Second Mortgage Mod Headfake: BlackRock Tries to Jawbone Banks Because Treasury Won’t

Things are suddenly getting very interesting…

Readers may have taken note that the Treasury has launched a son of HAMP, its ineffective program to get banks to provide undertake mortgage modifications, called 2MP.

As far as I can tell, 2MP is a farce. It is simply another back door way to recapitalize troubled banks. Mike Konzcal performed a simple analysis of the portfolios of the biggest second mortgage holders, Bank of America, Citi, JP Morgan, and Wells, and using conservative loss assumptions, estimated the gang of four had a total $150 billion hole on their balance sheet among them.

2MP appears to be designed to shovel $50 billion of TARP funds into this hole, with dubious benefits to borrowers. From the Treasury web site:

Under 2MP, with their investor’s guidance, a mortgage servicer may:

* Reduce the interest rate to 1% for second liens that pay both principal and interest (amortizing)
* Reduce the interest rate to 1% amortizing or 2% interest-only for interest-only second liens
* Extend the term of the second lien to 40 years
* If the principal was deferred (through forbearance) or forgiven on the first lien, a servicer must forbear the same proportion on the second lien; although a servicer may, in its discretion, forgive any portion or all of the second lien and receive incentives for doing so

Yves here. So second mortgages for troubled borrowers, which by any logic have little to no economic value, are going to be propped up in a peculiar effort to suck more blood out of consumers (as opposed to writing them down, as normal market practice would dictate). And in case you think I am exaggerating, when Barney Frank issued a stern letter in early March urging banks to write down seconds, the banks argued that they needed to have “accounting guidance” from regulators on how to deal with (as in lie about) the shortfall on their balance sheet. It isn’t hard to see this as a demand for either even greater “extend and pretend” or a subsidy, which Treasury has now provided.

These moves simply serve to pretend that paper which in many instances has little to no economic value is actually worth something. We’ve now moved from the banks using seconds as an excuse not to do mortgage mods to now using them as an excuse to extort yet more money from the taxpayer.

An interesting new element has moved into the dynamic, in the form of a salvo from BlackRock, the largest credit markets money manager in the world. Now that the Fed has officially exited the manipulate the mortgage markets business, BlackRock is making it loud and clear what it needs to have happen before it will buy non-government guaranteed mortgage paper. It stance is a direct attack on the second mortgage holders’ intransigence. From the Financial Times:

BlackRock, a leading US bond investor, says banks will have to take their share of losses on distressed mortgages before it resumes large-scale purchases of new “private-label” mortgage bonds, which are sold without government backing…

The return of private investors to the US mortgage market, now mostly financed through government-backed agencies, could have a big effect on mortgage rates and the speed of the housing recovery. Efforts to restore confidence among investors have so far failed.

Disputes between investors and banks have erupted over riskier second mortgages, also called home equity loans. Many US homeowners who are behind on their payments took out two or more home loans. First mortgages were typically packaged into securities and sold to investors, while second mortgages were often kept by banks.

These “second-lien” mortgages should take losses first, in theory. But the holders of such debts have not always agreed to absorb hits before “first-lien” mortgage holders. US government programmes to restructure such debts have been slowed by these complications.

Mr Arledge told the FT BlackRock, which is primarily a first-lien investor, had focused on the interaction with second-lien holders in the US mortgage modification programmes. “If [modifications] are done in such a way that is not fair . . . it will be a real challenge for the mortgage market to move forward.”

Yves here. While the message may be understated, the implications are clear. Unless the banks (and regulators who can pressure them) get banks to quit trying to extract more from seconds than they are worth, first mortgage buyers (folks like BlackRock) are not willing to be toyed with again. Seniority means something, and the banks in effect are undermining the rights of first mortgage investors.

In Japan, foreign pressure was often used as an excuse by the officialdom for them to do something they wanted to do but was politically difficult. It may take investor pressure to provided the needed backbone infusion to the the Treasury and other regulators to get them to take a more forceful stand on the second mortgage mess. Unfortunately, having just announced 2MP, we may need to see that policy officially fail (as in suck the TARP money out of Treasury, which may be the real objective anyhow) before any new measures are taken.

