Are Victims of Mortgage Lender Fraud about to get their Justice?

The DOJ has filed a lawsuit against BOA on so-called “hustle mortgages” that accuses the lender of selling bad mortgages to Fannie and Freddie.  I’m going to follow this, believe me, because it represents a ‘big deal’ for any one that does research in banking, lending, or moral hazard.  I’m not a lawyer–nor do I play one on TV–so the finer parts of the law are not in my knowledge ballpark. I do have some knowledge of home value through the apprenticeship I did with a home appraisal service.  However, I expect this to influence both lending behavior and the willingness of larger banks to merge with banks in bad shape.  The latter is a trick used by regulators to deal with a problem bank.  Bank of America is basically being sued over mortgages originated through a Countrywide program called the “hustle mortgage”.  It supposedly continued the program after its merger to Countrywide.

This is the first civil fraud suit brought by the Department of Justice concerning mortgage loans sold to Fannie Mae or Freddie Mac.

Manhattan U.S. Attorney Preet Bharara said: “For the sixth time in less than 18 months, this Office has been compelled to sue a major U.S. bank for reckless mortgage practices in the lead-up to the financial crisis. The fraudulent conduct alleged in today’s complaint was spectacularly brazen in scope. As alleged, through a program aptly named ‘the Hustle,’ Countrywide and Bank of America made disastrously bad loans and stuck taxpayers with the bill. As described, Countrywide and Bank of America systematically removed every check in favor of its own balance – they cast aside underwriters, eliminated quality controls, incentivized unqualified personnel to cut corners, and concealed the resulting defects. These toxic products were then sold to the government sponsored enterprises as good loans. This lawsuit should send another clear message that reckless lending practices will not be tolerated.”

FHFA Inspector General Steve A. Linick said: “To prevent fraud, conducting quality reviews and complying with underwriting standards are critical. Countrywide and Bank of America allegedly engaged in fraudulent behavior that contributed to the financial crisis, which ultimately falls on the shoulders of taxpayers. This type of conduct is reprehensible and we are proud to work with our law enforcement partners to hold all parties accountable.”

SIGTARP Special Inspector General Christy Romero said: “The complaint filed today alleges serious and significant misrepresentations that Bank of America made before and during the time taxpayers invested $45 billion in TARP funds in the bank. SIGTARP and its law enforcement partners will investigate allegations of wrongdoing by TARP recipients, particularly conduct that results in substantial losses to the government and taxpayers.”

Are we beginning to see the DOJ move on the banksters?  Has this got anything to do with the stampeded to Romney by all things Wall Street?

The Bank of America lawsuit is the sixth brought against a major U.S. bank by the Justice Department in less than 18 months over what Bharara called “reckless mortgage practices in the lead-up to the financial crisis.”

This month, the government sued Wells Fargo & Co. (WFC), one of the biggest mortgage lenders and service, over claims the San Francisco-based bank made reckless loans that caused losses for a federal insurance program when they defaulted. The complaint alleges misconduct over more than a decade related to the bank’s participation in a Federal Housing Administration program and follows similar cases against other lenders including Citigroup Inc. (C) and Deutsche Bank AG. (DB)

A state and federal task force is investigating misconduct in the bundling of mortgage loans into securities before the housing bust. The group’s first legal action was this month, when New York Attorney General Eric Schneiderman sued JPMorgan Chase & Co. (JPM), the biggest U.S. lender, over defective mortgage loans underlying securities, a suit he said would act as a template for other such cases. The bank has denied wrongdoing.

Fannie Mae and Freddie Mac losses totaled more than $1 billion, Bharara said. The Justice Department’s complaint was brought under the federal False Claims Act, which allows for triple damages.

Fannie Mae and Freddie Mac have operated under U.S. conservatorship since 2008, when they were seized amid subprime mortgage losses that pushed them toward insolvency.

“Bank of America has stepped up and acted responsibly to resolve legacy mortgage matters,” Larry DiRita, a spokesman for the Charlotte, North Carolina-based company, said in an e-mailed statement. “The claim that we have failed to repurchase loans from Fannie Mae is simply false. At some point, Bank of America can’t be expected to compensate every entity that claims losses that actually were caused by the economic downturn.”

The government said in the complaint that Bank of America “systematically removed every check” in the issuance of mortgages and then sold the “flawed” mortgages to Fannie Mae and Freddie Mac. Both relied on Bank of America’s assurances that the mortgages they purchased complied with their standards, the U.S. said.

