mortgage crisis

By the Time You Read This: Why the Mortgage Crisis Dwarfs Almost Everything

Richard Eskow — Thu, 31 Mar 2011 01:52:29 -0400

The mortgage crisis in this country doesn't get much attention in Washington these days, but it's huge. It's so huge, in fact, that it dwarfs most of the economic issues that have Washington in their grip. It's so huge that it's dragging down our entire economy. It's so huge that the numbers can be difficult to picture.

The scale of the crisis is, in a word, staggering.

Here are seven charts (and another that was borrowed from the Wall Street Journal) along with some facts and figures that will help sketch out the scope of the problem. The numbers that follow are most likely understated, if anything, because we've left out some forms of reduced spending (like that which takes place when homeowners who have paid off their mortgages lose home value.)

The budget cutters push the idea that there's a dichotomy between the heart and the brain, and that they're on the "brain" side. But the numbers don't lie: Ignoring the foreclosure crisis is both heartless and brainless.

See for yourself.

By the time you read this ...

How big is the mortgage crisis? Pick an adjective: astronomic, colossal, enormous, gigantic, ginormous, humongous, jumbo, mammoth, massive, monstrous, mastadonic, monumental, prodigious, tremendous, vast, very big, very large, whopping. Here's how big it is. Let's assume that you're reading these words one day after I wrote them. That means that:

By the time you read this, there will have been approximately 8,500 foreclosure actions in this country [1] - more than one thousand every hour during the working day.

By the time you read this, homes in the United States will have lost more than $13 million dollars in value. [2] During a 24-hour day, this figure comes out to more than $500,000 an hour.

By the time you read this, homeowners will have paid $750 million in mortgage payments for non-existent housing value- that is, the amount on their mortgages that disappeared when the bubble burst - according to our estimate. [3]

By the time you read this, the nation's bankers will have earned nearly $400 million, of which $56 million will be bonus money. [4] Bankers like to say they work 24/7. (They don't, but let's say they did.) That means they will have collectively earned more than $16 million in salary and more than $2 million in bonuses during each and every one of the 24 hours hours before you read these words - morning, noon, and night.

And all of these figures for the last 24 hours will be reached again during the next 24.

Federal Spending vs. the Mortgage Crisis

How do the deficit and the mortgage crisis compare economically?

Here's a fact for you: The amount of wealth American homeowners have lost over the least three years is much larger than this year's entire Federal budget.

Even our conservative estimate shows that the debt that homeowners are paying off to the banks for no-longer-existing home value - "money for nothing" - is greater than the entire projected Federal deficit for 2011.

[5]

Those figures could be a little misleading, since they compare a multi-year problem with a single year's Federal budget. So let's look at the mortgage crisis and its impact on 2011. This year's estimated "money for nothing" payments dwarf the annual spending cuts that Washington's fighting over right now:

They're greater than this year's projected savings from the President's spending freeze, and much greater than the $30 billion in additional spending cuts which House Republicans initially demanded (and which they're likely to get.)

What is the "Homeowner Bank Bailout"?

The first column represents my quite rough (but very conservative) estimate of the payments that consumers will make to banks in 2011 for home value that's evaporated. That's money to repay loans which banks often knew were likely to go bad when they issued. (If they didn't know, they should have.) After their generous bailout (which was must costlier than has been acknowledged), the banks are still collecting payments for that portion of the loan that covers assets which no longer "exist."

That amounts to an additional, invisible annual bailout every year for the US banking industry, funded by some of the people who can least afford it: struggling homeowners. [6] (This figure doesn't even include people who've been foreclosed upon, which means the bank got to keep everything they'd paid into the house - and got the house, too.)

The "homeowner deficit" is strangling the country as the financial sector drains money from the overall economy for its own non-productive coffers. This chart illustrates that by showing that banks are once again grabbing an unhealthy share of our national wealth:

Source: Kathleen Madigan, Wall Street Journal

Without this drain, homeowners would be pumping hundreds of billions of dollars into the economy every year. Now that would be a stimulus.

Entitlement Cuts: Misguided Missiles

Instead of addressing the mortgage crisis, politicians (and the journalists who love them) are fixated on entitlement programs. How much sense does that make in dollars-and-cents terms?

The Best Stimulus: Homeowners or Corporations?

What's the best way to stimulate the economy: By giving corporations tax breaks and regulatory relief, or by fixing the housing crisis? Both political parties are turning themselves inside out trying to please corporations - partly, they say, because reports say those corporations are sitting on nearly $2 trillion in cash. If we make the CEO's of those corporations "feel better," the argument goes, they'll cut some of that cash loose for hiring and investment and the economy will pick up.

Let's look at that $2 trillion in comparison to lost housing value, and to our estimate of the mortgages being paid on lost housing value:

Those corporations won't really cut that cash loose until they know there are customers waiting to buy their products. There's a great way to make that happen: by helping consumers (more than 20 million households altogether) escape the burden of all this underwater debt.

Less Is Less

The Administration's response to this crisis has been woefully inadequate ... and the Republicans are much worse than that. The GOP's hard at work trying to end any assistance for underwater homeowners.

Administration programs were insufficient by design and then failed to meet even their own, overly modest goals. The HAMP program, for example, was never intended to help all of the homeowners who are still paying underwater mortgages. It should have been. Here's how limited its goals were, when compared to the problem:

But even when compared to the number of homeowners facing foreclosure, it's been a failure:

It hasn't even spent more than a tiny fraction the money allocated to it!

And yet, incredibly, Republicans want to cut it. And the GOP's Congressional leaders also want to kill several other programs for struggling homeowners, including a principal relief program that might help some of the 14 million underwater homeowners who haven't yet missed a payment.

Source: New York Times

Small Talk

Despite the magnitude of the mortgage crisis, all we've been hearing out of Washington is endless chatter about "deficit emergencies," the need for so-called "entitlement reform" (aka cuts), and the supposed "financial Armageddon" that faces us. [7] We've heard almost nothing about the crisis that is ruining millions of lives, costing us millions of jobs, and strangling the economy.

And by the time you read this, that won't have changed.

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FOOTNOTES:

[1] Based on February's rate of foreclosures, rounded down to be make the estimate conservative. Foreclosure actions are defined as foreclosure filings and the sale of foreclosed homes.

