House Committee Gives Go Ahead on Mortgage Reform

Posted on the Housing Wire by Kelly Curran:

The House Financial Services Committee approved legislation today that may potentially bring sweeping changes to the way the mortgage industry conducts business.

HR1728 or the Mortgage Reform and Anti-Predatory Lending Act, aims to curb forms of lending that have been a major factor in the highest home foreclosure rate in the nation in 25 years, the committee said in a statement.

“The bill would ensure that mortgage lenders make loans that benefit the consumer and prohibit them from steering borrowers into higher cost loans,” the Committee says. “It would establish a simple standard for all home loans: institutions must ensure that borrowers can repay the loans they are sold.”

The sponsor, Brad Miller (D-NC), and the committee called it a tougher version of the bill approved by the House in 2007 but never passed by the Senate. Among the current bill’s loaded provisions approved by the Committee is a risk retention provision, holding creditors responsible, to some extent, for the loans they originate.

In testimony Thursday before the committee, the Mortgage Bankers Association (MBA) chairman David Kittle said a risk retention provision could make it impossible for many lenders to compete, among other faults.

But as the legislation stands, creditors would be required to retain an economic interest in a material portion — at least 5% — of the credit risk of each loan that the creditor transfers, sells, or conveys to a third party. Federal banking agencies would, however, have the authority to make exceptions to the bill’s risk retention provisions, including form and amount.

HR1728 would also ban yield spread premiums and other “abusive compensation structures” that create conflicts of interest, protect tenants who rent homes that go into foreclosure and encourage the market to revert back to originating fixed-rate, fully documented loans.

The House of Representatives is expected to consider HR 1728 as soon as next week.

Yet Another Program to Enrich Banks at Taxpayer and Borrower Expense

Posted on Naked Capitalism:

The latest bit of looting fobbed off as a win for homeowners is a program to shovel money to second mortgage lenders:

The Obama administration unveiled a new program to help borrowers with second mortgages stay out of foreclosure, offering cash to servicers, investors and borrowers who modify loan terms.

Guess what? Plenty of seconds are under water and have NO economic value. But they play like pigs in foreclosure and renegotiations. So this program will validate values above market value for these homes and unnecessarily enrich second mortgage holders, who otherwise would have to eat their losses.

Elizabeth Warren wrote about it last November:

"Hostage value" in secured lending refers to the ability of a secured lender to extract a payment in excess of the value of the collateral from a borrower by threatening to reposses the collateral. The classic example was the old practice of taking a security interest in all of a family's household goods, which might add up to a resale value of $2000, then demanding that every penny (plus interest) of a $10,000 loan be repaid before the security interest would be released. This version of the practice involving household goods is now banned by the FTC. In bankruptcy law, undersecured claims would be bifurcated into its secured ($2000) and unsecured ($8000) portions.

Rescue programs limit their payouts to 100% of the value of the property, which makes sense both to protect the fund and not to reward the mortgage lenders by paying them more than they could get for the house if the family gave it back to the lender. But the mortgage lenders want more. If they don't get it, they won't release the mortgage--even though the lenders won't get anything close to 100% of the value of the home if they are forced to foreclose. They hold the home hostage: Pay the amount the mortgage company wants or move out of the house. Some families will find the money to pay, and others will lose their home.

The mortgage lenders are counting on the leverage of their hostage taking to do better than 100% payment. So long as they hang on. rescue efforts are irrelevant and renegotiation won't work.

The bankruptcy amendments that passed the House this week would break the hostage value of the home. The amendment would give families a chance to negotiate deals that would take them out of ruinous mortgages and let them get into something that is affordable--with or without a rescue plan. The mortgage industry oppses the bill, saying it will decide "voluntarily" when they will or will not turn a homeowner loose--which is another way of saying they want to hang on to the hostage value.

The new Treasury program is being spun as a benefit to first mortgage holders, but I am skeptical. As Warren made clear, the remedy is cramdowns, writing the value of the property down to current market value and treating any surplus mortgage amount as unsecured debt. This is standard process in corporate bankruptcies, and no one has a problem with it there, but it is treated as a heinous idea for residential property. More from Bloomberg:

The program is primarily aimed at borrowers who are “underwater,” owing more on their mortgages than their homes are worth.

No other legislative changes are required for the administration’s revised housing plans to take effect, the officials said.

The new measures may ease mortgage investors’ concerns that the biggest banks and servicers would be tempted to rework too many loans under the program in order to bolster their home- equity portfolios, Laurie Goodman, an analyst at Amherst Securities Group LP in New York, said in a telephone interview.

“Certainly, it appears that the Treasury has listened to first-lien investors,” Goodman said. Today’s announcement “goes a very long way toward addressing their objections,” she said.

The second-lien program should be up and running in about a month, the officials said. They estimated that about 75 percent of all U.S. mortgages are managed by servicers that already have agreed to participate in the government’s modification programs. Servicers are administrators in the relationship between lenders and borrowers.

The mortgage initiative offers subsidies to servicers and lenders, including bond investors, to help lower borrowers’ housing payments to 31 percent of their income. Because modifications are voluntary, the Treasury is offering incentive fees to encourage participation in the program.

The $12,000 in possible incentive fees has several components. Many of the fees are paid over time, as an incentive for borrowers and servicers to strike deals that will last.

When modifying first mortgages, servicers can receive $1,000 up front, and $1,000 per year for three years. If the mortgage being modified is eligible and not yet delinquent, they can also receive $500, for a maximum possible total of $4,500.

This is just more bells and whistles and expense pursuing the wrong course of action. Mortgage cramdown would take care of much of this, and the threat of this as an option would cut down investor and servicer unresponsiveness (although I have been told that in BK, the lowest tranches take the hit first, while in a mod, the writeoff is distributed across the tranches, so this bit of tranche warfare has been ignored. And since the servicers often have parents that hold top tranche paper, this all appears unlikely to work, or more accurately, to guarantee activity designed to establish that it won't work).

It was three plus years into the Depression until Gordian knots like this got cut. However, with Obama having put his name on programs to help the banksters, I wouldn't hold my breath that we will see course changes even when Plan A is revealed to be failing.

Doing the Homework

Posted on Portfolio.com by Ryan Avent:

A lot of recent financial innovation has been defended on grounds that it improved the flow of credit or made credit easier to obtain. But increasingly it seems that it did this by allowing everyone to stop doing their homework. Magical de-risking processes made the need to do homework before investing unnecessary. Magical hedging formulas did the same thing, and saved lenders the trouble of caring when a borrower got in trouble. The financial system became like a fancy new car -- full of top-of-the-line safety features, traction control, ABS, and so on. And like drivers who seem so effortlessly in control and completely safe that they forget how deadly two tons of steel traveling at 80 miles per hour can be, market participants were lulled into forgetting how dangerous finance can be.

Posted on Rortybomb:

The homework [he] are talking about about is the soft-skills part of mortgage applications, the part of the mortgage application that isn’t just a function of your FICO score and a few quantifiable variables. The soft-skills part has almost entirely been replaced by quantification over the past decade. Part of the move in this direction is the (rightly at a certain point) fear that those soft-skills were cover for racism. Part of the move is that the costs of deploying soft-skills when handling loans at large firms is too high once banks get too big. And of course, another suggestion is that the quantification process, FICO and the like, had gotten so good that they could save the costs on this homework part.

How can we tell if the third part is true? One interesting test, using a regression discontinuity method, is to see how the behavior of defaults looked around the securitization checkoff line. A FICO score of 620 was the cutoff for most loans - if your loan was 619, you couldn’t be resold to an investment bank in a CDO. At 621 you could. This number was picked arbitrarily by the GSEs in the 1990s, and kept by the hedge funds and investment bankers in the 2000s who were trading the stuff. Since it is arbitrary, a FICO score at 621 is just marginally better than 619. There is no magical jump there in terms of how FICO is measured at that point.

So check out these two charts from the paper Did Securitization Lead to Lax Screening? Evidence From Subprime Loans (Benjamin J. Keys, Tanmoy Mukherjee, Amit Seru, Vikrant Vig), reproduced in their powerpoint presentation:

The only difference between the 619 and the 621, besides a marginal increase in credit quality, is that the 619 had more soft skills used in it and it was very likely that the loan would not be resold but instead would stay on the originating bank’s balance sheet. So in the first chart we should expect 621 to have a slightly lower delinquency rate than the 619. If your FICO is 621, you are 2 points more credit trustworthy than 619. Instead we see a much higher rate. It is even more dramatic with the 615-619 versus the 620-624; the 620-624 should have a lower rate of delinquency, since they have a higher FICO score and are less of a credit risk. Instead we see the exact opposite.

The powerpoint is very interesting, and worth a few minutes of your time. This should cast some doubts on how much large banks can provide social utility by replacing the soft skills, the comparable advantage of small and mid-sized banks, with number-crunching computers, Ivy-Leaguers and giant bonuses.

Quick Update: There are some concerns, in the comments and at Business Insider, that one can game one’s FICO scores. Three quick points. The bank lending can’t alter the FICO score - they just type in your SSN and it shows up.

Two, picture you are a borrower without any qualms who wants to game the loan procedure, and the broker says “We need you to state your income and occupation, but we won’t verify it. Also you need to make $100,000 a year to get this loan. What do you make?” You would respond “What a coincidence! I’m a football player/astronaut, and my salary is $101,000 a year.” Gamed!

If your FICO is 619, it isn’t really easy to do some quick things to make it 621, provided you don’t rob a liquor store to pay off your credit card balance. There’s a time lag, and as anyone who wants to improve their FICO can tell you, the movements can feel arbitrary in the short run. Now if you do pay off your credit cards and make consistent payments on your bills for 6 months, and your FICO goes up, you haven’t gamed the system - you are actually more credit reliable (according to the algorithm).

This Infosys paper on subprime and credit risk measurement has a good illustration (emphasis by Tracy Alloway in FT Alphaville):

In 2006, a large Wall Street firm solf a $1.2bn sub-prime loan portfolio in which the borrowers had an average FICO score of 631, within the upper range of subprime borrowers. Around the same time another portfolio was sold by another large mortgage company with borrowers scoring an average of 600, putting them in the depths of sub-prime. The investors were told that based on the credit cut off scores, the portfolio sold by [the] Wall Street firm was less risky. But 18 months into both pools lives, 15% of the borrowers defaulted in the first case while only 4% in the second case. The reason given was poor documentation for the former case — which obviously was not taken into consideration during the process of creating tranches. Clearly cut off scores are not sufficient. They rate an individual’s risk over time but do not necessarily provide the best assessment of credit risk of the loan, still that of a portfolio.

US Treasury Announcement on Home Affordable Program 2nd Lien Tweak

WASHINGTON – The Obama Administration today announced details of new efforts to help bring relief to responsible homeowners under the Making Home Affordable Program, including an effort to achieve greater affordability for homeowners by lowering payments on their second mortgages as well as a set of measures to help underwater borrowers stay in their homes.

"With these latest program details, we're offering even more opportunities for borrowers to make their homes more affordable under the Administration's housing plan," said Treasury Secretary Tim Geithner. "Ensuring that responsible homeowners can afford to stay in their homes is critical to stabilizing the housing market, which is in turn critical to stabilizing our financial system overall. Every step we take forward is done with that imperative in mind."

"Today's announcements will make it easier for borrowers to modify or refinance their loans under FHA's Hope for Homeowners program," said HUD Secretary Shaun Donovan. "We encourage Congress to enact the necessary legislative changes to make the Hope for Homeowners program an integral part of the Making Home Affordable Program."

The Second Lien Program announced today will work in tandem with first lien modifications offered under the Home Affordable Modification Program to deliver a comprehensive affordability solution for struggling borrowers. Second mortgages can create significant challenges in helping borrowers avoid foreclosure, even when a first lien is modified. Up to 50 percent of at-risk mortgages have second liens, and many properties in foreclosure have more than one lien. Under the Second Lien Program, when a Home Affordable Modification is initiated on a first lien, servicers participating in the Second Lien Program will automatically reduce payments on the associated second lien according to a pre-set protocol. Alternatively, servicers will have the option to extinguish the second lien in return for a lump sum payment under a pre-set formula determined by Treasury, allowing servicers to target principal extinguishment to the borrowers where extinguishment is most appropriate.

Separately, the Administration has also announced steps to incorporate the Federal Housing Administration's (FHA) Hope for Homeowners into Making Home Affordable. Hope for Homeowners requires the holder of the mortgage to accept a payoff below the current market value of the home, allowing the borrower to refinance into a new FHA-guaranteed loan. Refinancing into a new loan below the home's market value takes a borrower from a position of being underwater to having equity in their home. By increasing a homeowner's equity in the home, Hope for Homeowners can produce a better outcome for borrowers who qualify.

