naked capitalism

Only been a few Congressmen have weighed in on the mortgage documentation mess so far, since wrapping up the current Congressional session and campaigning consumes a lot of bandwidth. Nevertheless, I am getting reports from DC that people on the Hill are starting to take the issue of foreclosure document fabrication, errors, and improprieties seriously.

Some signs of motion today: Al Franken of Minnesota (ironically, the state that has implemented the most bank friendly foreclosure regime in the US) sent a letter to the supposed adults in the room (Geithner, Bernanke, Bair, US attorney general Eric Holder, HUD Secretary Shaun Donovan, and Acting Comptroller of the Currency John Walsh). He asked them to investigate servicers, identify individuals who have been harmed by illegal foreclosures, and in particular, hold GMAC and its employees accountable for any criminal misconduct. He also calls for more oversight of servicers. Full text here.

On a different front, Alan Grayson of Florida opened both barrels on what he called foreclosure fraud factories. This video is a tad more staid than his speeches on the floor of the House, but I strongly recommend you watch it. In particular, he gives some examples of people who have gotten caught in the maw of the mortgage doomsday machine (fans of the original Star Trek can pull up a fitting mental image). He presents case examples that are far from the borrower stereotypes that bank defenders like to talk about. He takes aim at document forgeries, and names LPS, Lender Processing Services, as a prime actor.

This video provides a very good overview (with only a few technical lapses, like the use of terms like “mortgage title”).

As we have recounted, people who can’t afford their house generally do not fight to keep it; Those who go to court generally fall into four categories:

1. They think they have suffered servicing errors (note they can compound rapidly because servciers, in contrast to Federal law and the provisions of the mortgage agreement, will take fees out of payments first, when they are supposed to credit monthly payments to principal and interest first, fees second).

2. They believe they are victims of origination fraud

3. They have filed for Chapter 13 bankruptcies (in a Ch. 13, the borrower is supposed to come up with a repayment plan for the benefit of all creditors; the servicers try to break the bankruptcy “stay” which is a legal time out while the borrower gets his plan approved and instead grab the house).

4. They are in government mod programs like HAMP and have been told they will get a mod but the servicer is still proceeding with foreclosure

Some accounts in the mainstream media that point out that the pushback against the abuse of contract and state law can have real upside. As the New York Times notes tonight:

Evictions are expected to slow sharply, housing analysts said, as state and national law enforcement officials shine a light on questionable foreclosure methods revealed by two of the country’s biggest home lenders in the last two weeks…..

Stricken neighborhoods across the country, for example, could benefit. One big factor undermining home sales is fear of a large number of foreclosed homes coming to the market. If the foreclosures are delayed or never happen, housing prices might find a floor.

“Maybe this is like shock therapy,” said the economist Karl E. Case. “Maybe this will actually get the lenders to the table and encourage them to work out deals that are to the benefit of everybody.”

Yves here. The hoped for outcome is that the breakdown in securitization procedures will force servicers and trustees to stop using the securitization as an excuse for not restructuring loans with viable borrowers. Before some readers howl about borrowers getting freebies, consider: it is normal creditor behavior to try to salvage a dud loan. It was also routine behavior not all that long ago when originating banks kept the mortgage loans they made. And note the big reason we have foreclosures grinding on whether or not they are the best course of action for the investors: the parties foreclosing have no incentives to produce the best outcome for the creditors. Servicers continue to advance principal and interest to the trust until the loan is deemed irrecoverable (which means the advances equal the original loan balance). This also creates powerful incentives to foreclose on homes where the borrowers might be viable with a restructured loan (although it can’t be proven from the outside, some industry insiders suspect that servicers are diverting principal repayments, including from refinancings, to pay themselves back for principal and interest advances on delinquencies). This is an even more potent incentive than the widely noted one that servicers also get fees when they foreclose, but do not get any payments to make loan modifications

Now admittedly there is a wee problem in that foreclosures hit mortgages securitizations from the bottom up (bottom tranches take first losses), while the losses on mods are allotted across all tranches (ie, even the AAA tranche will take a hit). But of all the Gordian knots one might consider cutting to resolve this mess, this is far less thorny that other potential angles into the problem.

But while we have at least some recognition that this document mess might force a lancing of the festering mortgage foreclosure infection, a predictable PR pushback is taking shape. From the very beginning, the servicers have taken the position that the document problems are mere “technicalities”. While that’s a stretch even with the affidavits (false affidativs are a fraud on the court), the problem of widespread failures to convey notes to the securitization trust isn’t a “technicality”; it means what were sold as MBS are potentially just unsecured consumer paper. And it goes further than that: if no notes were conveyed at closing, the trust under New York law (and all these trusts elected NY law for the trust operation) was “unfunded” meaning it does not exist (multiple top experts on NY trust law concur on this issue). I sincerely doubt anyone will try that line of argument in court but it gives you an idea of how fundamental these problems are.

But the preferred, and successful, howitzer of the bankster class is being readied. I’m told, but I can’t find the clip, that a segment on CNN Money on Thursday had a speaker who argued that efforts to fight improper foreclosures would “wreck the economy”. Funny, the banks seem to pull out that line whenever they feel really really threatened. It got them the TARP, it may have been used to cow the Obama adminsitration out of nationalizing insolvent big banks (but I suspect Team Obama was looking for any excuse not to inconvenience Wall Street).

But cleaning up the mortgage mess would fix the economy. The uncertainty over when the housing market will clear and how much of bank earnings and reported equity are a function of extend and pretend is impairing credit market activity. Why do you think new mortgage lending is now a subsidiary of the US government? This unhealthy state of affairs is a direct result to the failure to clean out the rot in the mortgage market.

So we have a simple choice, having the rule of law in this country or capitulating to the banks’ false claims that exposing their malfeasance will cause widespread economic harm. In reality, the biggest potential casualty is the financiers’ unwarranted privileged status. That is why they are so quick to resort to fearmongering, to obscure what is really at stake. But the odds are high that we will again accede to overhyped threats to security and sacrifice what should be bedrock principles of a democratic society.