I agree completely about bailouts, they are ridiculous. Bear should be allowed to fail. That will teach the IB's to do a better job next time.
But I disagree with you that IB's didn't do their due diligence. Measuring the quality of individual mortgages isn't their job. The IB's job here is to build securities out of individual mortgages, given accurate knowledge of the mortgages from the ratings agencies and local banks.
It's a lot like trading commodities. A market maker in commodities doesn't need to know what a grade A cow looks like or how a cattle auction works. His job is to trust the cow raters to do their job while he packages sets of cows into financial futures. If a rancher is colluding with a cattle appraiser to pretend that 1000 mad cows are Grade A beef, it's not the fault of commodities traders (although commodities traders will be hurt).
The flaw with the mortgage market was not happening on the IB's end. The individual mortgages were not of the quality the local banks promised for various reasons you've outlined. They were then packaged into securities which were suitable only for higher quality loans. Those securities are failing now, and the market has become a lemon market (which killed liquidity) and caused all sorts of other problems.
Investment banks: "Given loans of known quality, we can package them into bond-like securities."
Local banks: "Pray, Mr. Investment Banker. If you put into the package loans of the wrong quality, will the right security come out?"
The investment banks didn't have to evaluate all mortgages: they should have been _sampling_ those mortgages and evaluating the firms that supplied them with mortgages however. The wise firm that did would have anticipated problems well in advance.
And it was the IBs' responsibility when they retranched high-risk CMO's into 2nd-tier CMOs and then got those CMOs certified by the bond firms as good as gold. That was criminal, in fact, and charges should be filed against the IBs and the bond rating firms as appropriate.
I don't feel like the fed is bailing out Bear so that I can continue, its just giving hope to all the stuff it owns and more importantly, to those it owes. If bear gets bought by JPMorgan, Bear is still screwed. They are gone for all intents and purposes, just their investments and debts live on, which IMHO, is a good thing. I feel that the i-bankers already feel like idiots and will have learned their lesson just in this whole mess, whether or not their company tanks.
But I disagree with you that IB's didn't do their due diligence. Measuring the quality of individual mortgages isn't their job. The IB's job here is to build securities out of individual mortgages, given accurate knowledge of the mortgages from the ratings agencies and local banks.
It's a lot like trading commodities. A market maker in commodities doesn't need to know what a grade A cow looks like or how a cattle auction works. His job is to trust the cow raters to do their job while he packages sets of cows into financial futures. If a rancher is colluding with a cattle appraiser to pretend that 1000 mad cows are Grade A beef, it's not the fault of commodities traders (although commodities traders will be hurt).
The flaw with the mortgage market was not happening on the IB's end. The individual mortgages were not of the quality the local banks promised for various reasons you've outlined. They were then packaged into securities which were suitable only for higher quality loans. Those securities are failing now, and the market has become a lemon market (which killed liquidity) and caused all sorts of other problems.
Investment banks: "Given loans of known quality, we can package them into bond-like securities."
Local banks: "Pray, Mr. Investment Banker. If you put into the package loans of the wrong quality, will the right security come out?"
(With apologies to charles babbage)