Under the changes announced today and, when evaluating borrowers for a Home Affordable Modification, servicers will be required to determine eligibility for a Hope for Homeowners refinancing. Where Hope for Homeowners proves to be viable, the servicer must offer this option to the borrower. To ensure proper alignment of incentives, servicers and lenders will receive pay-for-success payments for Hope for Homeowners refinancings similar to those offered for Home Affordable Modifications. These additional supports are designed to work in tandem and take effect with the improved and expanded program under consideration by Congress. The Administration supports legislation to strengthen Hope for Homeowners so that it can function effectively as an integral part of the Making Home Affordable Program.

Making Home Affordable, a comprehensive plan to stabilize the U.S. housing market, was first announced by the Administration on February 18. The three part program includes aggressive measures to support low mortgage rates by strengthening confidence in Fannie Mae and Freddie Mac; a Home Affordable Refinance Program, which will provide new access to refinancing for up to 4 to 5 million homeowners; and a Home Affordable Modification Program, which will reduce monthly payments on existing first lien mortgages for up to 3 to 4 million at-risk homeowners. Two weeks later, the Administration published detailed guidelines for the Home Affordable Modification Program and authorized servicers to begin modifications under the plan immediately. Twelve servicers, including the five largest, have now signed contracts and begun modifications under the program. Between loans covered by these servicers and loans owned or securitized by Fannie Mae or Freddie Mac, more than75 percent of all loans in the country are now covered by the Making Home Affordable Program.

Continuing to bolster its outreach around the program, the Administration also announced today a new effort to engage directly with homeowners via MakingHomeAffordable.gov. Starting today, homeowners will have the ability to submit individual questions through the website to the Administration's housing team. Members of the Treasury and HUD staffs will periodically select commonly asked questions and post responses on MakingHomeAffordable.gov. To submit a question, homeowners can visit www.MakingHomeAffordable.gov/feedback.html. Selected questions from homeowners across the country and responses from the Administration will be available at www.MakingHomeAffordable.gov/asked-and-answered.html.

For additional details on the program announced today, please see the Program Update Fact Sheet.

REPORTS

• Second Lien Program Fact Sheet
• Second Lien Program Case Examples

Second-Mortgage Holders Are Target of Obama Administration Plan

Posted on Bloomberg by Rebecca Christie:

The Obama administration will offer a new program today to help borrowers with second mortgages stay out of foreclosure, along with revisions to other government loan-modification programs, administration officials said.

The goal is to make it easier for homeowners to seek help with second liens such as home-equity loans, said the officials, who declined to be identified before the announcement. The new program will provide cash to mortgage servicers, investors and borrowers who modify the terms of a loan and show success with the new payment schedule.

The administration has offered a series of initiatives in efforts to stem the collapse in home values and the rise in foreclosures. Mortgage delinquencies increased to a seasonally adjusted 7.88 percent of all loans in the fourth quarter, the highest in records going back to 1972, the Mortgage Bankers Association in Washington said March 2. Loans in foreclosure rose to 3.3 percent, up from 2.04 percent a year earlier.

The proposals to be announced today by the Treasury and the Housing and Urban Development Department will have eligibility standards similar to the Obama administration’s existing mortgage-modification program.

Fannie Mae and Freddie Mac, the government-backed mortgage finance companies, will administer the new initiative. Funds will come from $75 billion already set aside by the administration for housing. That includes $50 billion from Treasury’s Troubled Asset Relief Program, supplemented by $25 billion from Fannie Mae and Freddie Mac.

Second Liens Adjusted

Under the new plan, second liens will be adjusted automatically when a homeowner’s primary mortgage is altered through the federal program, the administration officials said in a telephone interview. The program also will include procedures under which second loans can be modified independently.

The program should be up and running in about a month, the officials said. They estimated that about 75 percent of all U.S. mortgages are managed by servicers that already have agreed to participate in the government’s modification programs. Servicers manage the relationship between lenders and borrowers.

Obama’s overall plan to reduce foreclosures by modifying mortgages targets as many as 4 million homeowners. As many as half of the participants in the mortgage-modification program may be eligible for the second-lien assistance, the administration officials said.

The mortgage initiative offers subsidies to servicers and lenders, including bond investors, to help lower borrowers’ housing payments to 31 percent of their income.

$2,500 to Servicers

The administration’s latest plan also aims to beef up the government’s Hope for Homeowners mortgage-aid program. That initiative, enacted during the previous administration, so far has helped only a handful of borrowers refinance their mortgages into government-backed Federal Housing Administration loans.

To improve results of Hope for Homeowners, the Obama administration plans to add an upfront incentive payment of $2,500 to loan servicers, the officials said.

The administration also intends to urge Congress to pass other changes to Hope for Homeowners to make it easier to use and more accessible, the administration officials said. The program is primarily aimed at borrowers who are “underwater,” owing more on their mortgages than their home is worth.

No other legislative changes are required for the administration’s revised housing plans to take effect, the officials said.

Bankruptcy Judges

The administration separately backs giving bankruptcy judges the ability to change mortgage terms, as provided under legislation passed by the House and now awaiting action in the Senate. The administration hasn’t taken a stand on so-called safe harbor provisions that would shield mortgage servicers from bondholder lawsuits.

The servicer protection is needed if the U.S. wants as many homeowners helped under Obama’s loan-modification plan as intended, a Bank of America Corp. executive said.

“If the government wants to go down a path of being all- inclusive of who would be eligible, then I think that’s required,” Barbara Desoer, head of mortgage, home equity and insurance at the Charlotte, North Carolina-based bank, said in an April 23 interview.

Q1 2009: Homeownership Rate at 2000 Levels

Posted on Calculated Risk:

The homeownership rate is back to the level of Q2 2000. So much for the homeownership gains of the last 8+ years. Gone.

This morning the Census Bureau reported the homeownership and vacancy rates for Q1 2009. Here are a few graphs ...

Click on graph for larger image in new window.

The homeownership rate decreased to 67.3% and is now back to the levels of Q2 2000.

Note: graph starts at 60% to better show the change.

The homeownership rate increased because of demographics and changes in mortgage lending. The increase due to demographics (older population) will probably stick, so I expect the rate to decline to the 66% to 67% range - and not all the way back to 64% to 65%.

The homeowner vacancy rate was 2.7% in Q1 2009.

A normal rate for recent years appears to be about 1.7%. There is some noise in the series, quarter to quarter, so perhaps the vacancy rate has stabilized in the 2.7% to 2.9% range.

This leaves the homeowner vacancy rate about 1.0% above normal, and with approximately 75 million homeowner occupied homes; this gives about 750 thousand excess vacant homes.

The rental vacancy rate was steady at 10.1% in Q1 2009.

It's hard to define a "normal" rental vacancy rate based on the historical series, but we can probably expect the rate to trend back towards 8%. According to the Census Bureau there are close to 40 million rental units in the U.S. If the rental vacancy rate declined from 10.1% to 8%, there would be 2.1% X 40 million units or about 820,000 units absorbed.

This would suggest there are about 820 thousand excess rental units in the U.S.

There are also approximately 100 thousand excess new homes above the normal inventory level (for home builders) - plus some uncounted condos.

If we add this up, 820 thousand excess rental units, 750 thousand excess vacant homes, and 100 thousand excess new home inventory, this gives about 1.7 million excess housing units in the U.S. that need to be absorbed over the next few years. (Note: this data is noisy, so it's hard to compare numbers quarter to quarter, but this is probably a reasonable approximation).

These excess units will keep pressure on housing starts and prices for some time.

No recovery seen for housing until late 2010

Posted on the OC Register:

Nobody has a bigger stack of housing data than the First American real estate information empire from Santa Ana. We figured we’d ask Sam Khater, an economist at First American’s CoreLogic unit, what’s up …

Us: What’s your sense of the health of our local housing markets?

Sam: The biggest factor is home-price depreciation. And until home prices begin to stabilize, the overall market will not stabilize. The great thing about home prices is that it conveys a lot of information about the health of the market. Tells us about the demand-supply dynamics. Until you see depreciation recede, the market will not recover. Given the fact that home prices exhibit memory and momentum, it will take time.

Us: How do we compare to the national market?

Sam: We group together the “sand states” — California, Nevada, Arizona and Florida — that are roughly in the same category with steep price depreciation. They all have a severe oversupply of housing. And, for parts of California and Florida — financing is restricted. There is no jumbo mortgage market.

California’s been in this downturn the longest; it’s been intense; but that’s one positive. Given the very low mortgage rates, affordability is much higher. Granted there’s affordability, but is the homebuyer really going to buy when you see rapid depreciation? And will lenders be reluctant to lend? Unfortunately, affordability is only a part of this. The housing downturn’s gone on in California for some time. The overall economic downturn’s been happening for just a year and a half, and that’s got a way to go.

The rest of the country is experiencing price declines. And they’re slowly catching up to the sand states. Like Rhode Island, that’s knocking on the door in terms of home-price depreciation.

Us: Will it take California-sized price losses to restart the national housing market? We seem to be enjoying a sales bump recently …

Sam: No, The bubble wasn’t as bad elsewhere as California. What you’re seeing in California is an uptick in distressed sales. All things being equal, the distressed sales will eventually wear off and sales will slow again.

I view the housing boom starting in 1997 when sales a prices began to move above historical trends. We have to remember what a normal year us. We’re not that far below, in terms of sales. You’ve got to view some of these housing numbers through a long-term series.

Us: What about all those homes with negative equity with borrowers owing more than their home’s worth? How to fix that?

Sam: We estimated at year’s end there were 8.3 million borrowers upside down. If you assume that the government gave them a modification — just for conversation’s sake, $100,000 per loan — that’s $830 billion. When we talk a lot about trillions, that’s not that much money. That’d solve the negative equity problem in the short run. But that’s like a Band-Aid on the Titanic; longer-run structural issues need lots of work, too.

Even if you solve negative equity, prices are falling so fast that a lot of people would be upside down again in six months. And if you’re upside down, you are vulnerable. And the biggest risk right now is job loss.

Us: Any glimmer of hope in the numbers?

Sam: Oversupply is declining — unsold inventory and months of supply. Supply is still high, it’s just starting to come down. You want supply and demand in equilibrium and demand will not increase any time soon.

Us: Bottom this year?

Sam: I think, absolutely, there first chance for any kind of housing recovery is late 2010. We’ll see some bumps from the stimulus and the economy will look somewhat better than it really is .But we won’t see any housing bottom — and I’m talking prices — until late 2010. To me, the price is the most important thing.

More Servicers Approved for Treasury Funds

Posted on the Housing Wire by Kelly Curran:

Four more institutions joined the list of servicers set to receive Troubled Asset Relief Program (TARP) funds through the U.S. Treasury Department.

Bank of America, Countrywide Home Loans Servicing, Home Loan Services and Wilshire Credit became the eighth, ninth, tenth and eleventh firm to be pre-approved for TARP funds, under the Making Home Affordable loan modification system.

Simi Valley, Calif.-based Bank of America, will be allowed to draw up to $798.9m of government funds. Countrywide Home Loans has been promised a maximum of $1.86bn. Home Loan Services and Wilshire Credit can draw up to $319m and $366m, respectively.

The other seven servicers on tap to receive funds include Chase Home Finance (which was allotted the largest share thus far — up to $3.55bn), Wells Fargo Bank ($2.87bn), CitiMortgage ($2.07bn), GMAC Mortgage ($633m), Saxon Mortgage Services ($407m), Select Portfolio Servicing ($376m) and Ocwen Financial ($659m).

It’s unclear at this time how much of those allotted funds the institutions have actually received. The rate at which they’re stepping up to the deposit window — if at all — is unknown.

The Treasury bases investment figures on the size of each company’s servicing portfolios, however the government lender may adjust the actual dollar amount based on servicer usage. So far, program funds allocate a total of $13.92bn to the 11 servicers, just a fraction of the Treasury’s $75bn program to prevent foreclosures and help borrowers refinance into new loans.

The government plans to pay servicers a $1,000 one-time fee for modifying a mortgage down to a 38% payment-to-income ratio for five years. Modified loans must survive a 90-day trial in order to be eligible for the incentive payment. Government funds will also match the cost of further interest-rate reductions or other modifications to bring payments down to 31% of a borrower’s income. If borrowers perform in their newly-modified mortgages, servicers would be eligible to receive $1,000 per annum for three years under the government incentive program.

A Treasury spokesperson told HW that servicers are being added to the program on a rolling basis — suggesting this list is just the beginning, and other servicers are likely in the pipeline.

Mortgage Bondholders Form Battle Lines Over Obama Housing Plan

Posted on Bloomberg by Jody Shenn:

The head of Greenwich Financial Services LLC warned bond investors in Washington last month that government efforts to reverse the housing slump are doing more harm than good by undermining debt contracts.

