U.S. Mortgage Mess Explained

Wall Street swooned this past week, as growing turmoil in the U.S. subprime-mortgage sector spread around the world, prompting intervention by central banks.

A foreclosure sign hangs in front of a Miami home.

Problems have been growing all summer. Skyrocketing defaults of subprime mortgages have caused losses for hedge funds and other buyers of securities backed by those mortgages. Lenders have responded by tightening credit, making it more difficult and expensive for businesses to borrow money.

On Thursday, market jitters escalated after French bank BNP Paribas SA said it would freeze some $2.2 billion in three funds because the market for mortgage-backed securities had practically evaporated. That made it impossible for BNP's funds to sell those securities or determine what they were worth.

BNP's move ricocheted around the globe, sending stock markets down in the U.S. on Thursday and Asia and Europe on Friday. The Federal Reserve and other central banks pumped billions of dollars into money markets, in an effort to stabilize interest rates and make borrowing easier.

Here's a closer look:

What's causing the credit crunch? Growing delinquencies in "subprime" loans, those made to borrowers with poor credit, have hit hedge funds and investors. Lenders in the past few years had been packaging these loans into securities and selling them to investors eager for bigger returns. Delinquencies stayed low at first because U.S. home prices were rising at a rapid clip, and borrowers who fell behind on payments were able to simply refinance their mortgages. But that ended as home prices peaked in most markets in 2006, leading more homeowners to fall behind on payments.The sale of securitized loans by Wall Street was intended to distribute risk more broadly. But because the final owner of those securities often had little idea what their investment was worth, or how much risk it carried, investors are now wondering if that securitization might have instead spread a virus by making it too easy for investors to buy complex investments. Last month, Moody's Investors Service downgraded 399 residential mortgage-backed securities, about $5.2 billion of bonds.

Could more Americans feel economic pain? While it already has become much harder for subprime borrowers to get a loan, nervous home-mortgage lenders have also begun raising rates or cutting off credit for other types of loans, including Alt-A loans, a grade between prime and subprime. Standard & Poor's said this past week it would downgrade 207 classes of Alt-A mortgage-backed securities.

Rates have also increased over the past few months on jumbo mortgages, which exceed the $417,000 limit for loans offered by government-backed mortgage houses Freddie Mac and Fannie Mae. That could squeeze middle-class families in cities like San Francisco, New York, and Washington, D.C., where middle-class home prices have risen above $500,000.

Alt-A loans accounted for about 13% of home loans last year and subprime loans accounted for about 20%, according to Inside Mortgage Finance. Jumbo loans account for about 16% of the market.

Will the government get involved? The Federal Reserve issued a statement Friday, saying it would provide liquidity "to facilitate the orderly functioning of financial markets," and injected $38 billion on top of Thursday's $24 billion. This week, the ECB injected €155.85 billion ($213.2 billion) into the market, more than the €109.6 billion it injected in the two days after Sept. 11, 2001.

In Washington, leading Democratic senators have called for Fannie Mae and Freddie Mac, the nation's biggest investors in home loans, to raise caps placed last year on the amount of mortgages that they could hold. President Bush resisted those calls Thursday, calling for the lenders to complete an accounting overhaul first.

Democratic presidential candidates have unveiled proposals in recent weeks addressing the crisis. Front-runner Hillary Clinton said she would ban fees that penalize early loan payments and create a $1 billion fund to help homeowners avoid foreclosure. John Edwards has called for bans on a list of controversial types of loans.

* * *

Facts

• Certain "no-doc" subprime loans didn't require the lender to verify the borrower's income. In extreme cases, lenders offered what was dubbed a "ninja loan" that required no income, no job, and no assets.

• Mortgages date back to the Middle Ages. In French, "mortgage" means "dead pledge," implying that the property was "dead," or forfeited, if a loan wasn't repaid and that the pledge was "dead" once the loan was repaid.

• One sign that risk has returned to financial markets: the CBOE Volatility Index, or VIX, alternatively known as the "fear gauge," reached its highest level in four years.

• Homeownership rates rose to a high of 69.2% in 2004, from an average of 65% through the 1990s, according to government statistics.