[2] Based on January's price decline of 2.5% in total value, divided by a 30-day month, using an estimated total residential real estate value of $16.3 trillion that was derived from Federal Reserve data.

[3] A very rough estimate. Assumes that roughly half of the total housing value lost in the bubble is included in mortgage principal that's still being paid off (as opposed to foreclosures, etc.) This figure was derived from that amount, plus a rough calculation of the interest being paid and some assumptions about the remaining lifetime of the loan.

[4] Based on reported 2010 figures.

[5] It's a critical battle, of course - especially to the people who are counting on the government to serve its function in time of need. This piece addresses our warped financial perspective, not the very vital role government plays in our lives. That should not be in question (although it is).

[6] But wait, as the ads say: There's more. These homeowners can't refinance, either, because they don't have collateral (the houses aren't worth as much as the new loan). Alll the "quantitative easing" in the world won't touch them. So the banks are borrowing money cheaply and collecting it from these struggling borrowers at higher rates. [6]

[7] Nobody disagrees that it will be important to address the the Federal deficit over the long term, and Social Security's funding issues will need to be addressed before 2037, when the program will only be able to fund 75% of its planned benefits. (Any plan that cuts those benefits below that amount, or cuts them by that amount even before 2037, is a hoax designed to raid the money that working Americans set aside for that program.)

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This post was produced as part of the Curbing Wall Street project and the Strengthen Social Security campaign.

Quietly Ticking Time Bomb in Fed Data

Mary Bottari — Fri, 10 Dec 2010 13:00:00 -0500

Last week, the Federal Reserve was finally forced by law to release some (not all) of the details of its back-door bailout of the global financial system. The Fed data focuses on the emergency lending programs initiated in 2007/2008, but it also includes data for the Fed’s more recent purchases of mortgage-backed securities (MBS). These later purchases represent the real risk for taxpayers in the Fed’s continuing bailout activities, but have received the least coverage in the mainstream press.

Federal Reserve Efforts Dwarf TARP

The Fed data supports our long-held contention that the Congressionally-approved and much despised $700 billion Troubled Asset Relief Program (TARP) was only a small fraction of the total bailout. By our count, and as we illustrate below below, TARP funds were a mere seven percent of total funds disbursed by federal government to aid the financial sector since 2007. Why does this matter? Because the more we focus on the much-despised TARP, the less we see the invisible hand of the Fed doing the heavy lifting.

Mortgage-Backed Insecurities?

As our next graph shows, the second phase of the bailout is all about housing. The Fed and the U.S. Treasury Department have struggled mightily to keep the housing and mortgage markets from melting down by pumping $300 billion in direct loans into Fannie and Freddie and collectively buying up $1.6 trillion in mortgage-backed securities (MBS) guaranteed by Fannie and Freddie. While Fed emergency loan programs have largely been wound down, these MBS purchases are still on the books.

These MBS purchases represent the most significant intervention in the housing sector in history, yet have not been subject to the scrutiny or oversight to which the TARP has been subject. Why is this a problem? Recent developments suggest these funds could be at risk.

If you read the headlines, you know that banks stand accused of robo-signing mortgages, shredding original mortgages, failing to notarize properly and otherwise breaking or bending the law to feed the Wall Street securitization machine. These problems are only coming to light now because the same banks are rushing to throw Americans out of their homes. As some homeowners fight back in court, more illegal practices are uncovered.

In addition to outright fraud, numerous state Supreme Courts have questioned the legality] of the Mortgage Electronic Registration or "MERS" system. MERS is the mortgage holder of record for 60 percent of U.S. mortgages, yet its legal standing to foreclose on American homeowners is in doubt and its shoddy processing of the promissory notes for millions of mortgages has ramifications for the securitization process as well.

In short, by screwing up the mortgage registration and transfer system, the big banks may have also screwed up the securitization process under New York trust law, casting doubt on the legality of an untold number of foreclosures and potentially trillions of dollars worth of MBS -- some of them held by U.S. taxpayers via the Fed, Treasury, Fannie Mae and Freddie Mac.

Hot Potato Actions Proliferate

This may explain why many private investors, and the Fed itself, are trying to force the big banks to buy back the troubled securities. Recently, the New York Fed requested that Bank of America take back $47 billion of mortgage securities, alleging that the bank didn’t properly “service” the mortgages. Fannie and Freddie are starting to push the banks to take back $13 billion of MBS and these are early days. “Put-back” lawsuits are in the works from investors across the nation and this entire house of cards may come tumbling down.

Not surprisingly the big banks are balking at taking back flawed securities. Acting like they are above the law, Bank of America and J.P. Morgan Chase, are refusing to buy back flawed securities from Fannie and Freddie. At the same time, they are refusing to modify mortgages for the very taxpayers who bailed them out during the crisis to the tune of $931 billion for Bank of America and $161 billion for J.P. Morgan Fed documents reveal.

Only very recently have some regulators cautiously conceded that the mortgage mess poses "systemic risk" to the economy. But the only government report on the risks these securities pose was issued by the feisty Congressional Oversight Panel for the TARP. The report warns “it is possible that ‘robo-signing’ may have concealed deeper problems in the mortgage market that could potentially threaten financial stability.”

Time to "Stress Test" the Fed?

The big banks themselves may have trillions of dollars worth of questionable securities on their books. Now we learn that the federal government does as well. While Fed Chair Ben Bernanke will be "stress testing" the banks for their exposure to faulty MBS, he has indicated that he won't make this information public. What does Bernanke have to hide? The sky did not fall when this information was released in the past, nor did it when the Fed data was released last week.

It's time to stress test the Fed. Should the MBS issue blow up in the courts, U.S. taxpayers could be on the hook for billions, dwarfing the cost of the bailout thus-far.

In the build-up to the 2008 meltdown, the Fed looked the other way as the big banks sold predatory and abusive mortgages to millions of American families. The result? A historic financial crisis and untold misery. Now the Fed is AWOL as the same banks abusively foreclose on millions using faulty documentation and illegal practices. Once again, the devil is in the details, and these details may hold the key to the next crisis. Congress needs to step up and put Bernanke on the stand to tell us exactly what he plans to do if trillions of dollars worth of mortgage-backed securities detonate.