More than 30 money managers with stakes in the $6.7 trillion mortgage bond market that underpins the real-estate industry heard Bill Frey’s March 25 talk, according to a list of the attendees. Since then, a group of investors with home-loan bonds totaling more than $100 billion have hired Patton Boggs LLP, Washington’s biggest lobbying law firm, said Micah Green, a partner and former head of the Bond Market Association.

Bondholders are preparing for a fight over legislation approved last month by the House of Representatives that would shield companies that collect homeowners’ payments from lawsuits over modified mortgages, even if new terms harm investors. The government’s actions may increase borrowing costs because creditors would demand higher returns to compensate for the risk that once-sacrosanct investment terms can be changed, they say.

“Certainly some greater amount of loans should be restructured, but it is a fallacy to think that policymakers can selectively abrogate contracts without affecting future investor behavior,” said Frey, chief executive officer of Greenwich Financial, a mortgage-bond broker and investor in Connecticut. “We are actively exploring strategies with major investors to protect their rights,” he added in an e-mail.

Four Coalitions

Amherst Securities Group, an Austin, Texas-based firm that specializes in mortgage bonds, said it’s been asked to join four similar coalitions forming to fight the legislation or lobby against the details of President Barack Obama’s plan to cut borrowers’ payments.

Frey, 51, made his presentation at a bond investor conference with David Grais, a lawyer at Grais & Ellsworth LLP in New York, and Laurie Goodman, an analyst at Austin, Texas- based Amherst Securities and UBS AG’S former fixed income research chief. Attendees included representatives of Royal Bank of Canada’s Voyageur Asset Management Inc. and Thrivent Financial for Lutherans.

By “allocating losses to some place that’s not expecting it,” including state pension plans, college endowments and life insurers, those investors will demand more return to hold mortgage debt without government backing, if they buy at all, said Amherst Securities CEO Sean Dobson, whose firm trades home- loan bonds and advises clients about the securities. “Capital’s going to cost a lot more for a long time.”

Bonds Plummet

Prices of many mortgage bonds have plummeted in the past two years as delinquency rates on the underlying loans soared. Mounting losses from securities tied to subprime home-loans caused credit markets to seize up in August 2007, triggering a slowdown in the U.S. economy that spread around the world.

In the market for bonds backed by fixed-rate Alt-A loans, a category viewed as less risky than subprime mortgages, the safest securities typically traded at about 52 cents on the dollar last week, down from about 100 cents in mid-2007, according to a Barclays Capital report.

Fixing the mortgage market and stabilizing housing prices would help Obama end the worst U.S. recession since 1982.

The U.S. mortgage-finance system depends on bond investors. About 64 percent of the value of America’s home loans is bundled into bonds, a market that is 10 percent bigger than the sum of Treasuries outstanding. Mortgages account for 80 percent of consumer debt, and housing costs represent about 22 percent of the economy, Federal Reserve and Hoover Institution data show.

Jennifer Psaki, a White House spokeswoman, declined to comment on bondholder complaints about the government’s efforts.

Congressional Panel

An administration official who helped craft Obama’s plan said it only allows loan modifications that are permitted by the terms of the bonds the mortgages back and that are in debt holders’ best interests. The official spoke on the condition of anonymity because he isn’t authorized to discuss the issue publicly.

A congressionally appointed panel overseeing the U.S.’s $700 billion finance-industry bailout said in a March 6 report that government action is needed to encourage loan modifications because soaring foreclosures “injure both the investor and the homeowner.”

Mortgage delinquencies increased to a seasonally adjusted 7.88 percent of all loans in the fourth quarter, the highest in records going back to 1972, the Mortgage Bankers Association in Washington said March 2. Loans in foreclosure rose to 3.30 percent, also a record and up from 2.04 percent a year earlier.

Obama’s Plan

Obama’s $75 billion plan to reduce foreclosures by modifying mortgages targets as many as 4 million homeowners. Foreclosed properties helped drive down home prices in 20 U.S. cities by an average of 19 percent in January from a year earlier, the fastest decline on record, according to an S&P/Case-Shiller index.

The program, announced Feb. 18, is part of Obama’s efforts to shore up companies from General Motors Corp. to Citigroup Inc. and financial markets amid the first global recession since World War II. U.S. gross domestic product shrank 6.3 percent in the fourth quarter. Last month, the World Bank predicted the global economy would contract 1.7 percent this year.

The mortgage initiative offers subsidies to lenders, including bond investors, to help lower borrowers’ housing payments to 31 percent of their income. What troubles bondholders are the incentives for loan servicers, the industry middlemen who decide which loans will be reworked.

Servicer Fees

Servicers can get $1,000 for each modified loan under the plan, an additional $500 for every loan changed before borrowers fall more than two months behind and $1,000 annually for as many as three years of on-time payments.

At least six servicers have signed up to participate, including New York-based JPMorgan Chase & Co. and Wells Fargo & Co. in San Francisco. Government payments to those companies may total $9.9 billion, according Treasury data released April 15.

Guidelines on the Treasury’s Web site tell servicers they can rework a loan only after they verify through financial models that new terms for the homeowner would be better for investors than an immediate foreclosure.

Bondholders still fret that some homeowners who don’t need help will be allowed to rework loans and that calculations to measure the impact will be skewed against bondholders, said Sean Kirk, a trader at New York-based Seaport Group LLC.

Part of the concern is that the four largest servicers, including Charlotte, North Carolina-based Bank of America Corp. and JPMorgan, own almost $450 billion in home-equity loans, many tied to the same properties as the mortgages they service, Amherst’s Goodman said.

‘Financial Incentive’

“They have a large financial incentive through the program to modify, and they’ll also benefit from putting more losses onto the first-lien holders because of their large second-lien positions,” said John Huber, who oversees about $30 billion in Minneapolis as chief investment officer of fixed income at Royal Bank of Canada’s Voyageur unit.

“What’s probably most troubling from a bigger picture perspective is what this means for the sanctity of contract law that has historically differentiated the U.S. as the gold standard of markets,” he added.

Responding to complaints that American International Group Inc. was excessive in awarding bonuses and paying off banks after accepting $182.5 billion in bailout funds, National Economic Council Director Lawrence Summers said March 15 on ABC’s “This Week” that “we are a nation of law, where there are contracts” and “the government cannot just abrogate contracts.”

‘Respect the Laws’

“If we don’t respect the laws on which people reasonably relied, the potential chaos, disruption, lack of credit and resulting unemployment will be that much greater,” he said.

The legislation opposed by bondholders passed in the House 234-191 on March 6. The measure, which also would allow bankruptcy judges to lower mortgage amounts through so-called cram-downs, is now before the Senate.

“I don’t think it’s Congress’s intent to damage the sanctity of contract law and the U.S. capital markets, but there is a risk of that happening,” said Michael Swendsen, a senior money manager in Minneapolis at Thrivent Financial, which oversees $61 billion of assets.

Resistance to loan modifications by Greenwich Financial’s Frey has prompted protesters from the Neighborhood Assistance Corp. of America consumer group to gather outside his Greenwich, Connecticut home, and has spawned a legal tussle with Bank of America.

Legal Tussle

In October, the bank reached a settlement with state attorneys general investigating whether Countrywide Financial Corp. tricked homebuyers into mortgages they couldn’t afford before Bank of America acquired the company last year. The deal, which more than 30 states have signed, will save homeowners $8.4 billion, the bank said.

Greenwich Financial sued Bank of America, alleging that much of the cost will be borne by bondholders. Frey’s firm is seeking class action status for the suit.

Barbara Desoer, Bank of America’s mortgage chief, said in an interview that her company isn’t modifying loans without bondholders’ permission, either in existing bond terms or in newly negotiated agreements.

The bank isn’t “going to do anything to put a contract at risk,” Desoer said. “But, at the same time, we’re thrilled that there’s a standard, and we have a head start because of the AG settlement.”

TCW Group Inc., a Los Angeles-based money manager that oversees more than $100 billion, is lobbying the Treasury for changes to the government’s plan.

Servicer Duties

Obama’s program encourages servicers to “abrogate their duty,” said Chief Investment Officer Jeffrey Gundlach, who oversees $52 billion of mortgage securities, on a conference call with clients March 18. “Servicers’ No. 1 duty is to us, the investor.”

While billed as beneficial to mortgage investors, Obama’s plan will mostly be ineffective in cutting losses because it focuses on lowering payments rather than reducing homeowner debt, said John Geanakoplos, an economics professor at Yale University in New Haven, Connecticut. Many borrowers with “negative equity” will choose to default anyway, he said.

“It’s a lot better situation when contracts are broken in a way that makes everybody better off,” said Geanakoplos, who is also a partner at Michael Vranos’ Ellington Management Group LLC, a hedge-fund firm in Old Greenwich, Connecticut. Geanakoplos has advocated breaking contracts by putting the power to modify loan terms into the hands of independent arbiters.

Program Retool

Scott Simon, Pacific Investment Management Co.’s mortgage bond chief, said retooling the Federal Housing Administration’s Hope for Homeowners program would be best for all parties.

Bond investors sustain losses equal to the amount needed to reduce a loan to 87 percent of a home’s current value under that strategy. In return, the remaining debt is refinanced with government-insured loans, preventing further investor losses. The congressionally approved program was designed to help 400,000 borrowers when it started in October; 51 of the loans have closed, said Lemar Wooley, an FHA spokesman.

“It was a great idea, but there was horse-trading to get the bill passed, creating subtle little things that made it unusable,” said Simon, whose Newport Beach, California-based firm manages the world’s biggest bond fund.

‘Elephant in the Room’

The FHA program “addresses the elephant in the room,” he added, referring to how many borrowers have “negative equity.” Almost one in six U.S. homeowners with mortgages owed more than their homes’ worth after the market lost $3.3 trillion in value last year, according to a Feb. 3 Zillow.com report.

Don Brownstein, CEO of Structured Portfolio Management LLC, said another Obama administration mortgage program announced Feb. 18 also represents the government acting “extra-legally.”

Under that plan, as many as 5 million additional Fannie Mae and Freddie Mac mortgagees with less than 20 percent in equity will be able to refinance without buying or paying for mortgage insurance. The two government-sponsored companies’ charters typically require insurance for loans with debt-to-value ratios of more than 80 percent.

The new program was created without congressional approval. Federal Housing Finance Agency Director James Lockhart, who oversees the two companies, said it didn’t require legislation because the refinancing is akin to permitted loan modifications, even though some bondholders incur losses if their securities’ underlying loans are paid off faster than expected.

Mistreating “customers, the ones who ultimately lend to the homeowners, is not good a business practice,” said Brownstein, whose hedge-fund firm is based in Stamford, Connecticut.

Commentary by Joe Weisenthal on the Business Insider:

Now it would be easy to dismiss their arguments, as just being bondholders not wanting to take a haircut. And surely they don't. But it's also true that Obama's mortgage modification and cramdown plans aren't even good for homeowners.

They're basically a lose-lose.

Bondholders see their contracts ripped up, and are forced to take a haircut, while homeowners are basically stuck with the equivalent of a new teaser rate -- low payments for five years, balloon payments after that. The hope, of course, is that the housing bubble will be fully reflated by then, and that the economy will have returned to "normal" so that the new payments aren't much of a problem.

What's more, the loan mod game has brought back all the old predatory lenders out of the woodwork, wearing new clothing and bearing gifts of lower payments.

At best, when it's homeowners vs. banks or homeowners vs. mortgage bondholders, you're looking at a zero-sum game. You prop up the banks, but then you try to give the homeowners a break on their payments and all of the sudden the financial system gets nervous again.

Desecuritization: Value There for the Taking

Posted on Yahoo Finance by Jack Guttentag:

The government is betting that, by lending large amounts to private investors to purchase securities, markets will revive and security values will rise. This is a costly and risky venture; I hope it works, but I fear it won't. This article proposes another approach to the same objectives -- an approach that would cost the government nothing. I call it desecuritization. All it requires is the appropriate enabling legislation.

Desecuritization means reversing the securitization process. Securitization converts large numbers of individual loans into security issues. Descuritization converts the securities back into individual loans. The objective of both is the same: to enhance value. The first works during normal periods, the second can work during a crisis period such as the one we are in now.

Securitization enhanced value during normal periods because a single type of loan could be converted into a variety of securities with different characteristics fashioned to meet the diverse needs of investors. For example, a pool of 30-year fixed-rate mortgages could be transformed into a security issue subdivided into sub-issues that vary in their duration (how long before the investor gets his money back), their exposure to risk of default as indicated by credit quality ratings, and their sensitivity to changes in market interest rates.

Appealing to Many

Where investor demand for 30-year fixed-rate mortgages was limited, the diverse securities fashioned from a pool of such mortgages could appeal to a wide range of investors. With securitization, the whole was worth more than the sum of its parts.