• As a share of all mortgage originations, subprime loans nearly doubled to 19% in 2004 from 9% in 2003, according to Inside Mortgage Finance.

* * *

The Next Big Thing after Harry Potter

It looks like Harry needs to make room for Edward and Bella.

In a sign that young book fans may have found something to replace the recently ended Harry Potter series, readers snapped up a hefty 150,000 copies of Stephenie Meyer's "Eclipse," a young-adult novel about a gentlemanly vampire and the girl who loves him, in its first day on sale Tuesday. The book immediately became this week's No. 1 fiction best-seller at Barnes & Noble Inc., knocking the final installment in J.K. Rowling's Harry Potter series, "Harry Potter and the Deathly Hallows," into the No. 2 spot.

Of course, most Harry Potter fans got their copy on July 21, the first day it went on sale, so maintaining its top-selling status wouldn't have been easy. But Ms. Rowling's novel about the young wizard has continued to sell strongly, which makes the sales performance of "Eclipse" that much more striking.

"We were anticipating the book would be very big, but it has exceeded our expectations," says Steve Riggio, chief executive of the nation's largest book retailer. "As booksellers, we're thrilled."

Since the two earlier books in Ms. Meyer's series -- "Twilight" published in 2005 and "New Moon," which came out last year -- have 1.6 million copies in print nationwide, the book's publisher expected "Eclipse" would sell well. While a novel in an established series might sell 5,000 copies on its first day, Lagardère SCA's Little, Brown Books for Young Readers imprint was hopeful "Eclipse" would sell 40,000.

"I've been in this business for 20 years, and I've never seen anything like this," said Megan Tingley, the imprint's publisher.

Unless you're a teenage girl, chances are that you aren't familiar with Ms. Meyer's novels. She hasn't had time yet to build much of a national media profile. Instead she's relied more on the Internet for promotion -- with an active presence on MySpace, the social-networking site popular with teenagers, as well as a personal Web site.

A 33-year-old mother of three who lives in the Phoenix suburbs, Ms. Meyer says she'd never thought of writing a book until she had a dream about a teenage girl and a handsome vampire.

"It sounds so cheesy, but that dream is Chapter 13 in my first novel," says Ms. Meyer. "I saw two characters talking about the fact that they were in love. He was telling her that his problem was that he wanted to kill her because she smelled so tasty."

The next day Ms. Meyer began to write. At the time, her three sons were 1, 2 and 5. She didn't have an outline, she didn't have a plot, and she didn't have an agent. Nor did she tell her husband. But after her sister called to complain that she hadn't heard from Ms. Meyer in weeks, she confessed. "I was ashamed to tell her because it was a vampire story," she says. Later, after she finished, her sister urged her to try to sell it.

Ms. Meyer did what anybody might do in her situation. She looked online for advice. She then sent off a one-page literary query to various literary agencies. To her surprise, Writers House in New York wrote back and asked her for the first three chapters. "They sounded excited, so I was excited," she says.

Jodi Reamer, who now represents Ms. Meyer, said her assistant recommended she read the manuscript, originally titled "Forks." Ms. Reamer suggested they come up with a new title and eventually they agreed on "Twilight." Ms. Reamer then submitted the manuscript to nine editors. Ms. Tingley was the first to reply.

"I know I'm on to something big when I respond to something that is outside my favorite genres," says Ms. Tingley. "I'm not a vampire fan. And I'm not a romance fan either. But this book has vampires, romance and suspense. Also, the heroine is appealing because she's every girl. She's not rich, she's not gorgeous, but she's strong."

Ms. Tingley said that sales of "Eclipse" were so robust that the publishing house, which had announced a first printing of one million copies of "Eclipse," is going back to press for more. She noted that the books don't include sexually provocative material or graphic language, which makes it an easier sell for parents.

"There is a lot of young-adult fiction that is pretty racy, but parents know these books are romantic, not sexual," she says.

Ms. Meyer says that her vampire mythology differs from that of other authors because she has read only one vampire tale, a novel by Anne Rice. "I'm not a vampire fan ..." she says. "I haven't read 'Dracula,' and I don't watch scary movies."

