How Wall Street Made the Financial Crisis Worse

| Mon Jan. 9, 2012 11:59 PM EST

Why did all those CDOs issued by Wall Street investment banks between 2005 and 2007 do so poorly? Because the underlying mortgage bonds that went into them were crap. No surprise there. It was the height of the housing bubble, after all, and mortgage bonds backed by lots of crappy mortgages are bound to perform pretty badly.

But did they do especially badly? That is, did banks deliberately put their worst, most toxic bonds into their CDOs, knowing they'd fail but not caring because at least it got them off their books? According to a newly released study, apparently so:



The research provides strong support for the idea that banks — with the help of pliant ratings agencies — put together the CDOs and sold them to investors in a premeditated effort to get rid of some of their most toxic assets, or to provide vehicles for clients who wanted to bet against the worst possible assets. As the authors put it: "It would have been very hard to randomly choose securities with such poor ex-post performance."

Nearly all mortgage bonds issued between 2005 and 2007 have done badly. But if this study holds up, it's plain that Wall Street banks deliberately set out to create cleverly-constructed CDOs out of the worst of the worst, not caring that their clients would lose their shirts in the process. That isn't what caused the financial crash of 2008, but it sure helped make it worse.