The breakdown of financial markets during the financial crisis, associated with high default rates on loans in pools supporting securities, has reversed the equation. The total value of any mortgage security issue on which the AAA-rated pieces have been downgraded is now much smaller than the sum of the values of the individual loans, assuming those loans could somehow be disentangled from the security.

For example, assume 20 percent of a portfolio of 1,000 mortgage loans defaults and each default costs 50 percent of the balance. Because the 200 loans that default do not affect the value of the 800 that don't, the decline in the total value of the portfolio is only 10 percent. But if the loans are in a security issue, every piece of that security may be contaminated by the defaults. The overall decline in value could be 30 percent or even 60 percent; we have no way of knowing because markets have largely shut down.

Rating the Securities

In an interesting paper called The Law of Unintended Consequences, John Mauldin attributes this excessive value decline to the decision by the credit rating agencies to rate asset-backed securities in the same way they have always rated bonds. I agree with him that the rating system needs fixing, but I doubt that any rating system can wholly avoid value contamination within a security when default rates are very high.

In any case, the challenge right now is to find a way to unlock the hidden value in mortgage pools supporting contaminated securities. Perhaps the new federally supported asset purchase program will do it, but desecuritization would be surer and cheaper.

All that is needed to make desecuritization work is a way for investors to acquire control of 100 percent of a security issue. The investor who owns it all can dispose of the security and own the individual loans. To make this possible, we need a law that grants any investor who owns X percent of a security issue the right to buy the remaining 1 minus X at a price equal to Y percent of the average price the investor paid for the X percent already owned.

Profiting From the Program

Investors will attempt to profit from such a program in one of two ways. The basic strategy will be to acquire 100 percent of a security and realize the difference between the value of the loans and the price paid for the security. An alternative strategy is to acquire an amount of an issue equal to 1 minus X + $1, which is just enough to prevent any other investor from executing the basic strategy, forcing them to come to you.

The values for X and Y that will best facilitate the process depend on the characteristics of the security issue. Hence, a first step toward desecuritization is to develop a census of issues, showing the balance of each sub-issue, its initial and current rating, and the current owners. This information will not only help in formulating the enabling legislation but will also provide critical information needed by investors looking to buy up 100 percent of one or more issues.

The enabling law would override the maze of private contracts involved in a securitization, and it is not a step to be taken lightly.

In this regard, it is similar to the cram-down legislation that is being considered by Congress. An important difference is that cram-down is a zero-sum game, meaning that the gains to borrowers are exactly offset by losses to investors. Desecuritization is a positive-sum game because the gains for successful investors will be substantially larger than any losses suffered by other investors.

U.S. Foreclosure Mitigation: Too Little, Too Late? (Part 1)

Posted on the Shadow Bankers by John Kiff:

As U.S. home foreclosure rates rise to levels not seen since the Great Depression, government policy has consistently been too little, too late, and frankly, off target. In this series of posts, I’m going to do a fairly deep dive into the “end game” of the current mortgage crisis. (The “opening” and “middle games” have been well documented elsewhere - e.g., “Money for Nothing“.) In this first post, I’ll give a very broad-brush overview of the three government foreclosure mitigation programs that have been introduced since 2007. Then, I’ll talk about some of the reasons why they have failed (or are likely to fail).

FHASecure (introduced in 2007) and Hope for Homeowners (H4H, 2008) were designed to encourage lenders to write loans off in return for 90 to 97 percent of appraised home values. However, only about 4,000 loans were refinanced under FHASecure before it was closed down at the end of 2008, and less than 1,000 homeowners have applied for H4H short refinancings. These two programs failed largely because they left implementation to under resourced servicers, and placed almost all the writedown burden on the lenders and investors.

The more recent Home Affordable Modification Program (HAMP, 2009) rectifies these shortcomings by offering various incentive payments to servicers and lenders (investors in the case of securitized loans). The point of the program is to encourage servicers to avert foreclosures by offering loan modifications that reduce monthly payments to more affordable levels. However, unlike FHASecure and H4H, HAMP is not designed to encourage principal writedowns, a problem I’ll discuss later. (HAMP’s incentive payments will apply to H4H refinancings, but in most cases servicers will opt for temporary payment reductions rather than H4H’s principal writedowns.)

It seems fairly obvious that, to be effective, loan modifications should reduce monthly payments. But according to the most recent OCC and OTS Mortgage Metrics Report, some servicers still don’t get it, although they are starting to:

Not surprisingly, the OCC/OTC report confirms the lower redefault rates on modifications that reduce payments:

In fact, a recent paper by Quercia, Ding and Ratcliffe goes even further, and finds “an even lower likelihood of redefault when the payment reduction is accompanied by a principal reduction.” Given this evidence, it is somewhat surprising that HAMP wasn’t designed to encourage principal writedowns on “underwater” loans (where the home’s value has depreciated below the outstanding mortgage balance, including junior liens).

You might wonder why government intervention is needed to incentivize mortgage servicers to offer payment-reducing modifications in the first place. One reason is that some of the agreements that set out what the servicer can and cannot do (i.e., the “pooling and servicing agreements” or PSAs) limit the number of modifications (although most do not). Also, most PSAs give little explicit guidance as to what kinds of modifications are acceptable or not, so foreclosure often becomes the “better safe than sorry” option. (For much more detail on the economics of servicing, see “foreclosure mitigation efforts“.)

Another problem is the cost of dealing with junior liens. About 25 percent of subprime mortgages currently outstanding had a junior (”piggyback”) lien at origination, and about 40 percent do when home equity lines of credit are considered, according to the Congressional Budget Office. In principle, significant loan modifications can demote the first lien to a junior lien. However, this puts the previously senior lien holder in parity with the original junior lien holder, unless the original junior lien holder agrees to re-subordinate (drop his lien even further down). Hence, first lien holders generally require junior lien holders to agree to re-subordinate their claim before agreeing to modifications. However, in some cases, junior lien holders may try to abuse their position and hold up modifications. Furthermore, unless both the senior and junior mortgages are serviced by the same company, it may be difficult to track and negotiate with the junior lien holder.

Furthermore, about 80 percent of all nonprime loans, which comprise the vast majority of distressed mortgages, have been securitized and tranched into mortgage-backed securities. Modifications that benefit some tranches often compromise others, and sometimes leads to “tranche warfare.” For example, temporary payment reductions tend to spread their impact across all of the tranches, but principal writedowns can wipe out the junior tranches. Hence, for example, the (mostly) hedge funds that hold junior tranches have been threatening litigation, especially if the writedown process is mechanical or “streamlined” (rather than case by case).

Finally, modifications that reduce monthly payments may just be uneconomical from the servicer/lender perspective. According to the American Securitization Forum, “in evaluating whether a proposed loan modification will maximize recoveries to the investors, the servicer should compare the anticipated recovery under the loan modification to the anticipated recovery through foreclosure on a net present value basis.” In some cases, the homeowner just can’t afford even the most drastically cut monthly payments due to insufficient income and/or other debts and obligations. Also, in areas of extreme home price depreciation, foreclosure may be NPV-maximizing (versus principal writedowns on underwater loans and/or bringing debt-to-income ratios down to reasonable levels).

Government intervention can play a useful role in providing incentives for foreclosure mitigation, due to the negative feedback loop and vicious circle effects of mass foreclosures (see “foreclosure mitigation efforts“). However, detractors point to the unfairness of bailing out irresponsible homeowners, in addition to the practical problems outlines above. That’s a fair point, but foreclosed properties stay unoccupied for extended periods of time, deteriorating and often inviting vandalism, thereby pushing down home values in the immediate neighborhood. As such, it seems in everyone’s best interest to incentivize foreclosure mitigation. As Fed Chairman Bernanke put it in an appearance on “60 Minutes” in March:

If you have a neighbor, who smokes in bed. And he’s a risk to everybody. If suppose he sets fire to his house, and you might say to yourself, you know, ‘I’m not gonna call the fire department. Let his house burn down. It’s fine with me.’ But then, of course, but what if your house is made of wood? And it’s right next door to his house? What if the whole town is made of wood? Well, I think we’d all agree that the right thing to do is put out that fire first, and then say, ‘What punishment is appropriate? How should we change the fire code? What needs to be done to make sure this doesn’t happen in the future? How can we fire proof our houses?’ That’s where we are now. We have a fire going on.

Nevertheless, while HAMP puts forward some very useful incentives for servicers to offer temporary payment reductions to distressed borrowers, it may only be deferring the impact of the underlying underwater loan (or “negative equity”) problem. In the next post in this series, I’ll delve into some of the more gory details of the program, plus those of the still-active H4H program, to show how these two programs can be merged into something more effective from a longer-term perspective.

Mortgage Cram-Down Stalls in Senate, May Be Revised

Posted on Bloomberg by Dawn Kopecki:

Senate Democrats are scaling back legislation that would let bankruptcy judges alter mortgage terms because lawmakers don’t have enough votes for passage, a spokesman for Senate Majority Whip Richard Durbin said.

The main “sticking point” is whether the measure, which passed the House of Representatives in March, should be limited to certain loans or a specific timeframe, Max Gleischman, a spokesman for Durbin, an Illinois Democrat, said today.

The delay of more than a month in passage of the so-called cram-down legislation holds up a key component of President Barack Obama’s anti-foreclosure initiative announced Feb. 18. That plan seeks to help as many as 9 million Americans modify or refinance their mortgages to more affordable terms.

“Investor buzz surrounding a potential deal on cram-down legislation seems somewhat premature,” Andrew Parmentier, a bank policy analyst for research firm Height Analytics in Washington, said in an investor note today.

The legislation would authorize bankruptcy judges to modify distressed borrowers’ mortgages closer to the lower market value of their homes, even over the objections of creditors. Judges would be able to reduce principal, lower the interest rate, change the maturity, or convert the loan to a fixed rate. The House version of the legislation would apply to all loans originated before the bill takes effect, while bankers and credit unions lobbied to limit it solely to subprime mortgages.

“That’s a non-starter for Democrats,” Gleischman said. “We’re working to find something in between those two points.

“The bill as passed by the House doesn’t have the votes to pass the Senate,” Gleischman said. “There is no agreement.”

Draft Proposal

Negotiations with banks over provisions are still taking place, he said. While a number of potential provisions “have been put to paper,” there is no formal offer, he said.

A draft proposal that Durbin’s staff offered this week would prohibit borrowers from amending their mortgage terms in bankruptcy if they have turned down a loan modification under Obama’s Homeowner Affordability and Stability Plan, according to bankers involved in the discussions who asked not to be named because the proposal was confidential.

Judges also would only be allowed to reduce outstanding principal to market value and interest rates to the conventional rate plus a “reasonable premium for risk,” according to the bankers. Repayment may be extended for 40 years, and borrowers that get principal reductions must share half of any home price appreciation, up to the original amount owed, if the property is sold while they are still in bankruptcy, the bankers said.

Durbin’s plan would be good only until 2014 and would apply only to mortgages under $729,750 that were originated before Jan. 1, 2009, according to an outline of the proposal.

Obama Plan

The Congressional Budget Office said in a Feb. 23 report that the House legislation may encourage more people to file for bankruptcy. More than 1 million households would benefit from the bill and an estimated 350,000 of those would be likely to take advantage of the law in the next 10 years, the CBO said.

Obama’s main loan modification initiative, which targets 3 million to 4 million homeowners, would require lenders to cut interest rates to as little as 2 percent, extend repayment terms as long as 40 years and forbear or forgive outstanding principal as necessary to reduce homeowners’ monthly payment to a maximum ratio of 38 percent of their income for five years.

The Treasury Department would be used to cover half the costs to further reduce their payments to a ratio of 31 percent. The Treasury has set aside $75 billion in taxpayer funds to pay companies to modify loans and subsidize borrower payments.

Under Durbin’s plan, borrowers in foreclosure with incomes less than 80 percent of the median in their area or whose mortgage payments are less than 31 percent of their gross monthly pay would be ineligible for principal reductions.

Could SwapRent stop the foreclosure crisis?

Posted on American Banker's BankThink by Emily Flitter:

In the swarm of ideas for how to stop the financial meltdown, there’s one from a small company in California that seems to have gotten lost in the mix—a tragedy for the country, according to its creator. Though there are obvious barriers to the scheme’s success, it’s worth asking whether Ralph Liu’s SwapRent product, reviewed in a report by the Aite Group this month on new financial products, could really stop home price depreciation.

Liu, who founded Advanced e-Financial Technologies, Inc. to develop the product, says it could not only stabilize the housing market; he claims SwapRent could also halt the slide in the fair value of mortgage-backed securities as well.

Technically, SwapRent is a derivative with a home as the underlying asset. It allows investors to take a stake in the future appreciation of home values without actually purchasing a property. Instead, an investor and a borrower sign an agreement saying that the investor will pay the borrower a fixed monthly sum of cash in exchange for a percentage of the eventual sale price of the house.