According to the complaint, Countrywide initiated “the Hustle” in 2007 just as mortgage loan defaults were increasing nationally and Fannie Mae and Freddie Mac were tightening their loan purchasing standards to reduce risk. The Countrywide program did just the opposite, the U.S. said.

This suit is based on information from a whistle blower and has been in the works since February.

According to court records, Wednesday’s case was originally filed under seal in February by Edward O’Donnell, a Pennsylvania resident and former executive vice president at Countrywide Home Loans who had worked there between 2003 and 2009.

In that complaint, O’Donnell said Countrywide and later Bank of America dismissed his “numerous” objections to the Hustle, and that he became “one of the lone voices” in his division pointing to escalating loan quality issues and defaults.

O’Donnell could not immediately be reached for comment, and his lawyer did not immediately respond to requests for comment.

Grab your bowl of popcorn.  This should be interesting.

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Friday Morning Reads

Well, it looks like I’m in a tropical storm warning right now. I’m just hoping the electricity stays on as TD 13 becomes TS Lee when it drifts around and comes on shore some time on Saturday.  I’m also hoping Hurricane Katia stays a fish storm but that’s looking less likely at the moment.  Lot’s of us may get flooded yet again.  I’m just hoping we can go get NJ Governor Chris Christie to go beat up Eric Cantor in the interim.  Poor Vermont looks like it needs a lot of help right now!  We’re expected to get rain that may fall at 2-3 inches an hour.  I’m not sure if our pumps can handle that; especially the crappy ones the Corps bought from Jeb Bush that have been problematic since they were installed.

So, it’s nice to see that the FED has decided that Goldman Sachs is now under its jurisdiction and is ordering it to review its foreclosure practices of a former subsidiary.  So many heads should roll over the subprime mortgage market mess and so few have to date.  The Fed’s a pretty aggressive regulator when it feels some institution is in its charter.  It’s good to see the charter is extending beyond commercial banks and thrifts now that the cheap lending has been extended to other financial institutions too.  They take the truth-in-lending laws very seriously.

The Federal Reserve ordered Goldman Sachs Group Inc to hire a consultant to review practices of a former mortgage subsidiary on Thursday and said it plans to assess a monetary penalty for wrongful foreclosures.

The Fed’s crackdown sent Goldman shares down 3.5 percent on Thursday, even as the bank announced that it had completed the sale of Litton Loan Servicing LP, the mortgage-servicing business at the heart of its foreclosure problems.

Litton’s regulatory troubles stem largely from the practice of “robosigning,” in which bank employees signed foreclosure documents without reviewing case files as required by law.

Many large banks, including Bank of America Corp, JPMorgan Chase & Co, Wells Fargo & Co and Citigroup Inc, have been targets of probes by state and federal regulators over the same issue, in the clean-up after a world financial crisis triggered in large part by bad mortgages in the United States and bonds backed by those loans.

The Fed cited “a pattern of misconduct and negligence” at Litton in announcing its enforcement action against Goldman.

The Economist has been having a reader debate on the necessity of Fiscal stimulus for the US.  The Hell, Yes! vote appears to have it.  The comments are about as interesting as the two economists debating the motion.

The American economy has remained extremely weak since officially leaving recession in mid-2009. The unemployment rate has barely fallen. Recent figures suggest GDP grew at less than a 1% annualised rate through the first half of the year and the odds of a return to recession have risen. The headwinds facing the economy are considerable: the private sector is still trying to reduce the burden of debt it is carrying from the pre-crisis boom years. House prices are still in the doldrums and mortgage credit is hard to get. State and local governments, which are required to balance their budgets, have been forced to cut spending, workers and hours to cope with falling tax collections. Many argue that in such a situation, the federal government is the only entity left that can provide a boost to overall demand and keep the economy from slipping back into recession or prolonged stagnation. At present, however, federal fiscal policy is scheduled to do the opposite: at the end of this year, a temporary payroll tax cut and enhanced jobless benefits expire.

George Stephanopoulos writes about  James Carville who told him that the White House was “out of bounds” when it asked for time to speak to Congress at nearly the same time NBC broadcasts a Republican Presidential Candidate Debate.

“I do think this is a really big debate and I think the White House was out of bounds…in trying to schedule a speech during a debate,” Carville said on “GMA.”