Jamie Dimon of [[J.P. Morgan Chase]] assures us that we will undergo financial crises every five to seven years. With Dimon and Bernanke's help, we may be ahead of schedule.

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LEARN MORE ABOUT FORECLOSURE FRAUD AND FAULTY MBS: Credit Slips blog and Naked Capitalism blog.

GAO: Bank Regulators Not Even Looking At Foreclosure Practices

Zach Carter — Tue, 30 Nov 2010 15:13:00 -0500

A rather nauseating statement from a Government Accountability Office report on foreclosures:

Because they generally focus on the areas with greatest risk to the institutions they supervise, federal banking regulators had not generally examined servicers’ foreclosure practices, such as whether foreclosures are completed; however, given the ongoing mortgage crisis, they have recently placed greater emphasis on these areas.

You read that right. Bank regulators in the United States were not even looking at foreclosure practices before the media latched onto the foreclosure fraud outbreak. The Office of the Comptroller of the Currency and the Federal Reserve acknowledged this in hearings two weeks ago, but it's still harrowing to see the degree to which mortgage banking remains totally free of oversight, even after it drove the global economy off a cliff.

The rest of the report is about banks abandoning properties instead of proceeding with a foreclosure sale. Kind of sick-- throw a family out, then just abandon the house altogether, don't even bother to sell it. The GAO says it's not happening too much, but any sane businessperson would make sure that it never happens. A simple loan modification would cut everybody's losses here, but the banks can't be bothered with that. And nobody is bothering the banks about it.

You may recall that there was a tremendous legislative battle earlier this year over the creation of a new Consumer Financial Protection Agency. The bank lobby and regulators at the Fed, the OCC and yes, even the FDIC, all argued that we didn't need it, while essentially everybody else said we did. But the existing regulatory chiefs all made essentially the same argument against the CFPA: We have several regulators who oversee consumer protection, and they're all just great at it. Creating a new agency that focused only on consumer protection would be end up destabilizing the financial system, because regulating consumer protection without looking at bank safety and soundness would jeopardize bank capital levels.

This argument was absurd at the time, most obviously because the existing regulators were simply awful. They totally failed to restrain predatory mortgage lending for nearly a full decade precisely because they considered "safety and soundess" regulation to be their only job. Safety and soundness was construed as "bank profitability"—if a bank had lots of money, it was less likely to fail. In practice, that meant regulators would allow consumer protection violations so long as they made money for the bank. With the mortgage crisis, this consumer protection failure ultimately lead to a safety and soundness catastrophe, but that's not actually very common. Usually predatory lending is very profitable, which is why banks do it.

So what happened after all the top regulators went out in public and repeatedly screamed that we absolutely can't allow them to lose their consumer protection authority? They totally ignored consumer protection regulation. Look at the excuse that bank regulators fed to the GAO (emphasis mine):

Because they generally focus on the areas with greatest risk to the institutions they supervise, federal banking regulators had not generally examined servicers’ foreclosure practices.

Translation: Even after consumer protection violations wrecked the largest banks in the country, we still don't look at consumer protection unless it actually hurts a bank's bottom line, right away, right now.

The amazing thing here is that the legal liabilities from these foreclosure abuses once again could be putting bank solvency on the line. Global economy to Elizabeth Warren: Help!

Also, the link above is to a summary of the GAO report. The full report is here.

The Fed's New Foreclosure Predator Bailout

Zach Carter — Tue, 16 Nov 2010 11:50:15 -0500

Despite escalating outrage over rampant foreclosure fraud, the Federal Reserve now appears ready to eviscerate a key mortgage regulation in an effort to spare banks the losses from their own wrongdoing. Even as bank executives preposterously claim to have wronged nobody in the foreclosure process, they're pushing hard to unwind the only serious federal rule that protects borrowers from predatory loans and improper foreclosures. As if the last decade of abuse wasn't bad enough, banks are once again mobilizing to screw borrowers in the pursuit of epic bonuses. And once again, it appears that the Federal Reserve has become an accomplice to this nationwide mortgage scam.

Today, top mortgage officers from the nation's largest banks are telling the Senate Banking Committee that they aren't kicking the wrong people out of their homes. This is simply false. Problems at mortgage servicers have been going on for years, long before banks got into trouble for illegally robo-signing foreclosure documents. People are kicked out of their homes without cause in the United States every day. If the top executives at America's largest banks don't know this fact, they lack the competence needed to run their organizations.

Law firms that work with troubled borrowers are jam-packed with horror stories about foreclosures caused entirely by banks, not borrowers. Families who never miss a payment come home to an eviction notice, or a thug breaking down their door.

But it's even more common for borrowers to find themselves in trouble because their bank engaged in blatantly predatory lending. There is only one serious federal remedy for predatory lending, and the Fed is now knowingly trying to gut that remedy in order to help banks avoid losses from their own fraud. The remedy is called rescission, and it works like this:

If a bank failed to make key consumer protection disclosures about a mortgage, the borrower can demand that all of the interest and closing costs on the loan be refunded. Equally important, the bank must also stop all foreclosure proceedings and give up its right to foreclose. Once the bank gives up its right to foreclose, the full amount of the mortgage, minus interest and closing costs, becomes due. This isn't a free lunch for the borrower, especially when the value of her home has declined dramatically, but it's better than nothing, and it does impose real costs on banks.

For this process to function at all, it is absolutely critical that the bank be barred from foreclosing before the borrower has to pay off the remainder of the loan. A borrower can easily owe hundreds of thousands of dollars after winning a rescission. Few victims of predatory lending actually have that kind of money on hand.

This is the whole point of rescission, and it's been on the books since the Truth in Lending Act was passed in 1968. Without it, the consumer protections detailed by that law have no teeth. A bank is barred from engaging in predatory lending, but if it does it anyway, it faces no serious punishment.

Rescission, in other words, is the only federal legal device keeping banks in check on predatory lending (as the last decade proves, it's nowhere near enough). Predatory lending is really bad. If banks engage in it, they should face dramatic consequences. They don't get to foreclose and they give up all of the profit they expected to score from the predatory loan. If the borrower doesn't have all of the money on hand to pay off what's left, the bank has to deal with this money coming in over time.

