By Mark P. Dangelo
(as also published at the National Mortgage Bankers Association)
In a dark cave, a fire glows in the corner casting its shadows with eerie reflections on the objects within. In the flickers of light, we can see outlines of gray and black hues sketching out eight individuals – all chained together, all facing forward.
For decades, each of these figures –consumer, banker, GSE, financier, investor, regulator, politician, and technologist – faced the wall in a sitting position gawking at the dancing wall images encapsulating a unique reality for their daily existence. Each saw their reality in isolation even though the images of their existence were created from the same source.
The cave, and its changing shadows, was the only existence this group of eight had ever known for business, markets, and individual reward. The inhabitants had never left the cave, yet each was firm in their own but different, realities. Their livelihood and prosperity was the cave. It was comfortable, convenient, and it defined their existence.
A Seismic Disruption
Just over two years ago, a magnitude 8.2 financial seismic disturbance unshackled the cave dwellers from their bonds, and the light that reassured them of their existence sparked and began to rapidly dim. In short, the seismic aftermath freed each of the linked from their one-way value chain of subsistence. As they rubbed their dust cover faces, they witnessed a new illumination coming from the entrance of the cave.
Disoriented and driven by failing debris, the historically interconnected dwellers were separately forced into the open and the strange confines of a new world. Grasping, groping, angry, and seeking safety, the eight moved to the glow of new surroundings, as a method to escape individual and financial demise now being delivered by the cave that once protected and sustained them.
For the group of eight (G8), their survival outside of the cave was savage. Month after month, their long-held axioms were shattered – home ownership, mark-to-market, hedging strategies, derivatives, regulatory certainty, housing markets, ethics, investor confidence, sovereign wealth and currencies, consumer behavior, regulatory oversight, risk analytics and strategies, swaps, structured financing, fiscal responsibilities, and even government-backed enterprises, which have the potential to saddle taxpayers with $1 trillion USD in losses against the national debt (multiples greater than AIG).
Moreover, the G8 were challenged by those who had already lived outside of the cave, as they were acclimated to behaving and interacting across new world commerce. These “global dwellers” had different mores, protocols (i.e., regulations), and business demands quite distinct from the G8. The original G8 longed for the prior security of their cave.
For the next 827 days, aftershocks and misplaced initiatives dominated their interactions with these global dwellers, and those that indirectly had come to depend upon them. The G8’s prosperity (i.e., cave light), as defined by their historical cave surroundings, was being extinguished. A new illumination was coming from a different source delivering ever changing images and realities – a radiance that was high in the sky rising from the East. The G8 were grasping for efficacy in a new environment as the rules and workflows of operation were regularly failing their original creators.
For the G8, as they exited from cave their global wealth steadily declined by over $20 trillion, as triple-A asset backed securities and complex, opaque OTC derivatives fell in value or vanished all together. As the markets fell, business interactions among the G8 declined resulting in 1 in 10 domestic adults being unemployed. Moreover, unsustainable household debt or leverage approached 200% of income as government debt reached WWII ratios against GDP.
The shockwave of unemployment and survival conditions outside of the cave inverted the ratio of new mortgages when compared against delinquencies and foreclosures. Calendar 2010 promises nearly 3 million repossessions and short sales against an average of 650,000 originations. Private securitization fell from over 60% in 2006 to < 2% in 2009. Moreover, 2010 brings new survival risks for the G8 cave inhabitants, as global dwellers and their investors demand new restrictions as volatile sentiment creates lingering doubts – and the potential retracing (e.g., double dipping) of the on-going survival pain.
Life on the Outside — The Unthinkable becomes Commonplace
New behaviors and strange occurrences for the G8 grew. Consumer strategic defaults became commonplace as “underwater” became a key justification for default. Bankers reluctantly became “utility” providers, as they never thought their actions would become public record – let alone achieve such a level of public vilification. Making matters worse, HAMP, which was promoted with the hope for all the G8, is now facing the potential of a 75% re-default within 12 months for those already “helped.”
Even those “Sheppard’s” of the old cave – the regulators, their agencies, and politicians – now added more uncertainty and strange behavior. This diverse trio reacted to the demands of the global dwellers, and the chaos they were unprepared to experience.
Individually and using public forums, once comfortable regulators found their relationships and new world frightening. They chose to hide behind the nearest tree to avoid retribution or inspection. Politicians blamed everyone around them as a global distain grew into domestic consequences – their role and reelection appeared no longer ordained – as some were having tea while others were distributing wealth and retribution.
