Still, lawsuits have alleged that many on Wall Street were fully aware of trouble in the housing market but chose to ignore it in their quest for more profit and higher bonuses. They point to emails deriding securitized mortgages as garbage or worse at investment banks such as Morgan Stanley ( MS), Goldman Sachs ( GS) and Deutsche Bank ( DB). Another hypothesis, that a distorted belief that housing prices would continue to rise, led to terrible choices all around, has also been floated, though it gets a lot less credit. A new paper by Ing-Haw Cheng, Sahil Raina of the University of Michigan, and Wei Xiong of Princeton University, suggests that both poorly designed incentives and overly optimistic beliefs about housing prices among people involved with loan securitization, may have inflated the bubble. Preliminary findings from the report were first published in 2012, and the final results were published on March 12. The researchers analyzed whether mid-level managers who were involved in issuing and investing in mortgage-backed securities - the very heart of the mortgage boom -- were actually aware of the housing bubble. Based on an analysis of the personal home purchase transactions of 400 mortgage securitizers, it looks like they weren't.
The research suggests that these players were caught up in the bubble when making decision about their personal finances. "Our evidence suggests that certain groups of agents - those living in bubblier areas, working on the sell side, or at firms with greater exposure to subprime mortgages - may have been particularly subject to potential sources of belief distortions, such as job environments that foster group think, cognitive dissonance, or other sources of over-optimism. Changing the compensation contracts of Wall Street agents alone, for example through increased restricted stock holdings or more shareholder say on pay, may be insufficient to prevent the next financial market crisis," according to the paper. --Written by Shanthi Bharatwaj in New York >To contact the writer of this article, click here: Shanthi Bharatwaj. >To follow the writer on Twitter, go to http://twitter.com/shavenk. >To submit a news tip, send an email to: firstname.lastname@example.org./script>