This will be Gov. Rick Perry’s first debate, and as Carville said this morning the stakes are high.

“Given a choice between watching a debate and the speech I would have watched the debate and I’m not even a Republican or even close to being a Republican,” he said, adding it will be a “barn burner.”

The administration agreed to move the speech to Thursday- possibly competing with the kick off of the NFL season instead. The White House has been touting this jobs plan telling ABC News that he will propose tax relief, infrastructure investment and assistance for the long term unemployed.

Obama has received advice from both sides with some arguing for an ambitious proposal and others recommending finding middle ground.

Carville, an ABC News consultant, told me it doesn’t matter what Obama proposes, it won’t get through Congress.

The President’s speech is supposed to help him with terrible polls, including one from Rasmussen that shows him currently behind Rick Perry.

For the first time this year, Texas Governor Rick Perry leads President Obama in a national Election 2012 survey. Other Republican candidates trail the president by single digits.

A new Rasmussen Reports national telephone survey shows Perry picking up 44% of the vote while the president earns support from 41%. Given the margin of sampling error (+/- 3 percentage points) and the fact that the election is more than a year away, the race between the two men is effectively a toss-up. Just over a week ago, the president held a three-point advantage over Perry. (To see question wording, click here.)

Perry leads by nine among men but trails by five among women. Among voters under 30, the president leads while Perry has the edge among those over 30. The president leads Perry by 16 percentage points among union members while Perry leads among those who do not belong to a union.

I’d vote for a dead dog before I’d vote for Rick Perry, just in case you’re wondering where I stand.  A Quinnipiac University poll also shows the President’s approval on handling of unemployment and the economy is still bleak.

President Barack Obama’s overall job approval rating has sunk to an all-time low, as American voters disapprove 52 – 42 percent, compared to 47 – 46 percent approval in July, and among whites and men his approval has dropped into the 30s, according to a Quinnipiac University poll released today. Congressional leaders rate even lower in the public eye.
Voters nationwide are more pessimistic about the economy, saying 49 – 11 percent that it is getting worse rather than improving, a precipitous drop from a July 14 survey by the independent Quinnipiac (KWIN-uh-pe-ack) University, in which voters said 32 – 23 percent the economy was worsening and January 18, when voters said 36 – 20 percent it was improving.
The economy is in a recession, 76 percent of voters say, and is not beginning to recover, voters say 68 – 28 percent.
Voters trust Obama more than congressional Republicans to handle the economy 44 – 41 percent, but they say 46 – 42 percent that Republican presidential candidate Mitt Romney would do a better job than Obama. They are split 43 – 41 percent on whether Obama or GOP candidate Rick Perry would be better on the economy.

This should be an interesting political season.  My guess is that it’s going to get very ugly.

There’s some good news from NPR about the Obama Justice Department.  It seems they have made a priority of keeping abortion providers and women seeking abortions safe from violence and protestor harassment.

The Obama Justice Department has been taking a more aggressive approach against people who block access to abortion clinics, using a 1994 law to bring cases in greater numbers than its predecessor.

The numbers are most stark when it comes to civil lawsuits, which seek to create buffer zones around clinic entrances for people who have blocked access in the past. Under the Freedom of Access to Clinic Entrances Act, or FACE Act, the Justice Department’s civil rights division has filed eight civil cases since the start of the Obama administration. That’s a big increase over the George W. Bush years, when one case was filed in eight years.

“There’s been a substantial difference between this administration and the one immediately prior,” says Ellen Gertzog, director of security for Planned Parenthood. “From where we sit, there’s currently much greater willingness to carefully assess incidents when they occur and to proceed with legal action when appropriate.”

Over the past two years, the Justice Department and FBI have been meeting with abortion-rights groups and medical providers all over the country to explain their work and talk about a federal task force designed to prevent violence against doctors and women seeking abortions.

The National Abortion Federation, which tracks violent incidents, says major violence is down since the 2009 murder of abortion doctor George Tiller. The man who killed Tiller has been convicted, and a federal grand jury is investigating the conduct of his alleged accomplices.

But Sharon Levin, a vice president at the National Abortion Federation, says there are still some signs of trouble, including two incidents this summer involving Molotov cocktails and the arrest of a man who told police he wanted to shoot two abortion doctors in Wisconsin.

