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Memo to Shaun Donovan: Your Nose is Getting So Long You Need to Get a Hacksaw

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I know I owe readers some comments on the mortgage settlement, but that will have to wait a few days, since I need to pack to go to DC later this AM. But that will give me more time to digest the voluminous filings, and at least as important, the onslaught of spin.

For a good overview, read The Subprime Shakeout (hat tip Deontos), with one major caveat: he is far too positive about the servicing reforms. Servicers have not only never met these standards, they cannot meet these standards. The sorry history has been that servicers lose boatloads of money servicing highly delinquent portfolios, make a hash of it and cheat to recoup the losses.

But I couldn’t let this bit of propaganda go without comment. From the settlement FAQ:

Q: Will investors in mortgage-backed securities ultimately pay for part of this settlement?

A: Participating banks own the vast majority of the mortgage loans that this settlement is expected to affect. The settlement could affect some investor-owned loans, depending on existing agreements servicers have with those investors.

When banks weigh which mortgage loans to modify as part of this settlement, they will do so based on first analyzing the costs and the benefits of minimizing their losses. If a loan modification, including principal reduction, is projected to cost the creditor or investor less than foreclosure, the creditor will earn more on that loan.

In other words, this settlement will not force investors to incur losses. That’s because any loan modification tied to this settlement will result in more of a financial return for an investor than a foreclosure would.

OK, readers: did you notice how the question in the headline is never answered properly? The answer is YES. Bet you’d never conclude that from the verbiage that follows. Instead it starts off on the utter irrelevance of “mortgage loans that this settlement is expected to affect.” We’re not talking about numbers of mortgages or the many ways they can be “affected,” which is certain to mean something more than just loan modifications.

This is nowhere near as hard as settlement propagandist in chief Shaun Donavan is trying to make it. The banks are getting a 45% credit for modifying mortgages they don’t own. They will do that all day in preference to modifying their own mortgages, except in those cases where they would have modified them anyhow.

And since the banks are held to a total dollar target, and can use mods of other people’s mortgages to meet this target, they are using other people’s money to pay off their misdeeds. There are no two ways about it.

Now HUD may actually live in a parallel universe where they “expect” that the banks will operate against their economic interest and prefer to modify bank owned mortgages. If Donovan and his staff are so dumb that they believe it, as opposed to running clearly phony expectations by the media, they aren’t qualified to run a dog pound, much the less a major Federal agency.

Now I can push numbers around, and sorta make them work. For instance, forgetting all those other “affected” mortgages, if you assume every first mortgage modified also has a bank owned second trailing behind, and if you assume 75% of the first mortgages modified belong to investors and 25% to banks, you get 62.5% of the total NUMBER modified coming from banks. But the dollar value of a first mortgage greatly exceeds a second, so the dollars involved even in this strained scenario would wind up taking more out of investors than banks.

Remember, the investor beef is not that they are anti-mod per se, but they want the seconds wiped out before the first mortgages are touched. The second lien investors knew they were second in line and got a higher interest rate as a result. Moreover, had investors had a seat at the table, you can be sure there are other servicing abuses they would have insisted be corrected, so railroading them benefits the banks in other ways too.

And as much as investors GENERALLY would prefer mods to foreclosures, in the sense there is a great deal of room to cut a deal when foreclosures on subprime loans deliver typical loss severities and will rise unless servicers quit attenuating foreclosures (unlikely), this statement is not true either:

That’s because any loan modification tied to this settlement will result in more of a financial return for an investor than a foreclosure would.

No.

If you are an investor in the lowest paying tranche, you are getting interest only and benefit from attenuated foreclosures. You’d much prefer the status quo. A mod would reduce your income. Perversely, if you are in the top tranche that is left, you may also well be hurt by a mod. Principal losses on foreclosures are effectively distributed from the bottom of the waterfall up. Mods are distributed pro rata across all classes. If the settlement resulting in servicers speeding up foreclosures (unlikely, but we could be wrong, but faster foreclosures would reduce the amount of advances that effectively steal from the top tranches and distribute principal to the lower tranches via interest payments after the borrower had quit paying) top tranche investors will do worse with principal mods.

