Sub Prime Crisis

Sub-prime loans ( Housing loans or junk loans) are given to those people whose income is very less or we can say they fall in unstable income group who are not eligible for the loans issued by banks. Sub-prime loans are for those needy people. Although subprime  loans are very risky but it is very profitable.

Bank directly can’t provide loans for people who falls in low credit group. Those people can’t fulfill the bank’s essential requirements. So banks give loans to the big Institutions at certain rate of interest. Those Institutions divide that big amount of loan in smaller amount and give them out to low credit people in the form of home loans at much higher rate of interest than the rate at which they borrowed money from the bank. This higher rate of interest is knows as Sub-Prime rate and this home Loan market is referred as Sub-prime home loan market. A simple man now get a loan, although at higher ROI but its better than no loan.

US government kept the rate of interest low for a long time to encourage low credit population for the sub-prime loans.  Due to low interest rates the subprime loan EMI remain low for long time. Attracting towards the low EMI , people kept on taking big loans to fulfill their dreams. Due to so much interest in making houses , real estate prices goes high. Stock market zoomed. Everything was hoping a great future. But suddenly bolt from the blue comes. 

Its impossible to keep interest rate low for a long time. Government start increasing the ROI (rate of interest) gradually . But its hit the low credit group seviourly. As the ROI increased Institutions also kept on increasing ROI on subprime loans which means EMI ( Equated monthly installments) start increasing. And thus , more and more borrower start defaulting. Also real estate prices starts going down.

When the US Economy begans to slow down ,the crisis began with the bursting of the US housing bubble :- 

• Slowing economy
• Increasing Inflation
• Increase in crude oil price
• High interest rates
• Fluctuating real estate prices

All these factors cause 

• Job losses on big scale
• Defaults
• Stock market falling

and many other.

Due to all these , people unable to pay their EMI. Institutions securitise the loans , thus the risk was at the investors who invest in their stocks. On the other hand , institutions keep on taking loans from banks as they were able to repay the loans before the time.

Institutions spend the loans in securities too so that they will get return much earlier. As people getting defaulting , Institutions were unable to repay the loan amount to banks and start selling the securities. Investors move away from those securities , which furthur dragged the stock market. 

Now to repay the loans and to fix their losses, investors start taking out their money from other markets especially Indian , Japan and other asian markets where they were performing well. This Sensex ( Indian stock market) starts tumbling as selling of FII’s were much more than buying so sensex fall.

This was actually sub prime crisis which mainly hit US,UK and many part of Europe.