So I admit to being totally fascinated by Stonehenge. I wanted to share this Tomb find in the place where the famous stones were most likely quarried.

The tomb for the original builders of Stonehenge could have been unearthed by an excavation at a site in Wales.

The Carn Menyn site in the Preseli Hills is where the bluestones used to construct the first stone phase of the henge were quarried in 2300BC.

Organic material from the site will be radiocarbon dated, but it is thought any remains have already been removed.

Archaeologists believe this could prove a conclusive link between the site and Stonehenge.

The remains of a ceremonial monument were found with a bank that appears to have a pair of standing stones embedded in it.

The bluestones at the earliest phase of Stonehenge – also set in pairs – give a direct architectural link from the iconic site to this newly discovered henge-like monument in Wales.

Site in Wales of Neolithic tomb The central site had already been disturbed so archaeologists chose to excavate around the edges

The tomb, which is a passage cairn – a style typical of Neolithic burial monument – was placed over this henge.

How cool is that?

So, that’s my contribution for the day.  Hopefully, I’ll be on line through the weekend but if you don’t see me, you’ll know what happened!

What’s on your reading and blogging list today?


What Exactly Does S&P stand for?

I don’t often put on the finance hat part of the financial economist moniker ’round these parts, but I couldn’t resist donning it long enough to pooh pooh S&P.  It’s hard to take the bond rating portion of their business seriously when they do things like this:  “Subprime Mortgage Bonds Getting AAA Rating S&P Denies to U.S. Treasuries”.  How much sense does that make?

Standard & Poor’s is giving a higher rating to securities backed by subprime home loans, the same type of investments that led to the worst financial crisis since the Great Depression, than it assigns the U.S. government.

S&P is poised to provide AAA grades to 59 percent of Springleaf Mortgage Loan Trust 2011-1, a set of bonds tied to $497 million lent to homeowners with below-average credit scores and almost no equity in their properties. New York-based S&P stripped the U.S. of its top rank on Aug. 5, saying Washington politics were making the country less creditworthy.

Treasuries gained about 1.95 percent and U.S. borrowing costs have fallen to record lows as investors repudiated the downgrade, according to Bank of America Merrill Lynch indexes. S&P has awarded AAAs to more than $36 billion of securities in the U.S. this year that were created by bankers who continue to gather thousands of loans, bundle them into bonds of varying risk and pay ratings firms a fee to assign credit rankings.

“Everybody has been led to believe over the years that AAA means AAA means AAA across the board,” Gregory W. Smith, the general counsel for the $41 billion Public Employees’ Retirement Association of Colorado, said in a telephone interview on Aug. 24. “Anybody that didn’t learn in the 2008 crisis that doesn’t apply should find another line of work.”

Yup, that’s right.  The same bonds in a still stinky market are getting better ratings than assets that are basically still serving as a universal safe haven and are showing signs of being about the only bull market among the surly August bears.  Lest we forget, even a Senate subcommittee found that S&P’s inflated ratings significantly contributed to the financial crisis of 2007-2008. It’s somewhat obvious the market doesn’t believe the raters given the current pricing of US Treasuries.  However, these kinds of ratings still remain important in some circles around Wall Street despite what seems like monumental problems and conflicts of interest.  It’s difficult to imagine a for profit business not being influenced by large, paying customers.  The reason they remain key is that many charters of institutional investment funds have minimum ratings requirements and institutional funds are a huge chunk of the market.

Even after Congress included rules in the Dodd-Frank Act last year designed to cut reliance on ratings, S&P and its competitors remain a key part of the financial markets. Pension and mutual funds often require minimum ratings to buy debt securities. Banks are generally required to hold less capital to back higher rated bonds as regulators including the Federal Reserve have yet to find an alternative.

The Justice Department is probing S&P and Moody’s over mortgage-bond ratings between 2005 and 2008, according to three former analysts who said they were interviewed by investigators. The Senate Banking Committee and the Securities and Exchange Commission are scrutinizing the decision to downgrade the U.S. rating, according to people with knowledge of the inquiries.

The Justice Department probe is fairly new, but details show that the probe is based on these potential conflicts of interest.  Still, there are hints that the probe was also a possible political strategy to press the rater to raise the rating on U.S. sovereign debt.   The Justice Department does have to prove a case before a judge so that could offset any political motivation in the long run.

