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EARLY 2007:
SPREADING SUBPRIME WORRIES

CONTENTS

Goldman: “Let’s be aggressive distributing things”..............................................
Bear Stearns’s hedge funds: “Looks pretty damn ugly”........................................
Rating agencies: “It can’t be . . . all of a sudden”..................................................
AIG: “Well bigger than we ever planned for” .....................................................

Over the course of , the collapse of the housing bubble and the abrupt shutdown
of subprime lending led to losses for many financial institutions, runs on money mar-
ket funds, tighter credit, and higher interest rates. Unemployment remained rela-
tively steady, hovering just below . until the end of the year, and oil prices rose
dramatically. By the middle of , home prices had declined almost  from their
peak in . Early evidence of the coming storm was the . drop in November
 of the ABX Index—a Dow Jones–like index for credit default swaps on BBB-
tranches of mortgage-backed securities issued in the first half of . 
That drop came after Moody’s and S&P put on negative watch selected tranches in

one deal backed by mortgages from one originator: Fremont Investment & Loan. In
December, the same index fell another  after the mortgage companies Ownit
Mortgage Solutions and Sebring Capital ceased operations. Senior risk officers of the
five largest investment banks told the Securities and Exchange Commission that they
expected to see further subprime lender failures in . “There is a broad recogni-
tion that, with the refinancing and real estate booms over, the business model of
many of the smaller subprime originators is no longer viable,” SEC analysts told Di-
rector Erik Sirri in a January , , memorandum. 
That became more and more evident. In January, Mortgage Lenders Network an-
nounced it had stopped funding mortgages and accepting applications. In February,
New Century reported bigger-than-expected mortgage credit losses and HSBC, the
largest subprime lender in the United States, announced a . billion increase in its
quarterly provision for losses. In March, Fremont stopped originating subprime
loans after receiving a cease and desist order from the Federal Deposit Insurance
Corporation. In April, New Century filed for bankruptcy.