Stephenie Meyer, author of 'Eclipse'

The author, a Mormon, adds that her faith has influenced her work. In particular, she says, her characters tend to think more about where they came from, and where they are going, than might be typical. "Is there nothing if it all stops?" she says. "They worry."

And while some young-adult novels tackle edgier subjects, Ms. Meyer has steered her work away from them. "I don't think teens need to read about gratuitous sex," she says. She does, however, use such words as "damn" or "hell," explaining that "if it's in the Bible I let it go."

Ms. Meyer is becoming a big draw at book signings. On Wednesday evening, 1,000 people turned out to meet her at the Barnes & Noble store in Skokie, Ill., near Chicago. The chain has sold 50,000 copies in two days.

"Eclipse" has also proved popular for independent retailers. Gail Wetta, a staffer at Anderson's Bookshops in Naperville, Ill., another Chicago suburb, said the store sold 1,000 books during an appearance Ms. Meyer made Tuesday evening at Pfeiffer Hall on the campus of North Central College. The store began to promote the event in mid-June. The bookshop served cookie dough, one of Ms. Meyer's favorite treats.

"Her books are well-written, which goes a long way, but they also cross over," says Ms. Wetta, who noted that some fans showed up in costumes inspired by the book. "By that I mean that young girls read them and say, 'Mom, you should read it too,' and when the moms read them, they like them."

The series is also popular overseas. So far, "Twilight" has been sold to 32 foreign countries. The second, "New Moon," has been sold to 20 countries, and "Eclipse" has been sold to 16 countries. In addition to her vampire books, Ms. Meyer has written an adult science-fiction novel, "The Host," that will be published next year by Little, Brown.

Don't expect to see a paperback edition of "Eclipse" anytime soon. David Young, chief executive of Hachette Book Group USA, which runs Little, Brown, said that the publishing house expects "Eclipse" to sell as a hardcover for more than a year.

Think Global, Outsource Local

Wipro Technologies, one of India’s largest outsourcing firms, bought Infocrossing, a U.S.-based infrastructure-management company, earlier today for about $413 million. The deal highlights the way the outsourcing industry is changing: While companies used to be able to make a clear distinction between Indian outsourcing companies and U.S. ones, that line is rapidly burring.

The deal is one of the largest overseas acquisitions ever made by an Indian outsourcing provider. (You can read the Journal’s take on the deal here.) Infocrossing has five datacenters and approximately 900 employees, all in the U.S. The acquisition immediately gives Wipro a strong U.S. presence, Sudip Nandy, Wipro’s chief strategy officer tells the Business Technology Blog. Nandy says that Wipro also intends to “grow organically” in the U.S.

Nandy says that the deal should help Wipro attract customers who aren’t comfortable outsourcing work to foreign countries like India. “We think [the acquisition] helps us address customers’ perception of risk,” Nandy tells this blog. “Now we can offer a range of services from datacenters in the U.S.” Nandy also says that the move is well timed since opposition to offshore outsourcing usually picks up around elections, as politicians try to win votes by speaking out against the practice – and the 2008 presidential campaign looks like no exception.

The acquisition also illustrates the way the outsourcing market is evolving. A few years ago, companies had an easy-to-understand choice when it came to outsourcing a technology project: Send it overseas to a low-priced Indian company, or keep it in the U.S. by giving the project to a company like IBM or Accenture. But the big American companies have grasped the benefits of doing work in low cost countries; Accenture now has more employees in India than in does in the U.S., and IBM has grown its Indian operations by a factor of ten over the last five years. And now that Indian companies are coming to the U.S., the line just got even blurrier.

In other words, finding an outsourcing provider is no longer an issue of choosing an Indian company or an American one. They can all do the work anywhere. It’s about choosing the right company and the right location for your business.

The Fed and the Credit Boom: Greenspan, Others Reflect

Will the problems in the credit markets affect the broader economy? Former Federal Reserve Chairman Alan Greenspan suspects so. “There’s some evidence it’s beginning to affect present consumption expenditures, such as two months of softer motor vehicle sales,” he says in an interview.