Put it another way: Donovan gave the Association of Mortgage Investors a long preview of the deal in its advanced stages, and they knew then their ox was being gored. The AMI released a statement critical of the deal and is quite clear that its members’ funds are being expropriated to pay for bank misdeeds. Key sections:

The Association of Mortgage Investors (AMI) represents the managers of mutual funds and long-term investors for state and local pension and retirement funds for a range of public institutions, including unions, teachers, and first-responders…

AMI has been on-the-record as supporting a settlement of claims against the mortgage servicers, provided that it does not harm average Americans and their 401Ks. This means that any settlement must be appropriately designed to address such alleged wrongdoing while not settling with the money of innocent parties. The retirement security of these innocent parties will likely be impacted by this settlement as it is currently filed..

As the federal court reviews the final settlement, AMI asks that the following changes be made on behalf of all investors:

Transparency. The NPV (net present value) model incorporated into the settlement must consider all of a borrower’s debts, be national in scope, transparent, and publicly disclosed; the NPV model must be developed by an independent third-party. An incorrect NPV model likely will lead to further re-defaults and further harm distressed homeowners.

Monetary Cap to Protect Public Institutions. As intended, the settlement causes financial loss to the abusers (the bank servicers and their affiliates). Unfortunately, the settlement is expected to also draw billions of dollars from those not a party to the settlement, including public institutions, unions, and individual investors. It places first and second lien priority in conflict with its original construct thereby increasing future homeowner mortgage credit costs. It is unfair to settle claims against the robosigners with other people’s funds. While we request that it not be done, at a minimum we request that a meaningful cap be placed on the dollar amount of the settlement satisfied by innocent parties. Again, restitution should come from those who are settling these claims, and lien priority must be respected.

You get the message. The AMI, sadly, is begging rather than trying to derail the settlement. And since banks have abused and lied to both investors and borrowers, and are getting a back door bailout rather than a kick in the butt, there is every reason for them to persist in their bad habits.

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51 comments

  1. LucyLulu

    “Bank of America spokesman Rick Simon said the bank has agreed to eliminate the entire underwater portion of some mortgages that it owns or services for other investors, with the average reduction expected to be more than $100,000. Most of the eligible mortgages were originated by Countrywide Financial Corp., the Calabasas, Calif., home lender that Bank of America acquired in 2008.”

    Read more here: http://www.newsobserver.com/2012/03/09/1919974/bank-of-america-to-cut-principal.html

  2. vlade

    “When banks weigh which mortgage loans to modify as part of this settlement, they will do so based on first analyzing the costs and the benefits of minimizing THEIR losses. If a loan modification, including principal reduction, is projected to cost the creditor or investor less than foreclosure, the creditor will earn more on that loan.”

    they actually admit that banks will select to minimize bank’s losses, but mislead by subtly switching the next sentence to talk about investors and creditors (so that if you don’t read it carefully you get the impression that they will minimize their losses).

    Nice (not).

    1. jake chase

      Clearly, the purpose of the settlement has nothing to do with housing and everything to do with relieving banks from liability. The resulting modifications will be too small to matter, house prices will remain far too high, few houses will change hands, homeowners will remain under water. Everything points to continued deflation, continuing unemployment. Chances are the next economic good news will be a war. Looks like 1938 to me.

  3. CB

    If Donovan were running a dog pound, there’d be piles of carcasses hauled away daily. Lose his license, he would.

    1. kravitz

      The NYT says HUD has a report which shows they types of fraud banks got away with. It doesn’t link to the report. Perhaps HUD can be forced to release it.

      As part of their own continuing fraud, HUD put up a ‘Myth/Fact’ page that could make one’s head explode if you haven’t had enough coffee.

      For example

      Myth:    Americans who lost their homes will only receive $2000 in compensation.

      Myth:    The settlement will be paid on the backs of teachers, firefighter and unions because of pension or other investments in private label securities.

      Myth:    Banks will not be held responsible for their actions related to origination and securitization practices.

      http://blog.hud.gov/2012/03/12/myth-vs-fact-setting-the-record-straight-about-historic-mortgage-servicing-settlement/

      Now, peek again at the NYT story (linked elsewhere but one more time, why not.)

      http://www.nytimes.com/2012/03/13/business/federal-report-cites-bank-officials-in-foreclosure-surge.html?_r=2

      So HUD is again admitting they know what banks did. And chose to screw the public anyway?