This, Liu argues, is the way to solve the foreclosure crisis. Borrowers who are delinquent on their mortgage payments can sign agreements with investors for extra cash each month, while still maintaining ownership of their homes. They also maintain a share in the price growth that many believe is an eventuality in the housing market. Instead of getting 100% of the value of a home upon its sale, however, a borrower who signed a SwapRent agreement would only walk away with 50% (for example).

Liu’s idea may not go over so well with politicians, and Liu himself seems like he needs a lesson in finesse. “The more generous, the more dumb the government acts,” he explained while walking BankThink through the SwapRent concept, “the more people will sign up to participate in this.” He said he thinks the government should use some of its bailout money to start signing SwapRent agreements with borrowers and should then try to recoup the money—with a profit—by selling the agreements to investors in a secondary market.

Each agreement signed would greatly reduce the chances of a foreclosure, since the borrower would have extra cash to pay his or her mortgage, Liu reasoned. The value of structured products backed by the mortgages would increase, too, once the mortgages in a given product were fortified by SwapRent agreements.

In contrast, Liu told BankThink, the Treasury Department’s public-private investment fund concept is riddled with “downstream problems,” and won’t do much to turn the tide of the crisis. He blames “politics” for the lack, thus far, of interest among government officials in his plan, but remains hopeful. “People have to learn, you know,” he said.

And it’s true. SwapRent, especially as it is described on Liu’s company Web site, is hard to follow. But stick with it and it somehow makes sense.

“Everybody knows what it is—it’s a public secret,” Liu said of his efforts to interest state governments and the Obama administration in the plan.

But the description of SwapRent did not ring a bell to an advisor to the federal government on housing policy. “I was intimately plugged into the development process” of the Obama administration’s foreclosure prevention plan, said the advisor, who wished not to be named, “and I don’t recall any idea of this sort being mentioned and certainly it was not discussed.”

A call to the office of Calif. Assemblyman Ted Lieu, D-Torrance, drew a similar blank. “It sounds like a good idea,” a spokesman said, “but I’ve never head of it.”

SwapRent’s creator Liu has received some recognition: He led a panel at Harvard Business School on housing derivatives last year, and he presented the idea to a housing finance conference called “Beyond the Crisis” at the Milken Institute Financial Innovations Lab. He also had some near misses with banks last year—he was trying to sign up IndyMac Bancorp to the idea before the bank went bust last summer, and he claims to have “almost” scored a deal with Citigroup before the crisis hit. But press coverage has been scant since Liu’s idea morphed from that of a quaint, rather hard to grasp hedging tool to a possible fix for the massive foreclosure crisis.

Perhaps Liu should redouble his outreach efforts. With foreclosures continuing to rise and loan modification efforts hardly making a dent in the problem, it isn’t hard to imagine that policymakers might be more open to wacky-sounding solutions than they were even six months ago.

Six Servicers Get $9.9B For Loan Modifications

Posted on the Housing Wire by Paul Jackson:

The U.S. Treasury Dept. said Wedensday evening that it had completed arrangements with the first six major mortgage servicers to participate in a much-publicized program announced by the Obama administration to modify three to four million mortgages. The program, part of the Homeowners Affordability and Stability Plan detailed in March, will provide the selected servicers with a combined maximum of $9.9bn to modify troubled mortgages.

The department said the following servicers were the first to become eligible for payments under the Making Home Affordable loan modification program: Chase Home Finance LLC, Wells Fargo Bank NA, CitiMortgage Inc., GMAC Mortgage Inc., Saxon Mortgage Services Inc. and Select Portfolio Servicing.

The payments are part of the administration’s $75 billion program to try to prevent foreclosures and help borrowers refinance into new loans. Other servicers will be added as arrangements are finalized, the Treasury said; and it’s clear that the list of servicers looking to obtain incentive payments is quite long.

For example, West Palm Beach, Fla.-based Ocwen Financial Corp (OFC: 29.50 +9.54%), a subprime servicer not on the initial list of six released by Treasury officials, had said earlier this week it believed it was the first servicer in the country to begin executing loan modifications under the administration’s plan.

Also not on the initial Treasury list was Bank of America Corp. (BAC: 10.44 +3.47%), the nation’s largest servicer after its acquisition of Countrywide Financial last year. A request for comment on BofA’s implementation of the loan modification guidelines set forth in the HASP had not been returned by the time this story was published.

It’s unclear if servicers modifying mortgages to government-specified guidelines ahead of a final agreement with Treasury officials will be able to obtain incentive payments for mortgages they modify during the interim timeframe.

Among the first six to obtain funding from the Treasury, Chase could receive the lion’s share of incentive payments, up to $3.6 billion. Wells Fargo has been allotted $2.87 billion, and CitiMortgage $2.07 billion; GMAC could get $633 million, Saxon $407 million and Select Portfolio $376 million. All figures are based on the size of each company’s respective servicing portfolios, a senior Treasury official told the Wall Street Journal.

Under the plan, the government will pay servicers a $1,000 one-time fee for modifying a mortgage down to a 38% payment-to-income ratio for five years — a plan that analysts, including Amhert Securities analyst Laurie Goodman, say creates an incentive for homeowners to ‘rent’ their home. Modified loans must survive a 90-day trial in order to be eligible for the incentive payment.

Government funds will also match the cost of further interest-rate reductions or other modifications to bring payments down to 31% of a borrower’s income. If borrowers perform in their newly-modified mortgages, servicers would be eligible to receive $1,000 per year for three years under the government incentive program.

Wait, You Mean the Foreclosure Freeze Didn’t Work?

Posted on the Housing Wire by Paul Jackson:

The headline to this column is a question you’ll increasingly see in the press over the next few months as foreclosures begin to filter their way through the default pipeline all over again. But don’t take my word for it — the Wall Street Journal discovered today that foreclosures are back on the upswing, so it must be true.

If you’ll recall, servicers nationwide had implemented a series of foreclosure moratoria that largely ran through the end of March. Many servicers — that would be JP Morgan Chase & Co. (JPM: 31.82 +3.65%), Wells Fargo & Co. (WFC: 18.80 +2.90%), and the like — had implemented a foreclosure and extended eviction halt at the instruction of the GSEs, whose loans they manage; they also had agreed to halt foreclosures for certain borrowers while the details of Obama’s Making Home Affordable program were being implemented and put into place.

The moratoria helped slow actual foreclosure sales the past few months, while the number of foreclosure starts (the start of the default process) have continued to pile up.

Fixed-income researchers at Bank of America Corp. (BAC: 9.84 -2.48%) on Wednesday noted that 90+ day roll rates, which measure the relative number of severely delinquent loans moving to foreclosure sale, have largely been suppressed by the foreclosure freezes. “Although the overall trend and levels for the prime, alt-A and subprime sectors have differed, on average, the [90+ days roll to foreclosure rate] dropped almost 10 percentage points, from around 25% per month to about 15% per month,” the researchers said in a note to clients. They expect to see a spike in foreclosure sales, however, over the next 1 to 3 months “as the moratoriums are lifted and loss-mitigation programs start to filter out ineligible borrowers.”

So we’re seeing a borrower backlog in the default pipeline. Are these borrowers exiting the pipeline via other means, since foreclosure hasn’t been a viable option recently? The data again suggests the answer is a resounding ‘no.’ While cure rates have been increasing in comparative terms over the course of the moratoria duration (essentially Dec. 2008 to Mar. 2009), in real terms cures remain tough to come by. According to data from Clayton Holdings, Inc., for example, the cure rate on 2007 vintage subprime first-lien RMBS in February was 8.16%; for 2007 vintage Alt-A first lien RMBS, the cure rate in February was 4.69%.

What we are seeing, however, is servicers quickly moving to clear bad assets as soon as the GSEs and government pressure points will allow foreclosures to proceed. Analyst Mark Hanson of The Field Check Group circulated data to subscribers last week showing that for California, among the state’s top five servicers, the volume of notices of sale surged more than 170 percent between February and March 2009 alone, from 4,410 NTS filings in February to 11,981 in March. (Notices of sale indicate an imminent foreclosure, usually within a 30 to 60 day timeframe, depending on locale.)

Which means that the financial press, consumer groups, and Capitol Hill are quickly coming to realize something that most of us from the mortgage space have long known to be true: the problem here isn’t entirely the mortgage instrument, and moratoria ultimately can do nothing more for most troubled borrowers than postpone the inevitable. From the Journal, an exercise in finding reality:

“We are getting so many of these cases where people don’t fit the new [Obama] program,” says Michael Thompson, director of Iowa Mediation Service, which works with troubled borrowers. Many borrowers are unemployed or underemployed or have credit problems that go well beyond their mortgage troubles, he says.

Many have been “playing for time” while the moratoriums have been in place, he says. But the delays have only increased the amount of interest and fees they owe, making their loans “nonviable in the long run.”

This should not be considered news to anyone inside the mortgage banking space, or anyone that reads HousingWire. As we’ve written about numerous times in this space, no amount of modification can replace a lost job, or a long-term loss of income. And with 15.6% of the nation’s workforce now either unemployed or underemployed, the problems in the nation’s mortgage markets are as much a broad economic problem as they’re a problem tied to blow-and-go underwriting standards and creative loan products.

“The bottom line is that there is a massive wave of actual foreclosures that will hit beginning in April that can’t be stopped without a national moratorium,” Field Check’s Hanson wrote in a note to clients last week. Here’s to hoping that we’ve already learned our lesson the first time around on this.

Pepperdine Law Review Hosts Mortgage Crisis Symposium

In a few short years, Americans have watched the housing market swing from what seemed like unstoppable price inflation and easily accessible loans to today's climate of rapid decline in value, difficulty in financing, and astonishing rates of default and foreclosure.

The Pepperdine Law Review will bring top scholars to campus to examine what went wrong in a symposium titled, "Bringing Down the Curtain on the Current Mortgage Crisis and Preventing a Return Engagement," on Friday, April 17, from 8:30 a.m. to 5:30 p.m. in the Mendenhall Appellate Courtroom.

Topics will include: the roots of the crisis, from both a real estate and a regulatory perspective; bankruptcy issues, including whether the Bankruptcy Code should be changed to allow modification of home mortgages in Chapter 13; problems with financing the burgeoning market of manufactured housing; the "Holder in Due Course" doctrine and how it has muddied the secondary mortgage market; the promotion of home ownership, and its relationship to the current situation; how we can reform the laws and the regulatory agencies to avoid a mortgage crisis in the future; and whether mortgage foreclosure law should be federalized to provide a uniform national approach.

Distinguished speakers include Deborah Dakin, Deputy Chief Counsel for business transactions at the Office of Thrift Supervision (OTS); Ann M. Burkhart, Curtis Bradbury Kellar Professor of Law at the University of Minnesota Law; Rick J. Caruso, chief executive officer of Caruso Affiliated; Wilson Freyermuth, John D. Lawson Professor of Law and a Curators' Teaching Professor at the University of Missouri; Samuel J. Gerdano, executive director of the American Bankruptcy Institute in Alexandria, Virginia; Melissa B. Jacoby, George R. Ward Professor of Law at the University of North Carolina at Chapel Hill; Alex M. Johnson, Jr., Perre Bowen Professor of Law and the Thomas F. Bergin Research Professor of Law at the University of Virginia School of Law; Robert M. Lawless, professor and the Galowich-Huizenga Faculty Scholar at the University of Illinois College of Law; Timothy J. Mayopoulos, previous executive vice president and general counsel of Bank of America Corporation; Grant Nelson, William H. Rehnquist Professor at Pepperdine School of Law; Robert K. Rasmussen, dean and Carl Mason Franklin Chair in Law at USC Law; Mark S. Scarberry, professor at Pepperdine University School of Law, Michael H. Schill, professor at UCLA School; and Dale A. Whitman, former James Campbell Professor of Law at the University of Missouri-Columbia and current D and L Straus Distinguished Visiting Professor at Pepperdine.

To register for the symposium, visit the Web site. For more information, contact Margaret Barfield at 310-506-4653. New discounted rate for public employees: $30.

Banks Ramp Up Foreclosures

Posted on the Wall Street Journal by Ruth Simon:

Some of the nation's largest mortgage companies are stepping up foreclosures on delinquent homeowners. That will likely lead to more Americans losing their homes just as the Obama administration's housing-rescue plan gets into gear.

J.P. Morgan Chase & Co., Wells Fargo & Co., Fannie Mae and Freddie Mac all say they have increased foreclosure activity in recent weeks. Those companies say they have lifted internal moratoriums which temporarily halted foreclosures.

