The subprime meltdown is mainly due to the industries failure to use proper lending standards, but the aftermath is almost completely due to the Wall Street trading and market manipulations. In their zeal to make up the lost profits they were making off of servicing the subprime loans in the past, the hedge funds and large banks have been trading in an aftermarket of these loans with brutal results.

To try to avoid the losses and make gains on their trades, large banks have trading the subprime loans in the ABX index. Back when many of the subprime and smaller lenders such as SouthStar were shutting down in March, the ABX index was being driven down to a low of 63. Then when many of these borrowers were knocked out and the rest were in dangerous territory, the market zoomed up to 77 by mid May.

Now the Federal government and other players in the market are crying foul saying that Bear Stearn is accused of manipulating the market to protect their own overexposed assets in subprime lending against the markets rules. So Bear Stearns reaction, lets put in a rule change to the organization to make our indiscretions not look as bad.

So lenders out there, while you are a player in this game, cast your eyes to Wall Street and the ABX index to see what the future has in store for you.

The confrontation provides a window into complex trading — and complex ethics — in the nation’s mammoth mortgage market, which played a critical role in financing the housing boom.
Hedge funds might not win much sympathy for making indirect bets against the financial health of struggling homeowners. But they say they are trying to protect the integrity of a burgeoning derivatives market that stands at the center of the controversy.
The episode also shows the complicated relationships between hedge funds and the investment banks, which trade with them and often fund them.
Bear’s main antagonist in the squabble, hedge-fund executive John Paulson of Paulson & Co., used to work for the investment bank and says even after a series of highly contentious exchanges, “We have a very good relationship with Bear in all aspects of the business.”
Bear is one of Wall Street’s largest players in the market for credit default swaps, or CDS, instruments that act as insurance policies on various kinds of bonds, including those backed by subprime mortgages.
Many hedge funds have bought these swaps, effectively making a bet on an acute downturn in subprime home loans. Bear is widely believed to have taken the opposite position, selling swaps and making a bet that conditions will improve or won’t deteriorate as much as some people think. A Bear spokesman says, “We are both long and short the market.” via RealEstateJournal

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