The Process of “Securitization” Was to Reinvent Mortgages and to Convert Mortgages into Bonds

The idea was to reinvent mortgages by bundling thousands of them together as the backing for new and alluring securities that could be sold as alternatives to traditional government and corporate bonds — in short, to convert mortgages into bonds. Once lumped together, the interest payments due on the mortgages could be subdivided into ‘strips’ with different maturities and credit risks. The first issue of this new kind of mortgage-backed security (known as a collateralized mortgage obligation) happened in June 1983. It was the dawn of a new era in American finance.

The process was called securitization and it was an innovation that fundamentally transformed Wall Street, blowing the dust off a previously sleepy bond market and ushering in a new era in which anonymous transactions would count for more than personal relationships. Once again, however, it was the federal government that stood ready to pick up the tab in a crisis. For the majority of mortgages continued to enjoy an implicit guarantee from the government-sponsored trio of Fannie, Freddie or Ginnie, meaning that bonds which used those mortgages as collateral could be represented as virtually government bonds, and hence ‘investment grade.’ Between 1980 and 2007 the volume of such GSE-backed mortgage-backed securities grew from $200 million to $4 trillion. With the advent of private bond insurers, firms like Salomon could also offer to securitize so-called nonconforming loans not eligible for GSE guarantees. By 2007 private pools of capital sufficed to securitize $2 trillion in residential mortgage debt. In 1980 only 10 per cent of the home mortgage market had been securitized; by 2007 it had risen to 56 per cent.

—Niall Ferguson, The Ascent of Money: A Financial History of the World (New York: Penguin Press, 2008), 259-260.