The bank lobby and the Fed are now trying to completely gut the substance of this regulation. The Fed has just proposed a new rule that would reverse the order of payments and the right to foreclose under rescission. Under the new rule, a bank that has engaged in predatory lending does not have to give up its right to foreclose until after the borrower has paid off the full remaining balance of the loan.

Under the Fed's proposal, if you're the victim of illegal predatory lending, the bank will still get to foreclose on you unless you pony up hundreds of thousands of dollars all at once. And you'll have to pony up what the bank says you owe, which may be very different from what you actually owe. That eliminates the usefulness of rescission, making the new rule a bailout for predators.

The Fed knows full well that it's gutting the law here. The Board of Governors and their staff have met with key consumer lawyers no less than three times about this exact rule proposal, and the Fed is going ahead with it anyway.

Here's what's really going on. The largest banks don't have enough capital to weather a bad housing market. And any process that sheds light on the documentation procedures at mortgage servicers will expose the big banks to investor lawsuits. But investors can't sue without those documents. Rescission judgments create a paper trail for illegal loans. In addition to creating immediate losses for banks, rescission documents that banks sold illegal loans, giving investors who bought mortgage-backed securities ammunition for well-founded lawsuits. Those lawsuits, in turn, could sink some of the biggest names on Wall Street, something the Fed has been trying to prevent at all costs since 2008.

How close to the edge are the banks? Many mortgages that they account for as profitable assets are actually huge losses. The most obvious example of this insanity involves second lien mortgages. There are lots of kinds of second liens loans, but the important thing to remember is that they're the first asset to be wiped out when housing prices decline. Right now, they're in big trouble.

The second-lien holdings of Citigroup, Wells Fargo, Bank of America and JPMorgan Chase are about equal to their total capital. If you wipeout second liens, these banks are done. Right now the banks are accounting for these second liens as if they were worth nearly 100 percent of their original value—even though these loans only trade at only about one-quarter of that value. If banks take the market's value of just one class of assets, they're gone.

This class of assets goes completely under if banks have to own up to the current foreclosure fraud mess. The only real way to fix the documentation fraud problems is a nationwide program reducing the amounts that borrowers owe on their mortgages to current home values. Doing that forces the banks to acknowledge that their second lien mortgages are, in fact, worthless.

So the big banks and their protectors at the Fed are launching a two-pronged strategy. First, they're trying to prevent investors from obtaining the loan documents that will fuel well-justified lawsuits. Second, they're trying to give banks even greater control over the foreclosure process, in order to allow banks to continue to game accounting rules. This is a premeditated strategy to save banks from losses created by their own fraudulent, predatory behavior. It has no place on the books of the Fed, particularly after the central bank's total failure to prevent the mortgage abuses of the past decade.

It's not too late for the Fed to turn back. It can, in fact, abandon this bailout, and leave consumer protection issues to the new Consumer Financial Protection Bureau, which is designed to handle exactly this sort of issue, for exactly this reason.

The Elephant In The Foreclosure Fraud Room: Second Liens

Zach Carter — Thu, 21 Oct 2010 13:56:06 -0400

There’s been plenty of recent media attention to the prospect of investor lawsuits over fraudulent mortgages and mortgage securities. But investor lawsuits against mortgage servicers could be even more damaging than these other lines of legal inquiry. The four largest banks hold nearly half a trillion dollars worth of second-lien mortgages on their books—loans that could be decimated if investors successfully target improper mortgage servicing operations. The result would be major trouble for the financial system. The result would be major trouble for too-big-to-fail behemoths.

Mortgage servicers are the banking industry’s debt collectors. They accept payments and forward them along to investors who own mortgage securities-- servicers themselves don’t actually own the mortgages they handle. This is a recipe for trouble for a variety of reasons, but one of the biggest problems is the fact that the nation’s four largest banks also operate the four largest mortgage servicers. Bank of America, Wells Fargo, JPMorgan Chase and Citigroup service about half of all mortgages in the United States. They also have multi-trillion-dollar businesses whose interests often conflict with those of mortgage security investors.

The most glaring conflicts involve second-lien mortgages. Much of the foreclosuregate coverage has focused on first-liens—ordinary mortgages that people take out when they want to buy a home. But during the housing bubble, banks frequently sold second-lien mortgages in an effort to cash-in on inflated home prices. If you’ve had a mortgage for a few years, and paid down $30,000 of your home’s value, a bank might try to sell you a new $30,000 loan, backed by the equity you’ve accumulated in your house by paying your first mortgage.

In fact, banks were much more aggressive than this. Usually homeowners have to put up a certain amount of money up-front when they buy a house—this is the down-payment. But the profits available from mortgage securitization were tempting. Banks could issue a mortgage, sell it off to investors, and not have to worry about any potential losses. So banks got around down-payments by selling a second-lien mortgage at the same time they sold the ordinary first mortgage. The second-lien would be used to pay the down-payment on the first lien.

This is a neat trick, but if home values decline just a tiny bit, the second lien mortgage becomes almost immediately worthless. If a borrower can’t pay the first lien, the second lien is wiped out entirely. Similarly, if a bank modifies a first lien to lower a borrower’s overall debt burden, the second lien is also wiped out.

That’s a big deal, because even when home prices have declined dramatically, losses from foreclosure on first liens only eat up about 58 percent of the value of the loan, according to Valparaiso University Law Professor Alan White. The second lien, by contrast, is 100 percent gone.

The fact that four giant banks own almost half a trillion dollars of second-lien mortgages makes things very tricky. If a borrower gets into trouble on a first-lien mortgage, the mortgage servicer has three options. It can 1) foreclose, or 2) offer a loan modification that reduces the borrower’s overall debt burden (principal reduction), or 3) tweak the payment plan, charge some immediate late fees, and try to keep the borrower paying on the current debt level (extending the life of the loan, forgiving missed payments, lowering the interest rate).

If either of the first two are adopted, the second lien is wiped out. If the third option is pursued, the bank buys an extra few months of payments for the second lien. When the payment plan proves unsustainable, the bank can work out a new payment plan with the borrower, and hope for the best. This third tack often proves destructive for both borrowers and the first-lien owners. Tweaking payment plans can exhaust a borrowers’ savings and makes them unable to afford a meaningful loan modification. At the same time, it can generate fees for the servicer that investors ultimately pay for.