The Justice Department has been asking about instances in which S&P analysts wanted to assign lower ratings to mortgage bonds but may have been overruled by S&P business managers, the newspaper reported. Its story cited unidentified sources familiar with the matter.

It was unclear whether the Justice Department investigation involves the other two ratings agencies. A Justice Department spokesman was not immediately available for comment.

Ed Sweeney, a spokesman for S&P, told the newspaper in an e-mail that the agency had received several requests from different government agencies over the last few years and that it was cooperating.

The newspaper said that despite the outcry over the ratings agencies’ failures in the financial crisis, investors still rely heavily on ratings from the three main agencies for their purchases of sovereign and corporate debt, as well as other complex financial products.

Companies and some countries, though not the United States, pay the agencies to receive a rating. For decades, the government issued rules that banks, mutual funds and others could rely on a AAA stamp of approval for investing decisions — which bolstered the agencies’ power, the newspaper said.

A successful case or settlement against a giant like S&P could accelerate the shift away from the traditional ratings system, the report said.

Collateralized loan obligations are probably among some of the most difficult assets to price and rate.  S&P handles a boatload of them.  They also have a history of being wrong.

More than 14,000 securitized bonds in the U.S. are rated AAA by S&P, backed by everything from houses and malls to auto- dealer loans and farm-equipment leases, according to data compiled by Bloomberg.

S&P has said it made mistakes in structured finance since the crisis including misunderstanding cash flows and using conflicting methods to analyze the securities. Its owner, New York-based McGraw-Hill Cos., depended on credit ratings for 27 percent of its $6.19 billion of revenue last year, down from 33 percent of $6.77 billion in 2007, Bloomberg data show.

“These are errors that could cause airplanes to crash if this was aerospace engineering,” said Sylvain Raynes, a principal at R&R Consulting in New York and a former analyst at Moody’s Investors Service.

There really is a need for reform and regulation in the way ratings institutions operate.  That’s unlikely to happen as long as Republicans have any say in Congress and financial institutions hold sway in places like the U.S. Treasury.


Home, Lost Home

The Senate Banking Committee is looking into allegations today about Bank of America’s Foreclosure process.   As you may know, there have been problems with foreclosure documents that have led many to question the legality of many foreclosure actions by banks.  At least seven banking officers will appear before the committee to argue the case that robo-notorization and other means of speeding up the process of making people homeless are not illegitimate.  Retiring Senator Bank-Lobbyist-in-Training Chris Dodd is in charge of that committee.

Bloomberg has this to report about the hearings.

Democrats said they are concerned not only about foreclosures, but also about whether mortgage servicers are properly handling mortgage modifications intended to keep some homeowners from losing their properties.

“If many banks and servicers are not handling even basic foreclosure procedures correctly, it is likely that many are also not correctly evaluating homeowners for mortgage modifications,” Senator Robert Menendez, a New Jersey Democrat who is a member of the Banking Committee, said in a letter to Treasury Secretary Timothy F. Geithner that is scheduled to be sent today.

In the House, lawmakers will also call in overseers and regulators from government agencies, including the OCC and the Federal Housing Finance Agency.

Consumer advocates have been expressing concern about this process for years and aggressive lobbying is apparently paying off for the financial institutions.  This report on a flurry of FIRE lobbying is from WAPO.

The spotlight on the foreclosure process has anxious financial executives mobilizing on Capitol Hill. A financial lobbyist said senior executives have been meeting with lawmakers and their staffers, and industry groups are planning letter campaigns aimed at preventing aggressive new legislation.

“Everyone’s very nervous about what’s going to happen this week,” said another industry official, who spoke on condition of anonymity because his firm has a stake in the outcome. “We have all hands on deck.”

It’s unclear what new measure could pass in a politically divided Congress, but some ideas under consideration could broadly reshape the mortgage industry.

Some lawmakers want to resurrect legislation that would give bankruptcy judges the power to order lenders to reduce the principal that homeowners owe. Others are pushing for some big banks to spin off their mortgage-servicing arms to avoid conflicts of interest. There’s also discussion of replacing the industry’s current system for tracking mortgages with one that would be subject to federal regulation.

“The risk is small that a bill gets through,” the financial lobbyist said, but “we are taking it very seriously.”

