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Risk On! Greed Is Back and That's Not Good

Nonetheless, investors keep piling in -- stock funds had record inflows in 2013. Tech valuation multiples are starting to get frothy once again, and tech M&A activity is at levels not seen since the dot-com bubble.

Perhaps the most troubling "risk on" sign is the reemergence of, and strong demand for, the types of "financial innovations" that helped precipitate the last crisis. Subprime mortgages are starting to make a comeback and banks are loosening credit standards. Securitization is no longer a dirty word, and novel asset-backed securities are coming to market again. SolarCity (SCTY) recently obtained an investment-grade rating for a security backed by a portfolio of "distributed solar energy assets."

Even residential mortgage-backed securities, the "toxic" securities that bundled thousands of questionable mortgages together and magically made the sum less risky than its parts, are attracting investor demand once again.

A private equity funded firm (Invitation Homes) issued "rental mortgage backed securities" backed by a residential property portfolio of 3,207 rental homes and the income they produce. Surprisingly, in November, investors were willing to accept less underlying collateral, relative to the amount borrowed, than for normal RMBS despite having a lower interest coverage ratio than would be expected for a traditional apartment complex (according to Bloomberg). It was "a total blowout success" that is "spurring others to market."

Given Buffett's advice and the prevailing bullish sentiment, fear may be the appropriate response.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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