Yet Mr. Greenspan doesn’t agree, as some critics do, that the Fed’s decision to keep interest rates low under his leadership earlier this decade was the main driver of the borrowing boom that preceded the current turmoil. Mr. Greenspan moreover suggests the policy must be evaluated against the environment and risks the Fed faced at the time, and that the innovations that fueled the boom are a net positive.

Greenspan

In 2003, inflation had fallen close to 1%, and the economy was operating well below capacity, creating the risk of inflation going into negative territory, that is deflation. Mr. Greenspan had once believed deflation was impossible with a paper currency, since the Fed, unconstrained by the gold standard, could simply print money until it created inflation. But Japan’s experience with deflation and economic stagnation in the 1990s had demonstrated otherwise, and impressed upon him the importance of avoiding that experience. Mr. Greenspan saw the choice as one of “risk management”: accepting some manageable risks now, such as higher inflation down the road (which seemed unlikely given the slack in the economy) in return for eliminating even the smaller possibility of far worse, potentially unmanageable deflation.

Mr. Greenspan explains: “We decided that in 2003 that though we judged the probability of severe deflation as small, were it to happen, its consequences were seen as devastating. So we chose to take out insurance against them, fully recognizing at the time that we were taking risks in the process. But central banks cannot avoid taking risks. Such tradeoffs are an integral part of policy. We were always confronted with choices.”

Some at the Fed argue its policy can’t explain the greater part of the housing and borrowing boom, which took place in 2005 and 2006 — after the Fed had moved short-term rates up considerably.

Mr. Greenspan agrees: “We tried in 2004 to move long term rates higher in order to get mortgage interest rates up and take some of the fizz out of the housing market. But we failed. We were overwhelmed by excess global savings that continued to press real long term rates lower.”

Mr. Greenspan believes that in spite of the current turmoil, the U.S. is better off for having had the expansion of credit markets, alternative investment vehicles and derivatives.

“History tells us it’s far better to have people periodically going to excess with its adverse consequences than to try to block it off in the beginning. These adverse periods are very painful but they’re inevitable if we choose to maintain a system in which people are free to take risks, a necessary condition for maximum sustainable economic growth. We have learned to move risk from the leveraged institutions which are the major lenders in this country to those far more capable of absorbing loss. It’s why our economy in recent years has developed the flexibility to absorb severe adjustments.”

Gramlich

Some former colleagues broadly agree, but acknowledge they could have done some things differently. Alfred Broaddus, president of the Federal Reserve Bank of Richmond from 1993 to 2004, backed the low rate policy, and says: “My main concern was to get past a situation where [the U.S.] would get into incipient deflation that might be very difficult to break, given the absence of a very clear Fed strategy to deal with it at the time. Even in retrospect we needed to address it and address it decisively. It may be that a side effect of those actions [is] that over the longer period, we helped to create excessive liquidity, possibly leading to some of the problems we have today. It may be in retrospect we should have begun to reverse that easing somewhat sooner… I would add, there were other things [contributing]. There was a lot of liquidity being generated across other channels across the world economy.”

As governor of the Federal Reserve from 1997 to 2004, Edward Gramlich spent a lot of time on consumer protection issues. He focused heavily on predatory lending but not, he now regrets, the expansion of risky mortgage products such as 2/28s (which offered a low starter rate for two years before adjusting higher for 28).

Mr. Gramlich backed all of Mr. Greenspan’s interest-rate decisions at the time, except once in late 2002 when he voted to cut rates sooner than Mr. Greenspan was prepared to do. He says he wouldn’t change any of those votes but wishes supervision of all mortgage lenders, not just the banks, had been stronger. The ability to “borrow money for 1%, made it very easy for the lenders to give these products [such as 2/28s] that would be absolutely misunderstood by borrowers. If we had had better supervision, that wouldn’t have happened. You could make the lender evaluate the loan, according to what is known as the fully indexed rate, but we didn’t have that. And we had sort of a wild west out there.” Supervision, he says, has to be improved before the next period of low rates occurs.