Many investors believe that banks are servicing first-lien mortgages for the benefit of second-liens. That’s because the megabank servicers own the second liens, while mortgage security investors own the first liens. This is a conflict-of-interest. A servicer is supposed to maximize the value of the first-lien for the investor. But it's conceivable that servicers--JPMorgan Chase, BofA, Citi, Wells Fargo-- are systematically screwing over both borrowers and investors in order to maximize profits on second-lien mortgages that are, by any reasonable economic analysis, already worthless.

It’s not clear how widespread this problem is. Academics and investors have been harping on it for literally years. But the market’s view about second-lien mortgages couldn’t be clearer. Second-liens trade at 25 cents on the dollar or less in the secondary markets. If a bank wants to sell a second-lien mortgage to another investor, it has to take a loss of at least 75 percent in order to do so. But regulators have allowed banks to account for their second liens at 90 percent or more of their original value.

Not every second-lien features this conflict-of-interest, and borrowers won’t abandon every second-lien. But <a href="http://rortybomb.wordpress.com/2010/03/09/principal-writedowns-and-the-fake-stress-test/">it’s easy to imagine hundreds of billions of dollars in losses on second-liens</a> hitting the four biggest banks (<a href="http://rortybomb.wordpress.com/2010/03/09/principal-writedowns-and-the-fake-stress-test/">see Mike Konczal's analysis from March here</a>). And the more investors learn about shoddy documentation in the foreclosure process, the more legal ammunition they have against servicers.

This, ultimately, is the most significant aspect of the letter investors wrote to Countrywide this week. Investors are pressuring Countrywide—a mortgage servicer owned by Bank of America—to push losses from about $16.5 billion worth of mortgages back onto the bank that securitized those mortgages. In this case, the bank that securitized the loans was another division of Countrywide, so the bank isn’t going to comply with the letter, since it means eating losses itself, and the situation is almost certainly headed for lawsuit territory (see Andrew Leonard’s explanation of the case here).

But that letter indicates that investors are organizing to go after improper mortgage servicing itself, not just fraudulent loan and security sales. That means investors are trying to sack banks with second-lien losses—and second-lien losses could easily dwarf the other losses that analysts have focused on so far.

Solutions to the Foreclosure Crisis without Legislation

Susan Ozawa — Wed, 20 Oct 2010 15:41:40 -0400

Congress out of session with a crisis on our hands? What can we do without passing legislation to address rampant fraud in processing foreclosures?

Dean Baker makes a good point; respecting the veracity of documents and the legally requisite paperwork on all outstanding debts and securities is a matter of obeying the law not amending it. Circumvention of the law for expedience to generate short-term returns led to standard practices that are illegal. This provides no basis for an argument to change the law to make the problematic and haphazard practices legal. The question is enforcement. Unfortunately, it’s not that simple. Who needs to be demanding veracity? At what stage in the titling, securitization, investment or recovery phase of the life of the mortgage? From whom, servicers alone? And how do we get these entities to make these demands?

Conyers, Grayson, et al. had the right idea pursuing government agencies with a role in this fraud, e.g. GMAC, Fannie and Freddie. Releasing the offending robo signers and frauds pursuing foreclosure from these agencies’ payrolls is a great start. But this is the tip of the iceberg; fraud and problematic practices in the foreclosure process reflects rampant problems with the titling process and we should be pushing for an internal audit of all troubled loans we are holding in our government portfolio in one form or another. Brown, et al. have pushed for the White House to support a foreclosure moratorium and is the right thing to do but it has been unsuccessful.

Why: The government owns or is on the hook for quite a large share of the loans and securities attached to the US securitized mortgages outstanding. This is part of the problem and part of the solution. This is why Shaun Donovan and Tim Geithner are taking positions inconsistent with the goals of their own program, HAMP, on the implications of slowing the rate of foreclosures. See Baker on this here. The US government has too much stake as investors in this market to really want to shake it down in the short-term but in the long-term we have the most to lose by propping up an inflated set of assets and paying dearly to do so into perpetuity by way of a financial sector burdened by NPLs and a subsequent stagnant economy.

As far as a strategy goes, pressuring agencies that have a role as investors, issuers or guarantors of any and all distressed mortgage products, agencies which have the authority already to require legal documentation on these products, is, perhaps, the best multipronged non-legislative strategy out there for the longer-term. Some make better targets than others. The Fed invests in MBS (they’re unwinding their position in bailout investments but MBSs still comprised over $1078 billion of the Fed’s portfolio at the end of September), and by association, they also have a stake in AIG which is loaded with CDSs dependent on the market's view of banks balance sheets with these assets on them. The Fed and Treasury are not going to take a hit to market value of their holdings lightly, and they certainly won’t provoke that happening themselves. Treasury is funding HAMP alongside HUD, which has more of a political stake in solving the foreclosure crisis than a financial one, and of course, then there’s Fannie and Freddie. We could push for these agencies to pursue self-imposed internal audits of all the distressed properties they have in their various portfolios. This would run up against the Fed’s portfolio strategy and the holdings Treasury is trying to unwind from TARP—AIG needs to be behind us completely for that, also the Fed is still holding commercial paper from firms presumably holding structured assets. The Fed is also still holding commercial real estate backed securities. These all need to be unwound first before expecting the heads of these agencies and the White House to be on-board for serious writedowns caused by writeoffs on unrecoverable assets. (Treasury's sell-off of AIG shares is not expected to start until 2011.)

What we are left with, without a legislative impetus, by way of strategy is supporting and championing lawsuits by individuals (ideally a highly publicized class action) against a lender that is foreclosing on them without proper documentation to do so. The ACLU is going after the courts themselves but since the courts are doing their best and have no financial or political support from the federal government to do much more than muddle through, I think ACLU’s strategy could backfire on them. Their target has no money and nothing to gain materially from what they are processing, although the org can be commended for being pragmatic and working all the angles available to them.

Once AIG is sold off in its entirety and the Fed’s portfolio unwound we should pounce on Fannie and Freddie to audit their holdings. The problem is that Treasury and the Fed won’t sell off until the market value of their holdings increases, and that won’t happen until this foreclosure fraud settles down, which it won’t on its own fruition. Thus, the paradox of the bailout operations continues. The US government has too many conflicts of interest and cannot expect to really make money off our bailout without deceiving markets about the value of those holdings. Expect the market cheerleading to continue.