      I notice Eric Schneiderman is in hiding…..

  4. LucyLulu

    Have a good trip to DC!

    Don’t worry about the consent orders. There isn’t anything exciting, just more of the same…… things like notaries must be present when documents signed, affiants must be knowledgeable of facts they attest to, can’t tack on extra charges to proof of claims in bankruptcy proceedings, must provide borrower with name of investor and payment history if requested, provide sufficient staff training, the usual nit-picky stuff the government expects.

  5. CB

    What might the AMI think is in it for them by playing nice? They have other options, so they’ve made a choice based on some calculation of benefit. One would think.

    1. Yves Smith Post author

      I think you have this wrong. An AMI member compared his colleagues to Jews being led to the gas chambers. They don’t see the point in fighting an inevitable outcome.

      1. CB

        Could be taken as demonstrable proof of the lawlessness America has descended to: no point in putting up a fight, we’ll lose in any case.

      2. Allen C

        No one is dying, directly anyways. The AMI could at least be more critical. This resignation and acceptance that the US has effectively gone third world is almost as troubling as the crime.

        1. CB

          Were America not going banana republic, the crime might never have happened. That’s really disturbing because it means banana republic lawlessness precipitated the debacle, which, I believe, it did.

      3. Conscience of a Conservative

        You do your readers a dis-service when making analogies such as this. Jews were not led into gas chambers but uprooted from their homes and forced. Many fought back and died. You may wish to read up on the Bielski Brigade.

          1. ambrit

            Dear revisionist friends;
            Or read Hannah Arendts’ “Eichman in Jerusalem,” for a description of how it was really done. It has been argued that if a significant percentage of the Jewish population had fought the deportations, the Reich would have gone up in flames much earlier. The revolts at Treblinka and Sobibor were remarkable because of their uniqueness. The partisans, as far as I can ascertain, were the creations of the Russian Party Cadres, and often virulently anti-semitic themselves.
            The best counter argument I can make is the Warsaw Ghetto Uprising. I had the good fortune to have known somewhat a friend of my fathers named Kopel, who fought in the Uprising as a young man, and subsequently escaped to Sweden. He had two 7.62mm rounds still in him as proof. He once told of the two week wait as Stalin made the Red Army stand still outside of Warsaw to let the Fascists crush the Jewish Resistance. “We knew the b——s were there, and we knew they wanted us dead.”

          2. vlade

            Since we’re already off-topic:
            @ambrit re Stalin.

            I can see how one would feel like that – but the other side of the coin is that Operation Bagration that got Soviets just east of Vistula was about spent at the time – after all, Soviets made about 400 miles advance (Vitebsk-Warsaw)in the two months (against a German army, who weren’t walkovers even in 1944), with almost 800,000 casualties (and that was HUGE at the time. Despite the popular belief, in ’44 Soviet army was much more capital than manpower intensive. Compare with 400k German casualties. Attacking against prepared defences with 2:1 losses is not bad by any standards).

            I’m not saying that Stalin wanted to help Warsaw uprising – it’s unlikely.

            On the other hand, it’s also unlikely he would be able to do so even if he wanted to do so.

            Red Army was just too fought out to be an effective force. In fact, they attacked on 3 August in east Warsaw but were repulsed, and were being stopped more or less along the line IIRC. It cost them much more to capture Warsaw later on (not that a consideration like that would have stopped Stalin).

            One large reason was that their supply lines were just too stretched (Allies would find the same problem about a month later with Operation Market Garden – you just can push only so far at any given time). By the time they got this in order and renewed the push (late August), it was too late for the uprising – and Polish 1st Army paid the price (BTW, if you want an argumen for lack of Soviet support, this would be much much better case. 1st Polish got virtually no support from Soviets in their efforts).

            Though I doubt helping the uprising was putting any pressure on Soviet’s schedule…

            Talking about uprisings, Prague one in May 45 was abandoned by Americans for political reasons (to let Soviets get there first, aka demarcation line), even when they could get there and Prague’s German garisson would love to surrender to them (in fact, some of US recon units were already in Prague’s suburbs).

            Ironical bit there is that the Russian Liberation Army (former Russian PoWs who volunteered to fight for Germany against Soviets) helped the uprising – and got the gulag (or a bullet) for the effort.