Enterprise Resource Planning

The software attempts to integrate all departments and functions across a company onto a single computer system that can serve all those departments’ particular needs.

Building a single software program that serves the needs of people in finance as well as it does the people in human resources and in the warehouse is a tall order. Each of those departments typically has its own computer system optimized for the particular ways that the department does its work. But ERP combines them all together into a single, integrated software program that runs off a single database so that the various departments can more easily share information and communicate with each other.

That integrated approach can have a tremendous payback if companies install the software correctly.

Take a customer order, for example. Typically, when a customer places an order, that order begins a mostly paper-based journey from inbox to inbox throughout the company, often being keyed and rekeyed into different departments’ computer systems along the way. All that lounging around in inbox causes delays and lost orders, and all the keying into different computer systems invites errors. Meanwhile, no one in the company truly knows what the status of the order is at any given point because there is no way for the finance department, for example, to get into the warehouse’s computer system to see whether the item has been shipped. "You’ll have to call the warehouse" is the familiar refrain heard by frustrated customers.

ERP vanquishes the old standalone computer systems in finance, HR, manufacturing and the warehouse, and replaces them with a single unified software program divided into software modules that roughly approximate the old standalone systems. Finance, manufacturing and the warehouse all still get their own software, except now the software is linked together so that someone in finance can look into the warehouse software to see if an order has been shipped.

How can ERP improve a company's business performance?

ERP’s best hope for demonstrating value is by improving the way your company takes a customer order and processes that into an invoice and revenue—otherwise known as the order fulfillment process. That is why ERP is often referred to as back-office software. It doesn’t handle the up-front selling process (although most ERP vendors have recently developed CRM software to do this); rather, ERP takes a customer order and provides a software road map for automating the different steps along the path to fulfilling the order. When a customer service representative enters a customer order into an ERP system, he has all the information necessary to complete the order (the customer’s credit rating and order history from the finance module, the company’s inventory levels from the warehouse module and the shipping dock’s trucking schedule from the logistics module, for example).

People in these different departments all see the same information and can update it. When one department finishes with the order it is automatically routed via the ERP system to the next department. To find out where the order is at any point, you need only log in to the ERP system to track it down. With luck, the order process moves like a bolt of lightning through the organization, and customers get their orders faster and with fewer errors than before. ERP can apply that same magic to the other major business processes, such as employee benefits or financial reporting.

Glocalization

One of the biggest implications of globalization for companies seeking to expand to foreign shores is the task of balancing standardization with customization. From a branding perspective, this issue assumes even more significance. When some of the world's biggest brands expand beyond their home markets, they are tempted to repeat their tried and tested formula in the new market as well. In fact this has been the path followed by many brands. The assumption in such a case is that customers would be too eager to consume the great brand because of its authenticity, heritage and associations. But this tendency is gradually changing as global companies are learning about the unique needs of the customers in different market along with the pressures of lifestyle, economic and cultural conditions.

A case in point is the success of global brands in the Indian market. One of the booming economies in Asia, India offers tremendous opportunities to global companies. A brief look at the Indian landscape would prove why - an estimated 1.2 million affluent households that is expanding at 20% a year, 40 million middle income households (earnings of US$20,000 to US$45,000 adjusted for PPP) growing at 10% a year, more than 110 million households with earnings of US$7,500 to US$20,000 (adjusted for PPP) and more than 70% of the population below the age of 36. It is no wonder then, that global brands are making a bee line to the Indian market to grab a share of the growing pie.

This alluring face of the Indian business landscape has another facet to it and that is the presence of highly discerning and demanding customers. In spite of the booming economy and the increasing disposable income, Indian consumers are very cautious and clear in their priorities. Consumers are still not ready to splurge on branded goods at premium prices. Added to this is a growing number of Indian brands that offer superior quality at affordable prices. In such a scenario, global brands can win only if they attune themselves to the local conditions.

