There have been so many
bailouts settlements of various bank mortgage misdeeds that it’s no doubt hard to keep them straight unless you are on this beat. But the short version is I’m delighted at this effort to throw a monkey wrench in the Bank of America settlement. It is a particularly nasty bit of self-dealing among interested parties (Bank of America, the supposed trustee for investors, Bank of New York Mellon, which had plenty of its own liability to bury), a profiteering attorney (Kathy Patrick of Gibbs & Bruns), and “investors” like the New York Fed and fund managers like Blackrock who have reason to be less than return maximizing. There is no doubt that this settlement is a screaming bargain relative to the liability that Bank of America faces on the $242 billion in principal amount of Countrywide bonds in question.
We had discussed the self dealing at some length in an earlier post; this is the overview:
A petition filed by some unhappy investors on Tuesday raises some serious challenges to the so-called Bank of America mortgage settlement. The embattled bank hopes to shed liability for alleged misrepresentations made by Countrywide on loans sold in 530 mortgage trusts with $424 billion in par value. We said it was a bad deal for investors because, among other things, it included a very broad waiver of a very valuable right, that of being able to sue over so-called chain of title issues (in very crude terms, whether the parties to the deal did all the things they promised to do to convey the loans properly to the mortgage trust).
This action raises three sets of different issues: the conflicts of interest among the parties trying to push this deal through, the process used to finalize the deal, which this pleading contends were devised to give the other investors short shrift; and the inadequate amount of the settlement, not only for parties that have tried to move their own putback litigation forward, but arguably for all parties.
In a different action, some unhappy investors (there are MANY parties unhappy about this deal, including AIG, the FDIC, the attorneys general of New York and Delaware) tried removing the case from state court to Federal court, where it would have been heard by William Pauley. Pauley’s early rulings made it very clear he was disturbed by the conflicts and was going to be sympathetic to the aggrieved intervenors. However, the case went back to New York state court, before the generally clueless and bank-friendly Barbara Kapnick.
The foregoing is an a very high level overview of over what is approaching two years of legal jousting. Now to the Federal Home Loan banks part of the equation.
In July of 2011, six Federal Home Loan banks filed a motion demanding more information about the loans in the mortgages from the trustee, Bank of New York Mellon. Their bone of contention was that they questioned the key assumptions in the analysis that argued that the $8.5 billion amount was fair. They said that changing one key assumption would increase the fair value to $22 to $27.5 billion, and changing any of three further important assumptions would increase it even more.
Today’s piece from Gretchen Morgenson of the New York Times, which reports on a new court filing by the Home Loan banks of Boston, Chicago and Indianapolis last Friday, brings us up to date. The charges are serious.
First, the suit accuses of Bank of America (and mind you, this is Bank of America, this conduct took place AFTER the Countrywide acquisition) of failing to buy mortgages back on when it modified them, as stipulated in investor agreements. Per Morgenson:
Among the new details in the filing are those showing that Bank of America failed to buy back troubled mortgages in full once it had lowered the payments and principal on the loans — an apparent violation of its agreements with investors who bought the securities that held the mortgages.
An analysis of real estate records across the country, the filing said, showed that Bank of America had modified more than 134,000 loans in such securities with a total principal balance of $32 billion.
Now people who understand the economics of mortgage securitization are no doubt scratching their heads. Why was Bank of America modifying securitized mortgages? As we’ve written on this blog repeatedly, servicers get to charge all sorts of fees when they foreclose, while they go through a lot of hassle to do mods and don’t get to collect any extra money from investors for all that work. Banks have started doing a bit more in the way of mods only in response to increasingly generous bribes from the Treasury department plus some credits in the state/Federal settlement of early last year.
So what was up at Bank of America? The second charge is the bank was self-dealing:
Even as the bank’s loan modifications imposed heavy losses on investors in these securities, the documents show, Bank of America did not reduce the principal on second mortgages it owned on the same properties. The owner of a home equity line of credit is typically required to take a loss before the holder of a first mortgage.
By slashing the amount the borrower owes on the first mortgage, Bank of America increases the potential for full repayment of its home equity line. Bank of America carried $116 billion in home equity loans on its books at the end of the third quarter of 2012.
And no, this was not the upending of the creditor hierarchy that was sanctioned by last year’s settlement (second mortgages should be wiped out before a first mortgage is touched, but last year’s settlement had a complex formula that allowed for what was close to a pari passu reduction of first mortgages with a mod of a second. This lead to investor outrage, but since all investors have done is be outraged, rather than go to court, the Administration knew it could bulldoze them). The filing has examples of mods that took place well before the settlement, and they were reductions of investors owned first mortgages to increase the value of bank-owned second liens:
One example shows investors suffering a loss of more than $300,000 on a $575,000 loan made in 2006. In May 2010, Bank of America reduced the principal owed on a first mortgage to $282,000, but at the same time, real estate records showed, Bank of America’s $110,000 home equity line of credit on the property remained intact and unmodified.
Another example indicates that Bank of America kept its $170,000 home equity line intact on a property while modifying the first mortgage held by investors. In that case, the investors took a $395,000 loss…
“We’re confident that our approach will be successful for investors and that the facts speak for themselves,” said Thomas Priore, founder of ICP Capital, who is overseeing the Triaxx analysis. “These are just a few examples of the negligence we found.”
The big problem here for the Federal Home Loan banks is likely to be procedural rather than substantive. Bank of American and Bank of New York Mellon chose to use a New York state Article 77 hearing to get the pact approved precisely because an Article 77 hearing is a rarely used procedure for a court to rubber stamp actions taken by trustees. The hearing presupposes that the trust beneficiaries have similar interests and that the trustee is acting in good faith. Judge Pauley’s blistering rulings firmly rejected that notion, but Kapnick is going ahead with the Article 77 process, which means I’m not at all clear how this damning filing will be received. Stay tuned.