As I mentioned in my review of the book, I no longer believe that Bernie Madoff, at $65 billion dollars, had the biggest Ponzi scheme ever. Rather, it was Wall Street, running a scheme of hundreds of billions, if not over a trillion dollars in mortgage bonds.

Why do I believe this is the case? Let me explain.

Ponzi scheme is a fraud or scam by which investors are paid their returns from money coming from new investors. And in a round about way, this is how the mortgage bonds worked as well. Investors were more than happy to purchase bonds. This made lots of money available. This money was handed out to mortgage holders so that they could purchase houses and their interest payments went back to the mortgage bond holders. So far, so good, and this is the way the system is supposed to work.

What makes it a Ponzi scheme? Because of the excessive funds available to mortgage holders from investors purchasing bonds, house prices went up. Mortgage holders were able to take out larger mortgages, second mortgages (silent seconds, at least to whomever held the first mortgage), home equity loans and lines of credit (HELs and HELOCs). Many mortgage holders used their existing home equity to obtain loans that were used to help pay off existing loans. As such, money from new investors, the second line of bond holders, was used to pay the interest, that is, the investment returns, to the first set of investors.

As with most Ponzi schemes, this scam could only continue to work as long as there were new investors. New investors would continue to buy new mortgage bonds as long as housing prices were increasing, so that people could continue to re-mortgage or find other ways to borrow against their home equity. Once housing prices dropped, or even just levelled off, the entire house of cards collapsed.

So that’s the deal from my perspective. If you have any questions, please let me know.

Peter Scholtens

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