Unilever is a classic example of a global brand which has pioneered serving the locals with products that address the local sensitivities. Unilever's Indian subsidiary Hindustan Level Limited (HLL) has been the leader in recognizing the tremendous opportunity lying at the bottom of the pyramid - customer base that aspires to consume products but in smaller quantities and at lesser prices. HLL literally invented the shampoo sachets - small plastic packets of shampoo for as less as INR 1 (USD0.022). This became such a rage among the rural consumers that many other brands started offering products such as detergent, coffee and tea powder, coconut oil and tooth paste in sachets. Even though the unit price was higher, rural consumers were able to afford to purchase the smaller quantity at their convenience.

Another example is of global mobile brand Nokia. Nokia also recognized the growing importance of rural customers in the Indian mobile telephone market which grew from a mere 300,000 subscribers in 1996 to a whopping 55 million subscribers in 2004. Nokia introduced its dust-resistant keypad, antislip grip and an inbuilt flash light. These features, albeit small, appealed to a specific target of truck drivers initially and then to a broader segment of rural consumers. These features endeared Nokia to the Indian consumer as Nokia displayed a genuine commitment in responding to local customer needs.

These examples clearly endorse the glocalization route to winning customers in diverse markets. Glocalization - maintaining the brand logo, the key message and the underlying philosophy and localizing the brand elements to offer customers an authentic local feel - is increasingly becoming the preferred business model for global brands. By extending the unique brand experience through customized channels and offerings, global brands seem to have found a middle path where they can maintain the global brand aura and still appeal to the customers in the authentic local way!

Euronext activities

Introduction

Euronext is the first genuinely cross-border exchange. It provides international services for regulated Cash Markets and Derivative Markets in Belgium, France, the Uk (derivatives), the Netherlands and Portugal. Since its creation in 2000, Euronext has been working towards the consolidation of financial markets by integrating local markets across Europe to provide users with a single market that is broad, highly liquid and extremely cost-effective. After the initial three-way merger of the local exchanges of Amsterdam, Brussels and Paris, Euronext acquired the London-based Derivative Market LIFFE, and merged with the Portuguese exchange in 2002. The implementation of Euronext’s horizontal market model, designed to generate synergies by incorporating the individual strengths and assets of each local market, has proved that the most successful way to merge European exchanges is to apply global vision at a local level. This unique business model has been implemented on all of Euronext’s markets and covers technological integration, the reorganisation of activities into cross-border, streamlined SBUs, and the harmonisation of market rules and the regulatory framework. IT integration was completed in 2004, when a four-year migration plan resulted in harmonised IT platforms for cash trading (NSC), derivatives (LIFFE CONNECT®) and clearing. As a result, every market participant now has a single point of access to trading. Another step forward in the rationalisation of Euronext’s IT structure was made in 2005 with the creation of Atos Euronext Market Solutions, an IT services-related joint-vehicle between Euronext and Atos Origin that is a leading global provider of technology services to the capital markets (see www.aems.net). During the completion of the first phase of its market consolidation and IT integration, Euronext also diversified its sources of revenues, thus gaining protection against fluctuations in the financial markets. In 2004, it reinforced its stake in GL TRADE, the world’s leading provider of front to back-office trading, clearing and settlement solutions (see www.gltrade.com). In 2005, it acquired, in partnership with Borsa Italiana, a major stake in MTS, the leading electronic market for European wholesale fixed income securities (see www.mtsgroup.org). By investing in complementary businesses such as these, Euronext has been able to broaden the range of services it offers to its customers. Euronext provides its customers with a comprehensive range of integrated services to meet their needs on the financial markets. These customers are: members and financial institutions that have direct access to trading on its markets; companies whose securities are listed on its markets, enabling them to raise capital; institutional and retail investors who trade on Euronext’s markets; other organisations that use Euronext’s technologies and services; and users of financial information. Euronext’s services range from facilitating public offerings and providing trading facilities for cash and derivative products to supplying market data. It benefits from clearing services provided by LCH.Clearnet, and Settlement and Custody services provided by local CSDs and through its partnership with Euroclear. In addition to its trading-related businesses, the Group also sells software and IT solutions through Atos Euronext Market Solutions and its subsidiary GL TRADE

EURONEXT’S NETWORK