        1. Yves Smith Post author

          Conscience,

          Reading comprehension fail!

          I’m quoting a member of the AMI. Don’t blame me for someone else’s appetite for overly vivid metaphors.

          1. Conscience of a conservative

            No I get it,
            it’s like repeating an offensive remark. There were better comparisons.

        2. beowulf

          James, You’re right. Excellent flick.

          AMI’s “more pudding please, sir” attitude is baffling. I’ve seen dry cleaners in small claims court take things more seriously , and we’re talking about billions of dollars here.
          They need to be throwing a truckload of wrenches into the works. Not giving first liens absolute priority over second liens is a breach of every single trust agreement, assuming the trusts are valid anyway. A settlement between two sides that requires a third party to pay up is a violation of Due Process, that one of the sides is the US and 49 of 50 state govts makes it a Takings Clause issue, and so on.

          1. DanJS

            Why the shyness…. They are “money managers.” It’s not their money, never was, and never will be.

            No accountability at any level! No shame for not fulfulling fiduciary responsibility!

            Our moral foundations are in a shambles and no one “has eyes to see.” Not the spiritual amongst us nor the “innocent babes” — “The Emporer has no clothes.”

            The first step to any redemption is honestly recognizing a sin against God, against others, and against one’s own conscience. Only then can any reconstruction of consequence occur.

      4. Lambert Strether

        But why do they see it as “inevitable”? Or is it TINA?

        Are they “professionals” who get their cut regardless of whether the pensions under their control get looted?

        And does this amount to a transfer of wealth from retirement funds to the banks?

        1. Tim

          Yeah, it finally dawned on me that one of the inevitable outcomes over the next decade is the mainstream of people will given up 100% on relying on someone else to manage their money.

          Mutual funds? nope. Pension? No thanks, give me an extra matching percentage on my 401k and I’ll manage my own allocations through indexed etfs.

          A whole generation of financial brokerages are going to go up in smoke just like the money they had custodial responsibility for years earlier.

        2. Doug Terpstra

          Yes, Lambert. As Lily Tomlin said, “No matter how cynical you get, it’s impossible to keep up.”

          If AMI management is not kicking and screaming to stop this raw deal dead in its tracks by any means necessary, it’s a fair reading that they’ve been coopted It’s not their hide being tanned directly, and fiduciary trust is just so old-fashioned anyway. Their feeble protests sound to much like the Obama posture-and-cave playbook.

  6. LucyLulu

    Another tidbit reducing the final amount of the settlement per Housing Wire. Servicers will receive additional credit for writedowns and refinances made during the first year of the agreement.

    “For every dollar in principal written down in the first year after the servicers sign on, an extra 25 cents will be credited toward the $10 billion commitment — on top of the full dollar amount considered satisfied. The bonus incentive will likely push servicers to write down as much as possible in the first year, in order to ultimately write down less. It applies to second-lien write-downs and refinances as well.”

    http://www.housingwire.com/article/servicers-urged-write-down-principal-quicker-under-ag-settlement

  7. Conscience of a Conservative

    Instead of using Shaun Donovan, it would have been more honest to whip out Tom Hanks with directorial supervision by Davis Guggenheim.

  8. Justicia

    Donovan and the AG sell-outs had better hurry up and bury the carcass. The stench is rising and the banks can’t blame it on the underlings:

    NY Times
    Bank Officials Cited in Churn of Foreclosures

    Managers at major banks ignored widespread errors in the foreclosure process, in some cases instructing employees to adopt make-believe titles and speed documents through the system despite internal objections, according to a wide-ranging review by federal investigators.

    http://www.nytimes.com/2012/03/13/business/federal-report-cites-bank-officials-in-foreclosure-surge.html?_r=1

  9. Rebel Cole

    In my opinion, this is the money quote:

    “Remember, the investor beef is not that they are anti-mod per se, but they want the seconds wiped out before the first mortgages are touched. The second lien investors knew they were second in line and got a higher interest rate as a result.”

    This is all about saving the big four banks from having to write down $400 billion in second liens by 70%. What would a $70 billion hit do to BofA and WFC? No wonder the Fed and OCC were on board this railroading of investors.