Investors and brokers now realized, what meteorically goes up can crash to the ground destroying their secure cave and everyone in it. It was no longer a game or an illusion on the wall of the cave. It was real, and the consequences dehumanizing. Actions and results went well beyond the “education” of the markets and informed investors, moral hazards, or even “the greater good.”
And yes, the technologist who was seeking to streamline processes for operational efficiency (i.e., the interconnected images on the cave wall), find these new global dwellers offensive, belligerent, and failing to accept the storied accomplishments once taken as gospel within the cave. Their prior status seems to have little meaning to the global dwellers, who have established themselves and their markets without the dogmatic expertise of the G8 “cave interactions.”
Finally, after a year of debate and blame, in an effort to create a new “virtual” cave, the G8 proposed new guidance for their surroundings. This guidance was designed to ensure their relevancy and standing in the “new world order.” They would “set things right.”
Creating a sweeping series of changes, captured in hundreds of thousands of words and legal language, the G8 sought to create an innovative reality – a “better” reality. It was a new set of standards for all to follow and admire – to ensure that the collapse of the new, virtual cave can never happen, like the “real” cave did.
In an effort to adapt to its new global surroundings, the G8 members lobbied, shouted, projected, and cajoled not only each other, but those new relationships they needed for survival and prosperity. The new world order was now close at hand as the G8 demanded adherence and respect. But, were these “sound laws” enough? Too Much? Or was it all just another illusion – more than business justification and markets demanded – to wield influence and “stake out territories?”
Rebuilding Against the After Shocks
So dawns a new quarter as the G8 lobby for and lament against financial reform and revolution. Nearly three years after their cave collapsed, those original eight who were holistically linked have fractured and polarized. As the pillars burn, for many innocents caught in a financial disruption not of their making, the Four Horsemen have arrived in rumbling droves.
However, from the ashes of illusion, hope arises – and we believe prosperity will be forthcoming, driven by new guidance and innovation. But when? Who will be the beneficiaries?
Contrary to the hope of G8 members, rebuilding does not mean the same or even retro. Very little will be the same, and the time machine is out-of-commission. The old cave light taken for granted as the “Sun” by the G8 is now larger providing illumination for all the global dwellers – not just those within the destroyed bunker. This “New Sun” (rising in the East) is not easily controlled, and it must be harnessed differently if a new ecosystem of co-dependent business models is to be sustained.
However, for those adjusting to the global dwellers and their “strange” relationships, there is a material risk. If they adopt and adapt to new behaviors and methods of business, will they be shunned (or worse) should they return to their original G8 members? Will they recognize their old friends and foes? Will they be cast aside by those who still favor those dogmatic methods, which once led to prosperity – but sowed the seeds of the largest financial seismic disruption in 80 years (but the largest in net losses)?
For the G8, questions remain in the effort for transparency and viability. A cursory few include:
· Consumer: Will their new “cave” be dependent upon old ideals? Will they behave so differently that only “educated” owners will be allowed to participate in the new society?
· Banker: Will their longing for the historical, be the seeds of their slow demise? Have their sunk costs of cave participation become so culturally ingrained that they only are perceived to change when forced?
· GSE: What will their role be after the “period of convenience” ends? Are they the next “public-private” villain as the global dwellers seek a new leader(s)?
· Financier: Where’s the deal, what’s the spread, and how can it be hedged? Is this new world really any different than the old one?
· Investor: What will be recoverable and who was to blame for their loss of stature and capital? We were “mislead,” right?
· Regulator: What are the implications and impacts of action or inaction? Is it a global world or “each cave / clan for themselves?”
· Politician: Am I interfering in the life and property of “my subjects” with “proper justification?” Is it safer to be “feared than loved?”
· Technologist: Do we have the new skills, processes, data, and architectures needed for conformance and compliance? Will the existing become immaterial?
Rebuilding, as Machiavelli wrote in 1513, is a torturous compromise, “Men have imagined republics and principalities that never really existed at all. Yet the way men live is so far removed from the way they ought to live that anyone who abandons what is for what should be pursues his downfall rather than his preservation; for a man who strives after goodness in all his acts is sure to come to ruin, since there are so many men who are not good.“
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So even after nearly 2500 years of allegorical symbolism, it still appears that our parable has not reached its conclusion – not yet. For lurking within the woods and waters surrounding the recently combined global dwellers, including the G8, are bears, bulls, bugs, horses, reptiles, lions, sharks, snakes, and may be an iceberg. The environment has changed, the interactions uncertain, and predators are many. The only axiom still valid is that a new equilibrium has not been achieved.