Rosen, Richard J. --- "Investor Behaviour in the Period Before the 2007–08 Financial Crisis" [2011] ELECD 486; in LaBrosse, Raymond John; Olivares-Caminal, Rodrigo; Singh, Dalvinder (eds), "Managing Risk in the Financial System" (Edward Elgar Publishing, 2011)

Book Title: Managing Risk in the Financial System

Editor(s): LaBrosse, Raymond John; Olivares-Caminal, Rodrigo; Singh, Dalvinder

Publisher: Edward Elgar Publishing

ISBN (hard cover): 9780857933812

Section: Chapter 1

Section Title: Investor Behaviour in the Period Before the 2007–08 Financial Crisis

Author(s): Rosen, Richard J.

Number of pages: 16

Extract:

1. Investor behaviour in the period
before the 2007­08 financial crisis1
Richard J. Rosen

1.1. INTRODUCTION

The period leading up to the financial crisis that began in 2007 was marked
by a rapidly expanding array of securities, especially what are known as
structured securities. Structured securities, which include bonds issued as
part of the securitization process, often are very complex in structure and
it is difficult to understand the underlying elements. They can be very dif-
ficult to evaluate, even by the financially sophisticated investors that they
are marketed to. This chapter explores why investors may have flocked to
these securities in the pre-crisis period.
In the wake of the financial crisis, the US passed the Emergency
Economic Stabilization Act of 2008. That act gave the Treasury Secretary
the authority, through the Troubled Asset Relief Program, to purchase
troubled assets from banks. The troubled assets that many legislators had
in mind were largely structured products such as mortgage-backed securi-
ties (MBS) backed by subprime mortgages or collateralized debt obliga-
tions (CDO) backed by subprime MBS. Possibly because of the difficulty
of pricing these structured securities, the Treasury turned away from asset
purchases as the primary means of combating the crisis. The complexity
that made valuation difficult during the crisis also was present in the pre-
crisis period, yet structured securities markets had been booming, with
new products and increased volume in the early part of this century.
In many countries, including the US, only financially sophisticated
...