Some mortgage companies had stopped foreclosing on borrowers as they waited for details of the Obama administration's housing-rescue plan, announced in February, which provides incentives for mortgage companies and investors to reduce borrowers' payments to affordable levels. Others had temporarily halted foreclosures while they put their own programs in place, or in response to changes in state laws.

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Bloomberg News

A foreclosure-auction sign in front of a home in San Jose, Calif., on April 3. Some of the nation's largest mortgage companies have lifted internal moratoriums on foreclosures and have begun determining which troubled borrowers are eligible for federal help and which to foreclosure on.

Now, they have begun to determine which troubled borrowers are candidates for help, and to move the rest through the foreclosure process.

The resulting increase in the supply of foreclosed homes could further depress home prices and put additional pressure on bank earnings as troubled loans are written off.

Some of the mortgage companies are themselves receiving funds under the government's financial-sector bailout, which could make their actions politically sensitive. But mortgage companies say they are taking steps to keep borrowers in their homes, and are only resorting to foreclosure when there are no other options.

Foreclosure sales had dropped in the second half of 2008 as mortgage companies delayed taking action against delinquent borrowers. But sales have been edging up this year, according to LPS Applied Analytics, which tracks loan performance. Foreclosure-related filings increased by nearly 6% in February from the month earlier, and were up almost 30% from February 2008, according to RealtyTrac. The backlog of seriously delinquent loans has been growing.

In California, notices of trustee sales, which are preludes to foreclosure sales, climbed by more than 80% to 33,178 in March, from February, according to data from ForeclosureRadar.com and the Field Check Group. The increase reflects both the expiration of foreclosure moratoriums and a California law enacted late last year that temporarily delayed default and foreclosure notices, says Mark Hanson, president of the Field Check Group, a research firm.

Ronald Temple, co-director of research at Lazard Asset Management, expects home prices to fall 22% to 27% from their January levels. More than 2.1 million homes will be lost this year because borrowers can't meet their loan payments, up from about 1.7 million in 2008, according to Moody's Economy.com.

Mortgage-servicing companies, such as J.P. Morgan Chase and Wells Fargo, collect mortgage payments and work with troubled borrowers, both for loans they own and those held by investors.

J.P. Morgan Chase has increased foreclosure actions since the expiration of a moratorium on new foreclosures that began on Oct. 31, and a later moratorium put in place at President Obama's request. The Oct. 31 moratorium delayed foreclosures on more than $22 billion of Chase-owned mortgages involving more than 80,000 homeowners.

"We had stopped putting additional loans into the foreclosure process so we could be sure that delinquent borrowers would have every opportunity to take advantage of new initiatives that we were putting in place," a Chase spokesman says. Borrowers who are now receiving foreclosure-sale notices, he said, "own vacant properties, have not been in contact with us and/or do not qualify for the modification programs."

Citigroup Inc. says it stopped all foreclosures until March 12, at the Obama administration's request, on loans serviced for Fannie and Freddie. Since then, says a spokesman, it has "reverted to our previous business-as-usual moratorium." Under that policy, it will not initiate a foreclosure sale for any borrower who is working with Citigroup and is a good candidate for a loan modification, provided Citigroup owns the loan or has investor approval. "For borrowers who do not qualify under these criteria and where no other options are available, we will move forward with foreclosures," the spokesman says.

Wells Fargo has also increased foreclosure actions since the expiration of its foreclosure moratorium, put into place while it awaited details on the administration's plan. Wells Fargo "will continue to work with our customers to find solutions up to the actual point of a foreclosure sale," a Wells Fargo spokesman says. "But the expiration of foreclosure moratoriums is having an impact."

Both Fannie and Freddie have stepped up sales of foreclosed properties since their moratoriums ended on March 31. Freddie says it has started to complete some foreclosure sales, such as those involving investment properties or second homes, though it continues to delay foreclosures on loans that may be eligible for modification under the Obama plan.

Fannie has told servicers that "a foreclosure sale may not occur on a Fannie Mae loan until the loan servicer verifies that the borrower is ineligible" for a loan modification under the Obama administration's plan, "and all other foreclosure prevention alternatives have been exhausted," a Fannie spokeswoman says.

GMAC's mortgage division, which had temporarily halted foreclosures while awaiting details of the Obama plan, is now reviewing loans to see which ones will qualify under the program. So far, about 10% of borrowers in some stage of foreclosure appear to be eligible for the federal program, a company spokeswoman says. Although GMAC may be able to work with investors who own these loans to come up with another solution, she says, many borrowers who don't qualify for help under the federal program are likely to wind up in foreclosure.

Mortgage companies are sorting through loan files to determine which borrowers are candidates for help. "At the time a moratorium expires, we have a team of folks who will pore through all of those loans where borrowers have not paid before we will take the next step in the process," says Jim Davis, executive vice president for American Home Mortgage Servicing Inc. "If there is any borrower contact, we will hold off on the foreclosure process until we've exhausted every effort to assist that borrower."

Still, some borrowers who are currently talking to their mortgage companies are also likely to wind up in foreclosure once their files are reviewed. "We are getting so many of these cases where people don't fit the new [Obama] program," says Michael Thompson, director of Iowa Mediation Service, which works with troubled borrowers. Many borrowers are unemployed or underemployed or have credit problems that go well beyond their mortgage troubles, he says.

Many have been "playing for time" while the moratoriums have been in place, he says. But the delays have only increased the amount of interest and fees they owe, making their loans "nonviable in the long run."

Many troubled loans will ultimately wind up in foreclosure because the borrower doesn't have sufficient income to make even a reduced mortgage payment, or doesn't respond to the mortgage company's requests for information. "Certainly half of the loans that would have wound up in foreclosure before the foreclosure moratoriums went in place" will ultimately wind up in foreclosure, says Michael Brauneis, director of regulatory risk consulting at Protiviti Inc., a consulting firm.

While many troubled loans are held by hedge funds, pension funds and other investors, the expiration of foreclosure moratoriums could also put a dent in bank profits, says Frederick Cannon, an analyst with Keefe, Bruyette & Woods. The moratoriums "have to some degree postponed the realization of problems" and "may help bank earnings in the first quarter" by delaying charge-offs of some troubled loans, he says.

The Plan to Assist Mortgage Borrowers: Loan Modification

Posted on Yahoo Finance by Jack Guttentag:

My previous articles in this series criticized the administration's new program for Making Home Affordable (MHA) because it ignored negative equity -- which is the major factor underlying the currently horrendous foreclosure rate -- and because it offered refinance relief only to borrowers lucky enough to have their mortgages owned or guaranteed by Fannie Mae or Freddie Mac. This article is about the loan contract modification part of the program, which covers loans owned by any investor.

Like the refinance program, the loan modification part of MHA ignores negative equity and offers help only to owner-occupants. Investors are not eligible. Those negatives aside, the modification program is well designed. Its architects have taken note of a number of problems that have bedeviled existing modification programs, and have fashioned sensible remedies to deal with them.

Shortages of Trained Staff: The shortage of qualified staff by servicers, as well as the high cost of modifying loans, has resulted in many needless foreclosures that timely modifications could have prevented. The MHA remedy is to provide financial incentives to servicers to do more modifications.

Under the program, servicers are paid $1,000 for each eligible loan they modify, provided that the modified loan remains current through a trial period of at least 90 days. In addition, the servicer collects $1,000 a year for three years if the borrower stays current for that period.

High Incidence of Redefault: In the past, many borrowers with modified loans have subsequently defaulted. Many early modifications, however, did not reduce the borrower's payment, and in some cases the payment increased.

Under MHA, the interest rate is reduced to a level where payments for principal, interest, taxes, and insurance make up no more than 31 percent of the borrower's gross income. In addition, a borrower who stays current will receive $1,000 a year for up to five years in the form of balance reductions.

Restriction to Borrowers in Default: For the most part, servicers have limited modifications to borrowers who are two or more payments behind. This rule assured compliance with investor requirements that modifications were allowed only to avoid more-costly foreclosures, and it also helped servicers allocate their limited staff to the most urgent situations. But it had the unfortunate effect of encouraging borrowers to default so they could get help.

The new program attempts to remedy this by establishing "hardship" criteria for eligibility that does not require the borrower to be in default in order to qualify for a modification. In addition, bonuses of $1,500 to the investor and $500 to the servicer are offered for each modification that is executed while the borrower facing hardship is still in good standing.

Multiplicity of Modification Standards: Different servicers have applied different standards to the modification process, both in terms of assessing eligibility and in establishing the type and scope of modification. The result has been vastly different treatment of borrowers, depending on who happened to be servicing their loan. The new program attempts to remedy this by setting out standards for determining eligibility, the type and amount of assistance provided, the documentation required, and other factors.

In brief, eligible borrowers must be able to document financial hardship, defined as a monthly housing expense (mortgage payment plus taxes and insurance) in excess of 31 percent of gross income. If borrowers who qualify under this rule have a total expense ratio, which includes all other debt payments, of 55 percent or more, they must agree to obtain counseling. The mortgage payment of eligible borrowers is reduced to 31 percent primarily through temporary interest rate reductions, following procedures detailed by the government.

Unfortunately, on modifications that are not MHA eligible, the multiplicity of standards will remain.

The Second Mortgage Problem: Second mortgages are a potential barrier to modifying first mortgages because of the threat that the second mortgage lender can always foreclose if the second mortgage payment is not made. Some servicers work with second mortgage lenders, while others require the borrower to make a deal with the second mortgage lender that gets them out of the way.

Under the program, "incentives will be provided to extinguish junior liens on homes with first liens that are modified under the program." No detail is provided on this part of the program, which is one of several loose ends that await clarification. It is hoped that, in tying up these loose ends, the Treasury will also reconsider its exclusion of investors from the program, which could be easily remedied, and think about developing another program directed to the problem of negative equity.

Have HASP loan modifications begun?

WEST PALM BEACH, Fla., April 13, 2009 -- Ocwen Financial Corporation (NYSE:OCN), a leading servicer of subprime mortgages, is among the first servicers (if not the first) in the country to begin executing loan modifications under the U.S. Treasury Department's new Home Affordable Modification Program. The expansive initiative, the contractual details of which are still being developed, is designed to help three to four million distressed homeowners avoid foreclosure by reducing their monthly mortgage payments.

Even though the form servicing contracts have not yet been provided, Treasury invited servicers ready to adopt the Program to do so, given the exigencies of the foreclosure crisis. Ocwen was able to very quickly adapt its already robust modification initiatives to be compliant with the government's Program because the company's Home Retention Consultant staff is enabled with a highly automated, scalable loan servicing platform.

Said Ocwen Chairman William C. Erbey, "We're proud to be able to aggressively implement the President's plan, which we support and are committed to helping make a success."

In a letter to President Obama, Mr. Erbey wrote, "On behalf of Ocwen Financial Corporation, I applaud you, Secretaries Geithner and Donovan and your economic team on the adoption of . . . a sweeping loan modification program to assist homeowners with unaffordable mortgages and prevent avoidable foreclosures. We share your view that loan modifications are the key for a lasting solution to the daunting foreclosure crisis -- a crisis that lies at the very heart of our nation's economic problems and threatens millions of families with the loss of their American Dream -- their home. We fully support your new Plan and will work hard to help make it a success."

Ocwen's President Ronald M. Faris added, "We were well positioned for a vigorous launch of this new government Program. Since the outset of the mortgage crisis, we have increased key staffing by over 65%. Our modification processes required very little tweaking to comply with Program guidelines."

Government Program Guidelines Consistent with Ocwen's Customized, Win/Win/Win Approach

Treasury's Program covers mortgages that are in default, or in imminent default, within the FHFA conforming limit of $729,750 on owner-occupied homes. Participating servicers must reduce monthly payments on those loans to no more than 31% of the homeowner's monthly gross income so long as the modified loan provides more cash flow to the loan owner than what would be realized in a foreclosure. The reduced payments are to be achieved through interest rate reductions, extended amortization terms and/or principal forbearance or forgiveness. Servicers will receive an up-front incentive fee of $1,000 for every modification under the Program, plus a $1,000 success fee for each year that modified loan stays current, for up to three years. Borrowers receive a principal reduction of $1,000 per year for staying current for up to five years.

"The Program guidelines are very similar to the customized modification approach we had already adopted," Mr. Erbey said. In an appearance at a Congressional hearing in February, he explained that "Loan modifications crafted in this way are consistent with our contractual obligations and result in a win/win/win solution for all involved. The homeowner keeps their home; the loan investor avoids a substantial loss; and the loan servicer retains the loan in its servicing portfolio. Since the inception of the crisis, we have saved over 90,000 homes from foreclosure." He also pointed out that an industry study by Credit Suisse showed that, for investors, "Ocwen's loan modification program generates the highest cash flows by any servicer on 90+ days delinquent loans -- an amount that is twice the industry average."

