis by establishing a plan to buy mortgage-backed securities held by financial institutions. Explain how the plan could improve the situation for MBS. (LO5)

Explain why the rescue of Fannie Mae and Freddie Mac during the credit crisis improved the ability of mortgage companies to originate mortgages. (LO5)

Explain why Fannie Mae and Freddie Mac experienced mortgage problems during the credit crisis. (LO5)

Explain the role of credit rating agencies in facilitating the flow of funds from investors into the mortgage market (through mortgage-backed securities). (LO4)

Do you think that the U.S. financial system will be able to avoid another credit crisis in the future? (LO5)

Many investors that purchased the mortgage-backed securities just before the credit crisis believed that they were misled because these securities were riskier than they thought. Who was at fault? (LO5)

Explain how the credit crisis adversely affected many other people and institutions beyond homeowners and mortgage companies. (LO5)

Explain the problems that arise in valuing mortgage-backed securities. (LO4)

How did the repayment of subprime mortgages compare to the repayment of prime mortgages during the credit crisis? (LO5)

Describe the characteristics of subprime mortgages. Why were mortgage companies aggressively offering subprime mortgages before the credit crisis? (LO5)

Explain collateralized debt obligations (CDOs). (LO4)

Consider current conditions that could affect interest rates, including inflation (including oil prices), the economy, the budget deficit, and the Fed’s monetary policy. t Based on the prevailing conditions, do you think the values of mortgages that are sold in the secondary market will increase or decrease during this semester? Offer some logic to support your answer. Which factor do you think will have the biggest impact on the values of existing mortgages? (LO4)

Explain how the maturity of mortgage-backed securities can be affected by interest rate movements. (LO4)

Describe how collateralized mortgage obligations (CMOs) are used and explain why they have been popular. (LO4)

Describe how mortgage-backed securities (MBS) are used. (LO4)

Explain how a mortgage company’s degree of exposure to interest rate risk differs from other financial institutions. (LO4)

What types of financial institutions finance residential mortgages? What type of financial institution finances the majority of commercial mortgages? (LO1)

Compare the secondary market activity for mortgages to the activity for other capital market instruments (such as stocks and bonds). Provide a general explanation for the difference in the activity level. (LO4)