  10. Susan the other

    Looking forward to your comments after DC. I can’t really imagine what Summers, et. al. will be suggesting to turn this economy around.

  11. Brooklin Bridge

    The reader comments regarding an article on underwater homes at Huff Po are simply breath taking in their ignorance and conformity to the owner’s propaganda – the great American guilt trip – or owning responsibility.

    No matter how much you are lied to, no matter the tsunami of government and industry hype about the ease and profitability of home ownership, no matter what illegal procedures the giant banks use against the witless little guy, no matter the banks escape all consequences and the tax payer ends up footing the entire bill, the little guy is still entirely responsible for the whole mess. This isn’t some nasty right wing zombie with the bones of children falling out of his mouth. It’s just about 100% of the readers of a so called liberal binary rag all clapping together as if Rush himself had blown the dog whistle. You have to read this shit to believe it.

    We are a nation of zombies that will swallow whatever propaganda we are fed as long as it feeds and perpetuates the great American romance with selfishness.

      1. Brooklin Bridge

        Thanks for the link, indeed it’s a compelling, interesting and unhappy tale. We have certainly carried the seeds of our own destruction all this time, but it seems to me there have been various periods where we might well have escaped our fate. We came close after the great depression for instance.

        Be that as it may, given the negative momentum we have built up over the last forty years (never mind the last four hundred), and the fact that the “hustler/cannibal” part of us is still cranking up the volume to beat the band, things look grim indeed.

        Last observation, I think the phenomenon is more global than perhaps Morris Berman suggests (I could easily be misreading him). He speaks of Europe and Mexico as if they were somehow apart from what’s going on. Perhaps in small enclaves one can temporarily escape the drum beat to hell, but those are to a large degree simply vestiges of times before the owners were technologically so deeply permeated throughout the globe.

  12. brian

    Exhibit A regardlng the corruption of the Obama administration
    for the first time since 1972 i will not vote for a democrat for president

  13. Publius

    I still don’t understand why, if Donovan is so gung-ho about principal reductions, he doesn’t propose principal reductions on the 730K+ seriously delinquent FHA-insured loans?

  14. jpmist

    The mortgage back security investor isn’t all that worried about this. I state that because the Mortgage REIT stocks that invest in Mortgage Backed Securities that I follow haven’t had anything evenly remotely close to a sell off.

    According to the “National Mortgage Settlement” web site “Loans owned by Fannie Mae or Freddie Mac are not impacted by this settlement.” There’s also language in the Chase settlement docs that specifically states that only servicer (bank) owned mortgages were eligible for refinancing.

    I applaud AMI’s pushback, but the dollar amount of the private MBS they’re concerned with pales in comparison to what Fannie and Freddie were selling during the last decade. Additionally the trustees of each MBS have full control over who services their securities. I can’t imagine them not moving their servicing to a bank not involved in the settlement.

    Overall the effect on private investors is going to be very slight.

    1. steelhead23

      While I do not doubt the veracity of your statements, I find the gist deeply disturbing. There appears to be a substantial owner-agent conflict here. Imagine yourself a pensioner, wholly dependent on your pension income. Then imagine yourself a pension fund manager, whose job depends on hitting a certain return on investment, but benefiting from an array of relationships with the money players, including such niceties as countryclub membership, access to inside information, and other accouterments of the sycophants to the 1%. If the assets in a trust are reduced by loan mods – eventually payments on those bonds would decrease. Even then, pension outflows may not go down as the fund could make believe that all those 50 year olds planning for retirement would die before retiring and draw the fund down to pay current beneficiaries. By the time our hapless future retirees are in on the ruse, the agent who managed their pension to extinction is happily retired himself, with no recourse and no loss of happiness.

      Perhaps the owner-agent conflict is not as severe as I paint it above, but only those investors in MBS for personal gain have the clear incentive to take a bite out of the banksters. That is truly frightening and suggests that the only way to ensure that one’s own interests are being served in their retirement planning is to do the work themselves. Yet, few are prepared to do so. Basically, without a government that truly aims to protect the 99, the system is becoming hopelessly corrupt.

      1. jpmist

        HousingWire has a good post on pooling and servicing agreements. (PSA) http://www.housingwire.com/article/no-one-size-fits-all-pooling-and-servicing-agreements

        Basically the trustee has to adhere to the specific legal agreement in regard to principal mods, the banks acting as servicers simply can’t force a mod without a time consuming lawsuit.