In the meantime, what can you do? Look out for word of a class action lawsuit you or someone going through foreclosure you know can join and demand your bank show you your mortgage using this site.

Foreclosuregate Fallout: How Bad Can It Get For Wall Street?

Zach Carter — Wed, 20 Oct 2010 15:37:06 -0400

Foreclosure fraud is ruffling a lot of feathers on Wall Street, and while the full scope of losses remains unclear, even major banks are now acknowledging that this is a multi-billion-dollar disaster, not just a set of minor paperwork headaches.

So how bad will it get for Wall Street? There are several disaster scenarios in which the housing market simply shuts down, where the potential losses for Wall Street are simply incalculable. But even situations that do not directly rip apart the basic functioning of the mortgage system could be enough to shut down one or more big banks, creating serious trouble for the financial system, and a major test of the recent Wall Street reform bill.

JPMorgan Chase loves using its research department to push its political agenda, and the bank is currently characterizing the foreclosure fraud outbreak as a set of "process-oriented problems that can be fixed." That puts them in the rosy optimist camp for this crisis, and they're projecting a total of $55 billion to $120 billion in losses for the entire industry, spread out over a few years.

But take a look at the analysts' methodology. The actual scope of losses gets drastically larger if you just change a few arbitrary assumptions.

JPMorgan's analysts look at about $6 trillion in mortgages issued between 2005 and 2007—this is the height of the bubble, but it excludes plenty of lousy loans issued in 2003, 2004 and 2008. They then estimate defaults of $2 trillion and losses of $1.1 trillion on those defaults.

So far, these estimates are reasonable. According to Valparaiso University Law School Professor Alan White, banks lose about 58 percent of the value of a subprime loan at foreclosure. JPMorgan is estimating 55 percent. The notion that one-third of mortgages issued at the height of the bubble will default may seem extreme, but the analysis includes both first-lien mortgages and second-lien mortgages (home equity loans). For houses with multiple mortgages, there's going to be a double-hit when the first lien goes bad. Right now, the official statistics from Mortgage Bankers Association indicate that 14 percent of first mortgages are delinquent or in foreclosure. The longer unemployment stays near 10 percent, the higher that figure will go.

Things don't get out of control until JPMorgan's analysts start deploying their assumptions. First, they assume that Fannie and Freddie will attempt to sack banks with losses from 25 percent of the defaults they see. Of those 25 percent, they assume Fannie and Freddie will successfully force banks to eat losses on 40 percent, leading to total losses of 10 percent. Why 25 percent? Why 40 percent? The analysts don't say. JPMorgan expects private-sector investors to be able to saddle banks with just 5 percent of foreclosure losses, citing a host of technical legal hurdles that make it hard for investors to have their cases heard in court.

So JPMorgan's loss projections are nothing more than a guess—and a low-ball guess at that. JPMorgan is assuming that only five to 10 percent of looming foreclosure losses will actually hit big banks. Change that assumption—20 percent, 60 percent, 80 percent—and things get far worse for Wall Street than JPMorgan's "worst-case" scenario predicts.

Let's consider the exposures of a single bank to put things in context, and let's pick Bank of America, since analysts seem to agree that BofA has the most to worry about right now. They were a big issuer of mortgages themselves, but they also purchased the notoriously predatory Countrywide Financial and also picked up securitization behemoth Merrill Lynch in 2008, giving them far more problems (hilariously, BofA actually paid cash to acquire these balance-sheet-busters).

The most dire estimates for losses on Fannie and Freddie loans at BofA have come from Christopher Whalen at Institutional Risk Analytics and Branch Hill Capital. Whalen has estimated $50 billion in Fannie and Freddie losses for the megabank, while Branch Hill has estimated $70 billion.

The trick is, BofA has $2.1 trillion in total exposure to Fannie and Freddie, according to Whalen. That means even Branch Hill's massive loss projection only amounts to a loss rate of about 3.5 percent.

As of July 2010, Fannie Mae had a serious delinquency rate of 4.82 percent—these are loans where families have missed at least three payments, but haven't been evicted. For Freddie Mac, the number is 3.83 percent. Not all of those losses can be pushed back on the banks, but those numbers will go up as the unemployment rate stays high. Tip the scales just a few percentage points and it's easy to envision catastrophic losses for banks.

But there's reason to believe that Bank of America is in even worse shape with regard to Fannie and Freddie than any of its peers. Countrywide was the single largest provider of loans to Fannie Mae during the housing bubble. Literally 28 percent of the loans Fannie Mae bought up in 2007 came from Countrywide. Fannie even featured a full-page, smiling photograph of Countrywide CEO Angelo Mozilo in their 2003 Annual Report (.pdf, see page 16).

It's much easier for banks to lose money on bad loans they sold to the GSEs than it is for them to lose money on securities they sold to purely private-sector investors. The fact that Bank of America's most notorious wing was the top provider to Fannie Mae during the peak years of the housing bubble does not bode well for the bank's balance sheet.

But this is just exposure to Fannie and Freddie. The private sector is angry about all kinds of things—from wronged borrowers to deceived investors. Investors are already organizing against both mortgage servicers—for improperly handling troubled loans—and against investment banks—for selling them garbage. They aren't just angry about fraudulent foreclosures—evidence is mounting that mortgage servicers can't even handle the profits from mortgages correctly, and aren't sending investors reliable, verifiable payments.

Yesterday investors sent a letter pressuring Countrywide's servicing arm to push losses from bad mortgage bonds back on the bank that sold them. Legally, it's a complicated maneuver, since Countrywide itself issued those bonds—but that just shows the multiple levels at which megabanks like BofA are exposed to fraud losses. Their original sale of mortgages to borrowers, the packaging of those mortgages into securities, the handling of payments and foreclosures, and the accounting for all of these activities—all of this is about to be subjected to serious fraud examinations by people who are trying to make money.

Up until yesterday, big banks thought they had a get-out-of-jail free card on investor lawsuits. Investors have to bring together 25 percent of the buyers of any mortgage bond in order to sue the bank that issued it—even if the actual lawsuit is an open-and-shut fraud case. Investors had not been cooperating. But yesterday's letter to Countrywide is a big deal—even though it's not (yet) a lawsuit, some of the biggest names in finance were going after Countrywide's cash: BlackRock, PIMCO and even the New York Federal Reserve.