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  1. Cathryn Mataga

    If Northern California (where I live) is
    ever destroyed by an earthquake, I feel confident
    the US Government will be there to make sure that
    the banks don’t suffer any losses.

  2. attempter

    In Japan, foreign pressure was often used as an excuse by the officialdom for them to do something they wanted to do but was politically difficult. It may take investor pressure to provided the needed backbone infusion to the the Treasury and other regulators to get them to take a more forceful stand on the second mortgage mess.

    In those sentences it looks like you’re lapsing into the mindset that Obama and Geithner mean well and want to stop serving as bagmen conveying public loot to the banksters.

    Does any of the evidence support that construction?

    Obama’s both a corporatist by ideology and a status quo elitist by personality (a “right wing authoritarian” in Altemyer’s parlance). He’s been doing almost exactly what he wants to do every step of the way.

    That’s why, for example, everyone correctly laughed and scoffed at his pathetic attempt to excoriate the “fat cats”, which was so obviously out of character and against the grain, while we agreed that when he praised the worst gangsters as “savvy businessmen” who warrant the bonuses, that was the real Obama, speaking from the heart.

    1. Yves Smith Post author

      I think it’s actually more complicated. I think they are genuinely deluded, which is worse. If they were mere cronies, they’d be watching the tea leaves and the power dynamics more carefully. I think they genuinely believe that what is best for the banks is best for the economy. No joke, I am told by progressives on the Hill that conventional wisdom in the Beltway is that the only place America has any competitive advantage any more is financial services.

      Now of course, Obama is clearly a crony too….but I think he believes ALL of his BS, that his center-right position actually stands for slightly left leaning change, etc. Obama has a history of always seeking the consensus position. The man is not a leader.

      So they will follow the course of least resistance. But they need a functioning housing market. Bond investors may now have the upper hand. So Team Obama will rationalize what is required of them by the interplay of forces as being desirable reform.

      1. Brett

        “Now of course, Obama is clearly a crony too….but I think he believes ALL of his BS, that his center-right position actually stands for slightly left leaning change, etc. Obama has a history of always seeking the consensus position. The man is not a leader.”

        It’s as if you’ve been reading my commentary this past year.

        What amazes me is the continued sense of entitlement by the banks. It’s absolutely breathtaking. Though not entirely meritless: given the recent history of action by the Fed and Treasury, bankers have every right to expect these agencies to comply with their request to find ways to generate accounting profits where real loses exist.

        Geithner, Bernanke and Dugan need to find work elsewhere.

        And now we have a deficit summit approaching. Greenspan, Rubin, et al will be trotted out to preach the perils of deficit spending to stimulate the economy . . . and my question is, “where was it, again, our president taught?”

      2. Tom Crowl

        Depressingly, I fear you’re right! It would be so much easier if we found piles of money stashed in their freezers and we could blame this all on simple straight-forward overt corruption.

        The clearly evil are so much easier to handle than the delusionally incompetent.

        A teacher I once had use to say: “The greatest cons are perpetrated by those who believe their own con.”

        Sadly its true.

        And so tragically, the greatest crimes are committed by those who don’t believe they are crimes at all.

        And it doesn’t seem he (or we) are going to wake up… and the social contract will continue to break down.

        Apparently he’s been convinced that our financial services cabal is some great machine of prosperity. It’s a group-think phenomena self-enforced by social isolation.

        He doesn’t have a clue… and few do… that the real source of a nation’s strength is wise and coherent catalyzation of its ‘social energy’ for sustainable health and growth.

        Once the system comes to be seen as rigged in fundamental ways whether by accident or intention, you can kiss any idea of a healthy economy (let alone society) out the window no matter what you do

        A nation that cannibalizes its own is not a nation…

      3. scraping_by

        I can see the Theory A (timid, incompetent, overwhelmed, thumb-sucker, self-important, deluded, etc.) vs. Theory B (lying, dishonest, corrupt, weasly, greedy, self-seeking, etc.) as a good discussion, but it does little to point to behavior modification. If he’s building his post-administration kickback, he’ll keep pleading his own good intentions. If he’s living in a fantasy, every reality-smack will be just jealousy or ignorance.