Meanwhile, Americans for Financial Reform have requested the FED withdraw a Rescission Rule. In real estate transactions, these rules generally offer up a ‘cooling off period’  that give a buyer a chance to nullify a sales contract within a certain period. Most state rescission rules run from five to 15 days.  The FED’s considering tightening the process to favor the lenders.  Here’s some information on the request from AFR to the FED.

In the face of an unparalleled foreclosure crisis, now is the time to reinforce the fundamental importance of TILA rescission. Instead, the Board’s proposal would eviscerate the single most effective tool that homeowners have to stop foreclosures and avoid predatory loans: the extended right of rescission. The FRB Docket R-1390 contains a series of proposed changes to the TILA rules governing mortgage lending.

A few of the proposed changes, including new “material A much greater concern is the proposed decimation of TILA’s right of rescission. At the  depths of the worst foreclosure crisis since the Great Depression, we are surprised that the Federal Reserve Board has proposed rules that would eviscerate the primary protection homeowners currently have to escape abusive loans and avoid foreclosure: the extended right of rescission in 12 CFR § 226.15 and 226.23. disclosures” for home secured credit, would advance consumer protections.

Some changes are neither particularly damaging nor particularly beneficial to consumers. Other parts of the proposal, however, would seriously undermine the reliability of TILA disclosures on home secured credit.  Instead of informing consumers about the terms of their loans as Congress intended, these proposals  would allow broad misstatements of loan terms through new tolerances that are without statutory authority.

The Truth in Lending Act passed by Congress specifically provides consumers the right to unwind an illegal loan through “rescission” for up to three years after the loan was consummated.  The statute – and current Board regulations –both provide that if the proper disclosures were not  provided to the homeowner at the closing, the homeowner can rescind the loan by sending a notice to the creditor. The statute then requires the creditor to cancel the security interest. Only after the  creditor has complied with its obligation to cancel the security interest is the homeowner required to pay back the lender the amount still due on the loan. This order of obligations is the essence of the protection provided by TILA’s extended right of rescission. The cancelling of the security interest means that the homeowner has a defense to a foreclosure. It also means that the homeowner has the means to obtain refinancing so as to be able to tender the amount due. The extended right of rescission does not mean that the homeowner does not have to repay the loan. While the amount due is reduced by the finance charges, fees and amounts the homeowner has already paid, the balance is still due the creditor.

Current momentum to push the laws to protect mortgage loan originators and processors appears aimed at protecting them from the consequences of some really shoddy underwriting practices.  This seems mostly motivated to save them the billions of dollars of costs they–and in turn the Federal Government–would incur should there be zero tolerance of these egregious practices.  Not only are billions of dollars of investors money at risk–including pensions and institutional investment funds–but there’s also that little matter of the bankrupt Fannie and Freddie that sit on tons of the nasty stuff and are currently being propped up by tax payer money.

Oddly enough, there are calls again for the FED or Treasury to do more ‘stress tests’ to see exactly what the potential fall out from this massive stupidity might be.  Will we once again have to fork over our Treasury to pay for the greed of the housing and mortage debacle?  All of this undoubtedly has the markets shaky, I went in search of why so  much Big RED numbers in the major stock indexes today.  The uncertainty inherent in this problem is undoubtedly fueling the equities set back.  We continue to see fall out from the District’s inability to deal with the current systemic risk in our Financial System due to massive  and hasty deregulation.   Here’s some more analysis from WAPO.

At the same time, he said, panel members sympathize with the conundrum facing policymakers as they deal with the issue: On one hand, grinding foreclosures to a halt unnecessarily could harm the economy and slow its recovery. On the other, he said, distressed borrowers are entitled to due process, especially when banks are trying to take their homes.

Administration officials say they are keeping a close watch on the issue.

“We strongly believe that the reported behavior within the mortgage servicer industry is simply unacceptable, and servicers who have failed to follow the law must be held accountable,” said Treasury spokesman Mark Paustenbach. He added that the administration has led an interagency effort to “investigate misconduct, protect homeowners and mitigate any long-term effects on the housing market. The independent regulatory agencies, the Justice Department and [the Department of Housing and Urban Development] are examining servicers’ behavior, and we will continue to monitor the situation closely.”

This loosely means they’re  probably anticipating the need for more bailouts.  Good luck with that given the influx of hostile partisans coming in from the right wing of the Republican Party in January.   What’s a bunch of lame ducks to do?


