Why US banks are suffering due to mortgage crisis?

Question

well these banks would have taken collateral from borrowers in return for mortgages. so if a borrower cant repay the loan or defaults, why dont these banks sell the collateral and recover their money and things be normal. Where am i going wrong? Please explain. Thanks

Answer 1

The problem is that mortgage holders are owed more money than the repossessed houses are worth (if they can be sold at all).  Further, banks are not real estate companies; they don't want to be in the real estate business and so do not have the staff to handle lots of repossessed houses.  Banks end up losing even more money just having repo'd houses on the books.

Remember - this mess is largely about "sub-prime" loans.  That is: loans to people that were risky customers to begin with.  They often made little or no downpayment and took on more debt than they could handle in the end.  On top of it, basket loads of these risky mortgages got lumped together and treated as investments (mortgage-backed securities) at which point the investing banks lost visibility on how bad many of the loans were... at least until the loans started defaulting.

Answer 2

If you're talking about the sub prime fiasco, the houses the people bought were the collateral.  I guess the banks thought housing prices were going to keep going up and if people defaulted, the banks would just move in, reposses the house and sell it to get their money back.

The problem was when tons of these came due at around the same time and so amny people defaulted.  So the supply of repossed houses on the market quickly became huge.  Huge supply + low demand forced the prices to drop substancially.

So, to get to your question, the banks took practically no collateral from any sub prime buyers.  We're all paying for the banks' greed.