Said Mr. Faris, "We particularly like the 'imminent default' feature of the Treasury Program guidelines. Not having to wait until a homeowner is several months behind permits the servicer to proactively head off a serious delinquency in its incipiency, with far greater sustainability results. By using this same approach with our customers, Ocwen's Early Intervention staff was able to avoid over 9,000 foreclosures last year."

The customized loan modifications that Ocwen engineers have a re-default rate of 24% after six months, compared to an industry average 41% for loans serviced for third parties according to the most recent report issued by the OCC and OTS.

Ocwen's Approach to Heavy Volumes of Delinquencies

Over the past 10 years, Ocwen has invested more than $100 million in designing and refining its REALServicing(r) and REALResolution(r) systems. The technology uses artificial intelligence, rules-based systems, scripting engines and net present value cash flow algorithms to enable Ocwen to apply common elements quickly across a range of modifications, while still allowing for an analytic approach to individual loans. Ocwen has also established a Psychology Department, staffed with academics, to help the company's loan analytics experts integrate behavioral sciences into decisioning models. "The goal here is to remove variability from key processes and make interactions with distressed customers more effective so we can reach successful resolutions faster. The scalability of our technology also allows us to take on many multiples of the volumes of delinquencies we have already cured in our portfolio," Mr. Erbey said.

About Ocwen

Ocwen Financial Corporation is a leading asset manager and business process solutions provider specializing in loan servicing, special servicing, mortgage loan due diligence and receivables management services. Ocwen is headquartered in West Palm Beach, Florida with offices in Arizona, California, the District of Columbia, Florida, Georgia and New York and global operations in Canada, Germany, India and Uruguay. Utilizing our global infrastructure, state of the art technology, world-class training and six sigma processes, we provide solutions that make our clients' loans worth more. Additional information is available at www.ocwen.com.

Understanding foreclosure

Posted on Cyberhomes.com by Lauren Baier Kim:

Once a relatively small fraction of the U.S. housing market, foreclosures now make up a large part of the market -- there were some 5.4 million homes in or approaching foreclosure at the end of 2008.

Of course, some areas are worse-hit than others. If you take a look at our foreclosure map in Cyberhomes' new "Facing Foreclosure" special report, you'll see that California, Nevada, Arizona and Florida have far more homes facing foreclosure than places like Montana, Wisconsin and Vermont.

Although widespread, the foreclosure process can be quite a confusing one. To help you digest it, Cyberhomes has assembled a guide to the six steps of foreclosure, plus tips on how to buy a distressed property. We also offer a more personal look at foreclosure with stories on how foreclosure has affected a family and how another family was lucky enough to narrowly avert foreclosure. For a visual look, view a slideshow of photos by Taylor Dunfee that depicts the epicenter of the foreclosure crisis, Las Vegas.

And of course, you can also get a sense of the foreclosure market in your town by typing in your ZIP code in the search box on the Cyberhomes home page, choosing "Homes for Sale" and then clicking "Foreclosures only." Doing so for my New Jersey ZIP code brought up 73 listings in an area with a population of about 33,000.

Housing Crisis Slideshow: “Why There is More Pain to Come”

Posted on Option ARMageddon by Rolfe Winkler:

Lots of great data in this updated presentation from T2 Partners. The authors of the slideshow have a book coming out in May, More Mortgage Meltdown. (ht Paul M.)

The crux of their argument, that their is more pain to come, is based on mortgage reset/recast schedules. We’ve come through the worst of the subprime default wave, but Alt-A, Option ARM and Jumbo Prime still loom. Not to mention Commercial Real Estate.

If you’re having trouble reading some of the smaller figures in the presentation, zoom in by clicking the “+” at the top of the window.

T2 Partners Presentation on the Mortgage Crisis-4!3!09 3

Firms Race to Build a Marketplace for Whole Loan Trades

Posted on the Housing Wire by Paul Jackson:

Early entrants are rushing into the business of facilitating the trade of distressed residential real-estate debt, as the number of troubled real estate loans continues to grow. While the space remains largely in its infancy, the firms trying to build a market for note trading say they hope the current crisis can help spur a more transparent marketplace for buying and selling whole loans.

One such outfit, Irvine, Calif.-based LoanMarket.NET, said Tuesday that it had launched its online marketplace for buying and selling real estate-secured note investments.

“The market for buying individual mortgage notes from originating lenders has traditionally been available only to investors such as Wall Street investment banks, large hedge funds, and regional banks,” said LoanMarket.NET founder and president Jeff Freud, a 20-year real estate and mortgage industry veteran.

“Now small institutions and sophisticated individual investors, such as those who have traditionally invested in other debt instruments, can gain access to these income-generating notes, collecting principal and interest payments just as the former lender did for the remaining term of the loan or until a refinance or sale occurs.”

The new website uses slick technology to help investors understand what they’re purchasing, including providing a current market value (CMV) estimate and a photo of the underlying property pulled within 14 days of posting, the company says. Any real estate notes listed for sale on the site also include all vital loan documentation such as the Note, the Deed of Trust, the Title Policy and evidence of homeowner’s insurance, the company said.

It’s a potentially huge market for the firms that can figure out how to properly tap into it. Of course, the challenge is enticing sellers to consistently place their notes on the platform for sale, something that as of yet remains a large unknown for anyone looking to build a marketplace for distressed notes.

“I get calls all day long from people claiming to have something to sell me,” said one fund manager that specializes in distressed whole loan purchases. “Most of the time, it’s hot air, a guy that’s brokering some tape he doesn’t own. I’d love to see an online marketplace that bring viable assets to market, but my first question will be how that firm is vetting potential sellers.”

Another firm, Newport Beach, Calif.-based The LFC Group of Companies, rolled out an online note auctioning platform called BigBidder.com in mid-March; the company’s website says that the platform offers $39.8 million in available notes up for auction, but it’s unclear who the sellers are.

That’s not to say establishing an online marketplace for debt can’t be done — Boston-based DebtX, Inc. has a well-established platform for distressed debt exchange in commercial real estate notes, and holds multi-year contracts to sell distressed debt for the Federal Deposit Insurance Corp. and the U.S. Department of Housing and Urban Development. The exchange has managed the sale of well over $1 billion in CRE debt over the past 12 months, because of its relationships with viable sellers.

While the DebtX platform has traditionally focused on a wide range of performing and non-performing loans secured by multifamily real estate, retail, office, industrial, assisted living and business assets, the company has recently managed transactions involving residential notes as well.

Visit LoanMarket.NET on the web, as well as BigBidder.com and DebtX.

Why can’t borrowers buy back their mortgages at a discount?

Posted on Reuters by Felix Salmon:

Thornburg Borrowers Unite is a new blog for people with mortgages from now-bankrupt Thornburg. Those mortgages are for sale, at a discount: why can’t the homeowners themselves buy them back? “If Thornburg can be persuaded to give its borrowers right of first refusal,” goes the argument, “it costs taxpayers nothing, and it prevents third parties from profiting from our losses and the demise of Thornburg.”

This is entirely true, and it seems like a perfectly good idea. But there is one small problem with it — the issue of adverse selection, from the point of view of the investor buying up Thornburg’s mortgages.

If I’m putting in a bid on a large number of Thornburg loans, I know that some will perform well, and be worth more than par, while others will perform very badly, result in foreclosure, and be worth maybe 30 or 40 cents on the dollar to me, all told. Net-net, I might be willing to pay 60 or 70 cents on the dollars for those loans.

The borrowers are saying that if Thornburg is willing to sell their loan to an outside investor for 69 cents, it should be even more willing to sell that loan back to the homeowner for 70 cents. But in fact it’s more complicated than that. The homeowners who are willing and able to buy back their own loans for 70 cents on the dollar are generally the most valuable of Thornburg’s borrowers — they’re overwhelmingly likely to be the ones whose loans are worth par, or more. So if Thornburg allows them to buy their own loans back, the value of the remaining mortgages goes down, and the investors aren’t going to be willing to pay 69 cents on the dollar any more.

And it’s also not strictly true that doing this “costs taxpayers nothing”. If I borrow $500,000 from Thornburg and then buy that debt back for $350,000, I’m basically making a $150,000 profit, which would normally be taxed as income. Recently, the government temporarily suspended the laws forcing me to pay income tax on that $150,000. But the more people who buy back their mortgages at a discount, the more income tax is foregone by the Treasury.

All that said, the idea behind the blog is a fundamentally good one: anything which provides a new bid for legacy mortgage assets should be encouraged. I wish these people well, and hope they get somewhere with their campaign.

Fed Paper on Reducing Foreclosures

Posted on Calculated Risk:

This is an interesting paper by Christopher Foote, Kristopher Gerardi, Lorenz Goette, and Paul Willen: Reducing Foreclosures

The authors make two key points:

DTI (debt to income) at origination is not a strong predictor of default.

What really matters in the default decision is the mortgage payment relative to the borrower’s income in the present and future, not the borrower’s income in the past. Consequently, the high degree of volatility in individual incomes means that mortgages that start out with low DTIs can end in default if housing prices are falling.

Evidence suggests loan servicers are unwilling to turn high-DTI mortgages into low-DTI mortgages.

The evidence that a foreclosure loses money for the lender seems compelling. The servicer typically resells a foreclosed house for much less than the outstanding balance on the mortgage ... This would seem to imply that the ultimate owners of a securitized mortgage, the investors, lose money when a foreclosure occurs. Estimates of the total gains to investors from modifying rather than foreclosing can run to $180 billion, more than 1 percent of GDP. It is natural to wonder why investors are leaving so many $500 bills on the sidewalk. While contract frictions are one possible explanation, another is that the gains from loan modifications are in reality much smaller or even nonexistent from the investor’s point of view.

We provide evidence in favor of the latter explanation. First, the typical calculation purporting to show that an investor loses money when a foreclosure occurs does not capture all relevant aspects of the problem. Investors also lose money when they modify mortgages for borrowers who would have repaid anyway, especially if modifications are done en masse, as proponents insist they should be. Moreover, the calculation ignores the possibility that borrowers with modified loans will default again later, usually for the same reason they defaulted in the first place. These two problems are empirically meaningful and can easily explain why servicers eschew modification in favor of foreclosure.
emphasis added

This analysis suggests mortgage modifications - without principal reduction - will have limited success. The authors suggest that loan or grants to homeowners with lost income might be more effective than mortgage modifications.

The authors also makes several other important points:

On "walking away" or "ruthless default" (when the borrower walks away because they refuse to make payments on an underwater house).

If there is no hope that the price of the house will ever recover to exceed the outstanding balance on the mortgage, the borrower may engage in “ruthless default” and simply walk away from the home. Kau, Keenan, and Kim (1994) show that optimal ruthless default takes place at a negative-equity threshold that is well below zero, due to the option value of waiting to see whether the house price recovers.

But the authors conclude that ruthless defaults are only a small part of the current foreclosure problem:

To sum up, falling house prices are no doubt causing some people to ruthlessly default. But the data indicate that ruthless defaults are not the biggest part of the foreclosure problem. For the nation as a whole, less than 40 percent of homeowners who had their first 90-day delinquency in 2008 stopped making payments abruptly. Because this figure is an upper bound on the fraction of ruthless defaults, it suggests ruthless default is not the main reason why falling house prices have caused so many foreclosures.

Negative equity is key to defaults (Falling house prices!)

The empirical evidence on the role of negative equity in causing foreclosures is overwhelming and incontrovertible. Household-level studies show that the foreclosure hazard for homeowners with positive equity is extremely small but rises rapidly as equity approaches and falls below zero.

Faced with loss of income, homeowners with enough positive equity sell. Homeowners with negative equity default.

Resets are of only limited importance.

Many commentators have put the resets at the heart of the crisis, but the simulations illustrate that it is difficult to support this claim. The payment escalation story is relevant if we assume that there is no income risk and that the initial DTI is also the threshold for ex post DTI. Then loans with resets become unaffordable 100 percent of the time and loans without resets never become unaffordable. But adding income risk essentially ruins this story. If the initial DTI is also the threshold for ex post DTI, then, with income risk, about 70 percent of the loans will become unaffordable even without the reset. The reset only raises that figure to about 80 percent. If, on the other hand, we set the ex post affordability threshold well above the initial DTI, then the resets are not large enough to cause ex post affordability problems.

These are all key points.

I think it is important to understand that loans with high DTI were an enabler for speculation during the housing bubble, and this speculation pushed up house prices. So, although the authors argue high initial DTI loans are not a good predictor of defaults, the prevalence of high DTI loans was evidence of a bubble - and a good predictor of a housing bust.

Fed Economists Say Mortgage Changes May Not Stem Foreclosures

Posted on Bloomberg by Scott Lanman:

Policies aimed at easing home-loan terms for troubled borrowers may not be as effective in preventing foreclosures as more-direct aid to homeowners, Federal Reserve economists found.