It’s just a Ball of Infusion

bailoutI’m having a difficult time reconciling the new found bank profitability driving more executive bonuses to this article at the WSJ. It’s called “Troubles for ‘Prime Borrowers Intensify” and it has some startling data. First there’s these numbers on prime mortgages which are undoubtedly creating some of the problems at the FHA that’s fueling rumors of the need for yet another bailout.

The mortgage-delinquency rate among so-called subprime borrowers reached 25% in the first quarter but appears to be leveling off, rising only slightly in the second quarter. The pace of delinquencies for prime borrowers is accelerating. Since prime loans account for 80% of U.S. bank exposure to mortgages and credit cards, these losses could ultimately exceed those from weaker borrowers.

Losses are also mounting in that group for credit card debt. This is because of the increased duration of unemployment for many folks. They basically are tapped out and don’t even have their home equity as a source of potential liquidity. Since unemployment, and especially duration is not really on the mend, how long can this go on before bank capital takes a hit again?

In addition to cutting back on spending, strapped prime borrowers often can keep up with their bills longer than subprime borrowers by draining savings accounts, reducing contributions to retirement plans and turning to family members for money. They also are typically slower than subprime customers to seek help for financial problems because they are concerned about the stigma associated with such assistance, credit counselors say.

About 40% of the strapped consumers seeking help from the OnTrack Financial Education & Counseling center in Asheville, N.C., are prime borrowers, up from 15% last year, says Tom Luzon, director of counseling services at the United Way agency. Many of these clients already scaled back their lifestyles after losing their jobs or seeing their salaries slashed. Some are small-business owners whose companies foundered as a result of the recession.

“They have made adjustments and made adjustments, but then you get to a point where you can’t adjust anymore,” says Mr. Luzon, who is a former banker.

“People who are middle-class wage earners initially may have severance pay and think they have plenty of time to find a job, but then they start using credit cards to support living expenses,” he says.

So, my question is this. If some of the original bank profitability recently has been due the availability of cheap funds through the FED, TARP, and other government sources, if prime borrowers are now having increased difficulty paying their obligations, what happens to bank profitability if the government funds dry up? How long do we have to keep propping the banks up while they merrily repeat the same portfolio decisions that can’t work once the market rates are back at market levels? Also, how are they going to absorb these increasing level of loan losses?

I frankly can’t see the end to banks requiring cheap sources of funds like the Fed window. I can’t believe the economy is going to recover fast enough for this to change. How long will we have to infuse the banks with tax payer dollars and on-the-cheap loans through the discount window? I don’t think most of these institutions could function without it.

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Subprime Mortgage Myths

Yuliya Demyanyk, a senior research economist at the Cleveland Fed, has done a fascinating job debunking some of the bigger memes floating around main stream media outlets about the Subprime Mortgage Market. Her Economic Commentary piece here distills the more germane information found in the research published here. Her bottom line is that it was not so much the meltdown of the subprime market with its components of interest rate resets, declining underwriting standards, and declining home values that contributed to the systemic problems creating the big financial meltdown. She argues that it was the interplay between that market and the securitization process, lending and housing booms, and leveraging

One of the biggest myths surrounding the subprime market is that subprime mortgages are given solely to borrowers with impaired right-wingcredit. Demyank and her fellow reseacher Van Hemmert found that many folks actually wound up in certain subprime loans not because of their credit history (which was not impaired) but the fact that certain loans were only available in the subprime market because that was the type of loan demanded by the securitization market.

But mortgages could also be labeled subprime if they were originated by a lender specializing in high-cost loans—although not all high-cost loans are subprime. Also, unusual types of mortgages generally not available in the prime market, such as “2/28 hybrids,” which switch to an adjustable interest rate after only two years of a fixed rate, would be labeled subprime even if they were given to borrowers with credit scores that were sufficiently high to qualify for prime mortgage loans. This is very good for a credit repair company with money-back guarantee because they get clients that are above prime for subprime rates.

The process of securitizing a loan could also affect its subprime designation. Many subprime mortgages were securitized and sold on the secondary market. Securitizers rank ordered pools of mortgages from the most to the least risky at the time of securitization, basing the ranking on a combination of several risk factors, such as credit score, loan-to-value and debt-to-income ratios, etc. The most risky pools would become a part of a subprime security. All the loans in that security would be labeled subprime, regardless of the borrowers’ credit score.

Mortgage originators may have directed some folks to these loans based on the characteristics of the loan, not necessarily the characteristics of the buyer.