Bill Frey, who runs the hedge fund Greenwich Capital, has organized a massive clearinghouse of mortgage investors for the express purpose of bringing lawsuits against big banks that issued bogus mortgage-backed securities. He told me this afternoon that he's about to move: In the next couple of weeks Greenwich and other investors will bring big lawsuits against major banks.

Will these combined troubles be enough to sink any big banks? If investors can win a couple of lawsuits, easily.

Banker-Run Third Way Opposes Foreclosure Moratorium On Banks

Zach Carter — Wed, 20 Oct 2010 12:28:16 -0400

The so-called “centrists” at Third Way Foundation have come out against a national foreclosure moratorium, but like many of Third Way’s policies, there’s nothing centrist about their opposition. Third Way is simply throwing American homeowners under the bus in the service of Wall Street profits. That sellout isn’t surprising when you examine the membership of Third Way’s Board of Trustees. Fully two-thirds of the think tank’s board work in finance, including some of the nation’s largest financial firms: JPMorgan Chase, Morgan Stanley, Fortress Investment Group and other Wall Street titans who stand to lose big bucks in the foreclosure fraud fallout.

Third Way Vice Chairman David Heller is the Global Head of Equity Trading for Goldman Sachs, and sits on the firm’s risk-committee. Goldman Sachs has placed enormous bets on the housing market, and other Third Way board members face similar sraits: William Daley works for JPMorgan Chase—a bank that has already suspended foreclosures in order to sort out its own problems. Derek Kirkland is global co-Head of Morgan Stanley’s Financial Institutions Group, and Michael Novogratz is President of Fortress Investment Group, one of the largest hedge funds in the world.

Daniel Loeb has a spot on the board. Yes, that Daniel Loeb, the whining Wall Street hedge fund manager who infamously complained that President Barack Obama wanted to violate American protections against "nonpunitive taxation, constitutionally guaranteed protections against persecution of the minority and an inexorable right of self-determination"-- because Obama favored raising the capital gains tax. All of these people, and dozens of others on the Third Way board, stand to lose or gain enormous amounts of money from the foreclosure fraud outbreak and the federal response.

Even the author of the memo, Jason Gold, used to work for bailed-out banks First Horizon, Bank of America and Merrill Lynch. All of this information is available on Third Way’s website, but not one word of the think tank’s memo on a foreclosure moratorium mentions any possible conflict of interest, nor are any actual conflicts of interest detailed.

Independent think tanks shouldn’t be promoting policies that their board members stand to financially benefit from without explaining their financial interests. If Jason Gold and Third Way want to oppose a foreclosure moratorium, fine—but they should demonstrate exactly what they have to gain from such a policy in their memo.

Third Way and other centrist groups like to claim they’re staking out political middle ground, when in fact they’re just advocating policies that funnel money to entrenched corporate interests. Wall Street is very good at this game, as evidenced by the fact that 20 of the 30 members of Third Way’s board work for Wall Street. These aren’t policies that create jobs or improve the economy—they’re just giveaways for special interests. As one Democratic policymaker who requested anonymity told me, "Third Way's policy model is an utter catastrophe. They are basically Weimar Democrats."

Aside from the glaring conflicts-of-interest, Third Way’s argument against a foreclosure moratorium is totally incoherent. None of the points made stand up to even cursory levels of economic scrutiny—it’s the sort of thing you’d expect to see from the Mortgage Bankers Association, not an independent think tank. Third Way claim that a moratorium will scare buyers away from the market and put downward pressure on home prices. It’s a nice talking point, but any sane buyer should already be spooked by the facts that have emerged on bank documentation policies. The moratorium isn’t going to reduce confidence—years of banker abuse already has. Banks skimped on their paperwork to cut costs, and are now resorting to systematic fraud to cover-up very big problems. They’ve charged borrowers illegal fees, foreclosed on the wrong homes, and sold the same mortgage to different investment banks to be packaged into different securities. That kind of behavior scares borrowers. Repairing the damage isn’t nearly as frightening.

Third Way also claims that a moratorium would hurt community banks and credit unions. Hard to see how that’s the case if the moratorium only “forestalls” foreclosures, rather than preventing them, as Third Way claims, but if this is really a huge problem, just exempt credit unions and banks with less than $1 billion in assets from the moratorium. Illusory problem solved.

Third Way also argues that a moratorium is unfair to taxpayers—but taxpayers are likely to be the single largest party defrauded in the documentation scam. Taxpayers own trillions of dollars in mortgage-backed securities through the Federal Reserve, Fannie Mae and Freddie Mac. A moratorium can help us indentify problems and make claims against banks who have acted inappropriately.

This reasoning is not simply divorced from economic reality—it’s internally inconsistent. Third Way says that a foreclosure moratorium would only “forestall” foreclosures, not prevent them—and then turns around and insists that a moratorium would encourage people not to pay their mortgages. If it’s not a permanent solution, no sane borrower is going to stop paying.

Unless it already makes sense for borrowers to stop paying their mortgages. Third Way board member Derek Kirkland is a bigwig at Morgan Stanley. Last year, Morgan Stanley realized that a handful of properties it had purchased in San Francisco were not worth what Morgan Stanley owed on the mortgages. So Morgan Stanley made a rational decision: instead of wasting its money on payments for a devalued property, it walked away from the mortgages. This is called a “strategic default,” and Third Way explicitly comes out against it in their memo. But iff the board members of Third Way are okay with strategic defaults, what right do they have to hold American homeowners to a different standard?

Helping homeowners isn’t part of some radical leftist agenda—it’s a basic prerequisite for economic recovery. When homeowners are burdened with unnecessary, predatory, and even fraudulent debt, they don’t have money to spend on productive economic activities that create jobs. Punishing borrowers for fraud committed by bankers simply doesn’t make sense. A foreclosure moratorium won’t solve all of our problems, but it can help us sort them out so that homeowners who deserve help can be identified, along with bankers who have committed fraud.

Calls to Third Way were not immediately returned.