        I’m personally a Theory B type. It’s less kind, but has a little more respect, to think he’s smart enough to see corruption and embrace it as a free agent. If he’s as dumb as he appears, he’s a worse puppet than Reagan since he has fewer excuses.

        A hybrid notion is that he sees himself as an advocate, and his clients are the Wall Street banksters. This is, after all the American model of legal practice, saying and doing anything for the people who pay you. Which means the Presidency is not a trust but a forum, and we’re not his constituents, just his audience. He is being lawyerly.

  3. KoshemBos

    Holders of 2nd liens not only refuse to lower the mortgage and lower the percentage, they are into the gangster business threatening and harassing mortgage payers.

    1. Eric

      Here’s a crazy idea – payoff the second! While a second is junior to a first in line for the collateral, the seconds are more frequently recourse loans. For any situation where a potential walkaway might have a second lien, it is a reasonable bet that by not paying the first (or paying less on it), the borrower has more money to pay the second. Yes, this is upside down, by why should a second with a recourse provision give much ground for a borrower whose cash flow is getting improved?

      1. Jim

        Good point!

        Indeed, why should anyone be able to walk away from a contractual commitment secured against assets. In the UK this just doesn’t happpen becuase recourse is strictly enforced – my sister-in-law just had to pay off (with no haircut)a mortgage loan taken jointly with her late husband more than 15 years ago.

        Point is, it may seeem harsh, but it allows society to take a hard line against lenders too! If no-one can walk away then that means NO-ONE! Banks included.

      2. MichaelC

        Or alternatively, leave the second in place and refinance the first.

        If the first is in an RMBS pool and the original owner of the RMBS (and the CDO..CDS..)has already taken the hit, and presumably sold it at a discount to a new investor (Blackrock perhaps), then the current RMBS owner can forgive up to (near)the discount and still make money.

        Sure the borrower gets a gift, but if the original loan was fraudulent (which is a virtual certainty per Wm Black), and the underlying borrower was simply acting as the conduit for the shorts, then the fraudulent/incompetent lender bears the loss, and the borrower ends up with a mortgage at the current market value of his house and still owes on the second.

        No need for 2MP

      3. b

        That might apply in Cali, but not in states like Florida where both loans are recourse.

        MichaelC below, I think you have the parties mixed up in your second paragraph. If the majority of seconds are held by lenders, you are making the lenders whole at the expense of the investors if you leave the second in place and refinance the first. It’s the investor that bears the loss in your scenario of the second paragraph.

        1. MichaelC

          Yes, I’m recommending the investors take the hit on the first, which I’m assuming they have already, and let the seconds fend for themselves based on the improved collateral position of the borrower. If the lender benefits and doesn’t need gov’t support for the second,good.

          If I read the 2mp program right the seconds would be bailed out by the gov’t to entice the firsts to be reset. That seems ass backwards. The seconds are riskier than the risky firsts and the lenders should get zero support from the gov’t on those. The investor who bought the RMB at a discount has an incentive to renegotiate the underlying mortgage, which also benefits the second, at no cost to the gov’t.Let them work it out.

  4. charles

    A view from Europe:

    Given the “public”missions of Black Rock-among others assessing the Maiden Lane portfolios- with the ‘results’we
    are seeing coming out-here I would like to remind readers that Black Rock was also the ‘advisor’ of the New York Fed on the AIG portfolio, what does this mean ? In a context in which both FDIC and Hamp are trying to get the mortgage-backed assets ‘resecuritized’ via a government guarantee ( this at least for the FDIC’s bank-seized ‘assets-as if 67 % of the mortgages’total was not enough ), Black Rock plainly knows tha the bank have been walking over FASB
    mark to market rules ? This is the regulatory and enforcement perimeter of the Treasury and SEC, no ? Cronyism 2.0 / 101: Wash, rinse and repeat ?

  5. mikefromArlington

    “These “second-lien” mortgages should take losses first, in theory.”

    mikefromArlington here. Why? So the holders of MBS don’t get hammered?

  6. zpfietsch

    A query to the author: I have been looking for a CDO OM. I have managed to track down some offering circulars but not a full OM. Do you know where I could find one of these tomes?

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