        It goes on to point out that the PSAs aren’t completely standardized over the entire MBS landscape.

        It seems to be that it would be faster and easier for the banks to modify their owned mortgages at a 25¢ premium than to individually litigate the private MBSs they don’t own.

        He quotes an attorney experienced in RMBS lawsuits: “In my experience, some pooling and servicing agreements offer more room for modifications than others,” he explained. “Variations range from a lack of express limitations on modifications, to limitations as to the percentage of loans that can be modified, to an outright prohibition on modifications.”

        “However, other provisions of the agreement could also limit the types or methods of modifications,” he added. “For example, a servicing standard that requires acting in the best interest of the trust could limit modifications that benefit the servicer rather than the investors.”

  15. proximity1

    ABOUT:

    Susan the other says:
    March 13, 2012 at 11:00 am

    Looking forward to your comments after DC. I can’t really imagine what Summers, et. al. will be suggesting to turn this economy around.

    Reply
    • CB says:
    March 13, 2012 at 11:03 am

    Whatever it is, it won’t have been his fault we got to this pass.

    I’d then recommend for both of you a fascinating book by Janine Wedel, Shadow Elite: How the World’s New Power Brokers Undermine Democracy, Government, and the Free Market — don’t let the title fool you. This is not a crackpot conspiracist’s work, it’s a valuable fact-and-experience-based account of a certain very nefarious style of networking which the general public ignores at its peril.

    And, on the contrary, Larry Summers has had a lot to do with our “coming to this pass”, as have others such as Robert Rubin, for example.

    … Andre Schleifer was a protoge of Summers and on intimate terms with him. Their relationship began in the 1970s with Summers as Schleifer’s mentor and professor (Schleifer credits Summers with inspiring him to study economics), and continued in walks on the beach at Turo on Cape Cod, where their families vacationed together. In addition to being close friends, the two were coauthors joint grant recipients and facutly colleagues and allies at Harvard. Schleifer’s wife, Nancy Zimmerman, a specialist in the high-finance area of global, fixed-income securities markets, was frequently consulted by Summers and David Lipton. (Lipton had been Summers’s deputy at Treasury responsible for eastern Europe and the former Soviet Union and earlier (Jeffrey) Sachs’s sidekick and vice president of Jeffrey D. Sachs and Associates.) Summers reportedly dubbed the quartet “our little world.”

    –from page 118

    links: http://www.perseusbooksgroup.com/basic/book_detail.jsp?isbn=0465091067

    Janine Wedel : http://janinewedel.info/

    1. kravitz

      sounds like PR spin to get him back in the graces of people still pissed at him.

      Didn’t Lawrence O’Donnell say something about that ‘spin’ word?

      1. Brooklin Bridge

        Remember that suit Schneiderman “carved out”? His last claim to self respect? Check out Dave Dyden’s article on FDL,

        Well, so much for that. Schneiderman settled the MERS suit with the three banks and two others, for, get this, a measly $25 million. And look, the Delaware and Massachusetts suits against MERS were folded into it as well.

        1. Lambert Strether

          Gee, that was fast. I mean, even faster than user. The cycle from hope to rot used to be measured in years. Now it’s months, maybe even weeks. Double down, people, double down…

    2. Brooklin Bridge

      I keep forgetting that Schneiderman will be walking away from this sham deal any day now…

  16. cirsium

    response to ambrit (March 13, 2012 at 7:14 am)

    ambrit – the Warsaw Ghetto was destroyed in 1943. The Warsaw Uprising was in 1944. The Soviet army halted its advance outside Warsaw and waited while the Nazis destroyed the city and the resisters.

  17. Jack M.Hoff

    Really now, why all the tears over investors possibly losing money? They are the lynchpins to the whole mess and are those who really do need to lose it. After all, if they get their fingers burned up to their elbows they won’t be near so likely to play these money games that end up screwing those who mind their own business. Its the pension funds needing to achieve an 8-10% rate of return that supplied all the hot money to fuel the whole damn debacle. And why do they need such a high rate of return? To try fulfilling their promises of continuing top salaries and top rate health insurance for retire’s. Its unsustainable for them all without screwing the bystanders.

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