Don't Believe The Bank Lobby: Foreclosure Fraud Is Bad For Homeowners And The Economy

Zach Carter — Mon, 18 Oct 2010 16:51:40 -0400

The bank lobby is spreading a host of silly myths about the foreclosure fraud outbreak in an effort to downplay the scandal and minimize concerns over potential bank losses that have emerged in the blogosphere. Housing Wire’s Paul Jackson spouts most of them in his post today. Jackson does acknowledge a host of major problems for banks that have been recently highlighted by the blogosphere, but he’s still spreading serious misinformation on foreclosure fraud and its potential effects. Banks routinely rip-off borrowers in the foreclosure process, and the blogosphere's uproar over foreclosure fraud is more than justified.

First, the agreement. Jackson agrees that there is enormous potential for investors to bring fraud cases against banks and win them. He calls them “real concerns, many hundreds of billions of dollars worth of concerns.” The blogosphere has done a terrific job highlighting this, with Felix Salmon shouldering most of the burden.

Jackson’s real critiques are pretty weak:

“‘Robo-signing’ is a procedural issue. Period . . . . Until someone can provide consistent and repeated evidence suggesting that the information contained within ‘robo-signed’ affidavits is factually incorrect — not just some of the time, but most of the time — the end result of this mess is nothing more than a very public, brand-damaging, headline-making procedural blip . . . . If false debt amounts were being pushed by banks onto the courts en masse, you can bet all the apple pie in America that every single one of us would have heard about it by now, too.”

First, we have heard about false debt amounts being pushed by banks onto the courts en masse. The best account is a 2008 paper by Harvard University Law Professor Katherine Porter (she was at Iowa then), examining mortgage servicing documentation in bankruptcy. Banks demand illegal fees from borrowers all the time, and resort to shoddy documentation to get away with it. How bad can this get? Ask Porter:

“In one egregious case, a mortgage company filed a proof of claim for more than $1 million when the principal balance on the note was $60,000.”

Take a look at some of Porter’s other findings: More than 18 percent of the time, servicers don’t even bother to file proofs of claim documenting the mortgage debt owed or the fees charged. Of the proofs-of-claim filed, 41 percent of the time, servicers don’t even supply the note, while 16 percent of the time, they don’t bother to itemize the fees they charge, much less justify the amount. Of the itemized fees, 43 percent were assigned to categories that didn’t fit the servicing industry’s own standards.

In many cases, these fees are so high that borrowers lose their homes thanks to the fees, not trouble meeting the monthly payment.

Let me emphasize that Porter’s study applies to foreclosure costs reviewed by a judge in bankruptcy—the most vigilant legal arena available for troubled borrowers. The robo-signing scandal is not playing out in bankruptcy court, it’s playing out in ordinary courts with much less rigorous standards. Banks simply try to prove that they have the necessary documentation to foreclose and are charge appropriate fees. They don’t have the actual document laying out this information, so banks are robo-signing fraudulent affidavits swearing that they really do have the right to foreclose and charge every fee they’re levying.

Given Porter’s findings in bankruptcy courts, this activity is very likely covering up widespread abuses in ordinary court. Note Jackson’s bizarre commitment to a majoritarian threshold for scandal. If 15 percent of foreclosures in the United States since the housing bubble burst have been unnecessary and fraudulent rip-offs, that is a scandal of monstrous proportions. We’ve already witnessed more than 6 million foreclosures this cycle—a 15 percent scam rate is nearly 1 million defrauded borrowers. That should be an outrage.

Jackson also claims that “Commentators have hopelessly conflated ‘robo-signing’ with other long-standing and/or played-out mortgage issues.”

Nope. Commenators have used the robo-signing outbreak to highlight other documentation problems that banks have created for themselves. Servicer misconduct has indeed been well-covered, as is the outbreak of fraud in the sale of mortgages to borrowers. Even the staggeringly dishonest due diligence operations that banks deployed to rip-off investors has been public for months. We know that banks have used robo-signers to cover their tracks in some arenas, there's a natural interest in investigating other areas of documentation trouble (especially Felix Salmon's mortgage bond fraud story).

Jackson does the best job of defusing these related scandals with his argument that the fate of the Mortgage Electronic Registration System (MERS) has already been decided in court. In effect, banks have been using the electronic MERS system to show their right to foreclose instead of paper documents, and several courts have upheld their right to do so (though others have not). But it's hard to understand Jackson's out-0f-hand dismissal of MERS trouble when the legal standing of MERS was raised on a Citigroup conference call with investors last week. This is not yet resolved.

But what I find most ridiculous is Jackson’s claim that commentary on the scandal has obscured other real problems:

“The real brewing issue in the markets right now currently is one of investor confidence, borne most lately of horrible remittance reporting from servicers. Investors have had it with inaccurate reports from servicers, and some are threatening to ditch MBS markets altogether.”

“Remittance reporting” means “profits that mortgage servicers detail and forward to investors.” Shoddy documentation in the foreclosure end have been the focus of much of the commentary thus far. In that element of the scandal, banks are trying to minimize potential losses from shoddy documentation. But Jackson makes a very good point: documentation problems are so bad that servicers aren’t forwarding the right profits either, or documenting them.

Why this is indicative of some blogosphere-wide over-reaction is beyond me. Jackson is effectively saying that the problem is much broader than the blogosphere has so far reported, and made an excellent point regarding the scope of potential problems.

Jackson also makes a good point about investor lawsuits. There are indeed significant technical hurdles that make it difficult for investors to sue banks over fraud in the mortgage-backed securities process, and this has been underreported. But that is far from the end of the story. When hundreds of billions of dollars are at stake, investors usually try to get their hands on it. And what’s more, it’s an appeal to a technicality on an issue where banks (and Jackson’s parroting of banks) are pretending to take the substantive high-road. Don’t worry, robo-signing is just a ‘procedural’ issue! Investor lawsuits are probably going to gut us on the merits, but technicalities will make it difficult for the cases to be heard!

The Breakdown: Zach Carter and The Nation's Chris Hayes Talk Wall Street Fraud

Zach Carter — Fri, 15 Oct 2010 14:29:07 -0400

Chris Hayes from The Nation talked to me for his excellent weekly podcast, The Breakdown. We're talking about foreclosure fraud, mortgage-backed securities fraud, illegal mortgage fees, and all kinds of really nasty things happening on Wall Street. Give it a listen:

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Also note that the intro music for The Breakdown is superior to all other music intros in audio journalism.