A second myth debunked by the research is the idea that subprime mortgages were used to promote home ownership. By slicing and dicing the lending data base, the two researchers found some interesting numbers as they relate to overall homeownership statistics.

The availability of subprime mortgages in the United States did not facilitate increased homeownership. Between 2000 and 2006, approximately one million borrowers took subprime mortgages to finance the purchase of their first home. These subprime loans did contribute to an increased level of homeownership in the country—at the time of mortgage origination. Unfortunately, many homebuyers with subprime loans defaulted within a couple of years of origination. The number of such defaults outweighs the number of first-time homebuyers with subprime mortgages.

Given that there were more defaults among all (not just first-time) homebuyers with subprime loans than there were first-time homebuyers with subprime loans, it is impossible to conclude that subprime mortgages promoted homeownership.

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Unraveling the Greed

satellite photo after hurricane katrinia poland aveI remember during my Hurricane Katrina Exile from New Orleans that I was invited by a good friend and colleague to attend a gathering of social workers and others to discuss the impact of being “unbanked” and hearing about predatory lending practices. For about two years, I did several research papers and gathered quite a collection of stock prices and balance sheet information on DiTech, Advance America, Dollar Financial, and other credit type companies that provide a bevy of financial services to the poor. At the time, I also put Wells Fargo into that mix. I was studying the impact of monetary policy on this little studied area of financial institutions. I basically argued that the increasing reliance on this type of company for debt financing and the potential volatility in their portfolios could explode and impact the larger financial markets. I’m looking back at my paper (dated December 6, 2006) and remembering how everyone thought that a trivial question at the time it was presented.

Here are some questions that I asked in my introduction.

Traditional lenders achieve profits from low operating costs and positive interest rate spreads. Credit Services Companies hold risky assets, charge numerous fees (some not covered by Truth-in-Lending Laws), and have higher than normal interest rates due to the nature of the borrower or the loan. Some of these companies are associated with banks that have fiduciary responsibilities. Others rely on commercial paper or retained earnings to finance loans. Companies such as Dollar Financial specialize in servicing the consumers called the “unbanked” or “underbanked”. They charge fees to cash checks and receive fees from utilities to take payments from cash paying customers. Franklin Credit specializes in subprime lending in the mortgage area.

One of the most interesting trends in this particular business has been the spread of credit service company branches into poor and working class neighborhoods vacated by traditional financial institutions. It is really difficult to drive around a poor neighborhood and find a bank branch these days. It is very easy to find a branch of a credit services company on nearly every block. Credit service companies are also aggressive marketers. GMAC, traditionally the lending arm of General Motors for floor plan loans to dealers and car loans to those unable to get bank loans is the parent company of Ditech; undoubtedly the most over-advertised Credit Service Company on television.

Do these companies respond to interest rate movements and volatility in rates the same way that more traditional financial institutions like banks do? Do their already high spreads protect them? Do their many fees provide them with some insulation from interest rate movement? OR will many of the come crashing down in a period of high interest rates or an economic downturn? What will this mean to the high number of un-banked? The Federal Reserve Bank, GNMA and FNMA have developed an interest in credit sector companies recently. Sallie Mae is under some scrutiny by Congress for its considerable profits. The Fed reports and monitors those credit companies owned by bank holding companies. Their aggregate financial data is published monthly at the Board of Governor’s Website. There appears to be increasing interest by many parties in these financial institutions but little is understood about how their explosive growth will impact the financial system at large.

I basically had to quit the research line at the time and switch to something less ‘kitschy’ as one senior researcher told me. However, I keep going back to my work on predatory lenders when I read something like this in the NY Times:

Bank Accused of Pushing Mortgage Deals on Blacks.

right wingI was aware that there were a lot of lending seminars going on in my neighborhood. I live in the ninth ward in New Orleans. My neighborhood is the very antithesis to the gated suburban community. I am the minority here. These seminars were sponsored most times by ACORN (their HQ is less than a mile from my house) and local churches. I used to get fliers all the time on my front door of the little house I bought with my FHA loan. Wells Fargo has my loan now. My loan probably qualifies under the CRA. I wish I still had the fliers or that I actually had gone to one of the meetings, because I thought it odd that these seminars would be offering chances to meet with actual lenders. I was never motivated to actually go to one.

It came as no surprise to me then to read this in the NY Times article.

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