Job losses and falling home prices have a bigger impact on delinquencies than mortgage terms, and modifications aren’t necessarily a better deal for investors than foreclosures, according to a paper by two current and one former economist at the Boston Fed Bank and one Atlanta Fed researcher.

The conclusion poses a challenge to housing advocates and to some extent the prevailing views of President Barack Obama’s administration, Fed officials and other U.S. regulators. Obama announced a $75 billion plan in February that concentrates on refinancing or modifying loans for as many as 9 million homeowners.

“One of the most influential strands of thought contends that the crisis can be attenuated by changing the terms of ‘unaffordable’ mortgages,” the economists said in the paper posted on the Boston Fed’s Web site today. Yet policies aimed at reducing a borrower’s debt-to-income ratio “face important hurdles in addressing the housing crisis,” the authors said.

Instead, the government should consider alternatives such as loans to homeowners to bridge the loss of income for one or two years caused by unemployment, or helping borrowers become renters, the economists said.

Boston, Atlanta

The authors include Christopher Foote and Paul Willen, who are senior economists and policy advisers at the Boston Fed; Kristopher Gerardi, a research economist and assistant policy adviser at the Atlanta Fed; and Lorenz Goette, a professor at the University of Geneva and former economist at the Boston Fed.

The paper doesn’t specifically discuss the merits of the White House plan.

The federal government has used policies to encourage loan modifications as a principal tool of attacking the surge in foreclosures over the past year. Fed Chairman Ben S. Bernanke, in a December speech, called for “greater standardization and efficiency” in programs to ease loan terms, while FDIC Chairman Sheila Bair has pressed the Treasury and mortgage companies to step of the pace of modifications.

Eric Rosengren, president of the Boston Fed, said in a January speech that loan servicers should be able to increase mortgage modifications as interest rates decline.

At the same time, many borrowers should be able to refinance through Federal Housing Administration loans, Rosengren said in the speech. Also, some borrowers just won’t be able to make their mortgage payments and could instead receive assistance to move to a rental property, he said.

The Housing Crisis Isn't A Crisis

Posted on Forbes.com by Peter Robinson:

Law professor Todd Zywicki of George Mason University is composing a book, Bankruptcy Law and Policy in the Twenty-First Century, in which Zywicki picks a couple of fascinating fights.

One involves former Fed Chairman Alan Greenspan; the other, the entire band of academics, former business executives and career bureaucrats who make up the Obama administration's economic apparat.

Zywicki's altercation with Greenspan requires a word of background.

After retiring from the Fed in 2006, Greenspan enjoyed the kind of semi-divine status that used to be reserved for Roman emperors. Then a number of economists, notably John Taylor of Stanford, began to argue that the monetary policy Greenspan pursued from 2001 to 2004, when Greenspan expanded the money supply dramatically, represented a proximate cause--maybe even the principal cause--of the housing bubble.

Last month, Greenspan descended from his plinth to defend himself. As Fed chairman, he had only lowered short-term interest rates, he argued in the Wall Street Journal, not the long-term rates on which mortgage prices are based. "No one, to my knowledge," Greenspan huffed, "employs overnight interest rates--such as the Fed Funds rate--to determine the capitalization rate of real estate."

Enter Todd Zywicki.

"What Greenspan overlooks," Zywicki says, "are adjustable-rate mortgages. ARMs are really sensitive to shorter-term interest rates."

"Look at the data going back to nineteen-eighties," Zywicki continues. "When the spread between regular mortgages and ARMs is less than about 150 basis points, people tend to take out regular mortgages. But when that spread widens, they switch to ARMs.

"What Greenspan did was artificially drive down the prices of ARMs, widening the spread. Low interest rates on ARMs enabled ordinary Americans to get bigger mortgages than they would otherwise have believed they could afford. That pushed up home prices. And that created the updraft that brought in speculators."

From loose money to cheap ARMs to rising housing prices.

"Nobody acted nefariously," Zywicki says. "Greenspan was trying to save the economy, not wreck it. But he still created a bubble."

This brings us to Zywicki's disagreement with the Obama administration. Treasury Secretary Timothy Geithner, Director of the National Economic Bureau Lawrence Summers and the other adepts in the administration all argue that the bursting of the housing bubble amounts to a national tragedy. According to President Obama himself, the "crisis" is "unraveling homeownership, the middle class and the American Dream itself."

Zywicki's reply? Nonsense.

His research has revealed three distinct types of housing markets--and only one of the three shows real signs of distress. Even then, that distress is only in a limited number of areas.

The first type of market behaves the way markets are supposed to behave, with smooth adjustments between supply and demand. When prices rose in places such as Dallas and Charlotte, builders constructed new houses. When prices softened, builders stopped. "Prices in these markets rose gradually," Zywicki says, "and now they're settling back to earth. There hasn't been any tragedy."

The second type of market, which appears in New York, Boston, San Francisco and Washington, D.C., demonstrates a long history of price volatility. "The housing stock in these markets is constrained," Zywicki says, "either by geography--San Francisco is surrounded on three sides by water, for example--or land use controls." When demand in such a market increases, prices soar. And when demand weakens, prices plummet.

"But the people who live in these markets expect big price swings," Zywicki says. "They've learned to live with them. They're holding onto their homes because they're confident prices will eventually recover. Again, there hasn't been any tragedy."

The third type of market displays both the ability to expand the supply of houses that characterizes the first type of market and the price swings that characterize the second type. "Type three markets," Zywicki says, "are concentrated in the Sun Belt. Ordinary investors seem to have calculated that a lot of people would either retire or buy second homes in these places. And when prices went up, speculators moved in. Pure bubbles developed."

In type three markets, hundreds of thousands of new homes went up. This oversupply will now keep prices low for years. "Las Vegas, Phoenix, Tampa--those are the places you'll find the tragedies," Zywicki says.

Instead of frightening people by talking about the end of the American dream, Zywicki argues, the Obama administration should offer reassurance, stressing the specific, limited nature of the foreclosure problem. "Heck," Zywicki says, "41 out of the 50 states have foreclosure rates below the national mean."

Next, the administration should think long and hard about just who it wishes to bail out and why. "If we bail out anybody, they should only be people who want to stay in their homes but can't make the payments, not people who could make the payments but want to walk," Zywicki argues. The administration should consider helping homeowners, in other words, but not speculators--"and if you put no money down and don't have any equity in your house, you're not a homeowner."

The most important step the administration could take? To resist intervening in the housing market as a whole.

"Assistance for the relatively small number of people who are facing really tragic circumstances makes sense," Zywicki says, "but if the administration tries to push overall housing prices back up, it will only be asking for trouble. We overbuilt. That's the reality. And not even Obama can change it."

In short, the administration should learn from the example of Alan Greenspan. Even when it intervenes in the economy with the very best of intentions, the government has a way of producing disastrous consequences.

Stand back, says the professor at George Mason University--stand back and let the markets clear.

HOPE NOW Reaches Out; Will Homeowners Catch On?

HOPE NOW, the private sector alliance of mortgage servicers, non-profit counselors, and investors, on Wednesday announced a new campaign targeting homeowners “at serious risk” of foreclosure. The campaign — called “Reach Out” — will pair at-risk borrowers with U.S. Department of Housing and Urban Development-certified counseling agencies to “determine options that will best serve their needs.”

“Reach Out,” a targeted state-by-state initiative, will begin with a preliminary phase aimed specifically at Wisconsin homeowners who are 90 or more days delinquent. HOPE NOW, partnering with the Wisconsin Housing and Economic Development Authority and 11 HOPE NOW member servicers, is mailing outreach materials to homeowners urging them to take advantage of the local, “HUD-certified, free, legitimate” counseling firms. So far, the campaign has contacted at least 900 borrowers via these campaign mailers, the alliance said in a press statement.

“HOPE NOW wants to make sure that homeowners are aware of the legitimate housing counseling services available to them in their community,” executive director Faith Schwartz said. “Qualified, professional assistance is available at no cost to the homeowner and we want to be sure everyone who needs it actually gets it.”

HOPE NOW said it plans to expand “Reach Out” to other states with the highest percentages of 90-plus-day-delinquencies, including New Jersey, Texas, South Carolina and Florida.

But will it stick?
Past studies have shown that outreach programs on the part of servicers and lenders almost always result in some portion of borrowers that never return inquiries, cannot be reached at all, or even refuse help. As for those mortgages that are actually modified, studies show an alarming trend of near 50-percent-recidivism — or re-default rate.

The Office of the Comptroller of the Currency and the Office of Thrift Supervision announced in their most recent joint quarterly mortgage performance report that 41 percent of loans modified in the second quarter had fallen at least 60 days behind payments after eight months. The specific reasons for re-default were not clear, the report said, but a separate trend in the data indicates the degree to which a mortgage is modified — or how much monthly payments are reduced — may have some bearing on affordability and, consequentially, a borrower’s ability to remain out of default.

“Overall for 2008, about 42 percent of modified loans resulted in reduced payments, 27 percent in unchanged payments, and 32 percent in increased payments,” the agencies reported. “The proportion that reduced payments increased significantly in the fourth quarter, to more than 50 percent of all modifications.”

Re-default rates among modifications that actually lowered monthly payments “were consistently lower,” according to the report. About 23 percent of modifications that eased payments by more than 10 percent re-defaulted six months later, compared with the 51 percent of unchanged modifications that re-defaulted after six months. Some 46 percent of modifications that led to an increased payment had re-defaulted six months later.

Multi-Agency Crackdown on Foreclosure Rescue Scams Unveiled

Posted on the Housing Wire by Kelly Curran:

Treasury secretary Timothy Geithner, along with other agency leaders, announced Monday morning in a press conference a multi-agency crackdown on bad actors in foreclosure scams.

The new effort aligns responses from federal law enforcement agencies, state investigators and prosecutors, civil enforcement authorities, and the private sector to protect homeowners seeking assistance under the Administration’s Making Home Affordable program from criminal actors looking to perpetrate predatory schemes.

The new initiative is two tier. The Treasury’s Financial Crimes Enforcement Network (FinCEN) will marshal information about possible fraudulent actors, drawing upon a variety of data available to law enforcement, regulatory agencies and the consumer protection community, in order to help financial institutions spot questionable loan modification schemes and proactively report that information to law enforcement authorities.

Through FinCEN, the Treasury will also issue an advisory alerting financial institutions to the risks of emerging schemes related to loan modifications. The advisory will identify certain “red flags” that may indicate a loan modification or foreclosure rescue scam and warrant the filing of a SAR by a financial institution.

“The Department of Justice’s message is simple: if you discriminate against borrowers or prey on vulnerable homeowners with fraudulent mortgage schemes, we will find you, and we will punish you,” said U.S. Attorney General Eric Holder.

And with the collaborative efforts of the U.S. Department of the Treasury, the U.S. Department of Justice, the Department of Housing and Urban Development and the Federal Trade Commission (FTC), Attorney General Lisa Madigan said it’s no longer a matter of if those perpetrators will be caught, but when they will be caught.

The FTC announced today five law enforcement actions and sent 71 warning letters to operations using deceptive tactics to market their mortgage loan modification and home foreclosure relief services, said Jon Leibowitz, Chairman of the FTC. “We’re enforcing the law against these scam artists who are deceiving consumers while they’re down.”

And as for homeowners, Attorney General Lisa Madigan reminds them to “stay away” from anyone who promises to save their home for money upfront. “These are almost always scams,” she said.

It’s a burgeoning space, and here at HousingWire we regularly receive press statements — which we never run — from firms that claim to be in the business of helping troubled homeowners. Some firms have even been touting the availability “loss mitigation kits” for troubled homeowners for fees ranging from $99 to $1,200.

The Federal Reserve has gone so far as to begin placing advertisements in movie theatres in some of the nation’s hardest hit housing markets, warning consumers of these foreclosure aid scams. “The purpose…is to reach out to an audience that the Fed has possibly not reached before, to try and get people’s attention about mortgage scams and direct them to our website where we have tips for people to avoid these scams,” Sandra Braunstein, director of the Fed’s Division of Consumer and Community Affairs, told Reuters. The movie ads will begin their run in mid-April.

Bill would fundamentally reform home mortgage industry I

From the Los Angeles Times by Keith Harney:

Top legislators on Capitol Hill are preparing to take up a comprehensive plan that would fundamentally reform the home mortgage market, starting this year.

Had the proposed rules and standards been in place earlier in the decade, say congressional supporters, they could have eliminated much of the funny-money loans, slipshod underwriting and Wall Street abuses that distorted the market from 2002 through 2006. The boom wouldn't have been as big, and the bust might not have happened.

The Mortgage Reform and Anti-Predatory Lending Act of 2009 (H.R. 1728) was introduced March 26 by coauthors Rep. Brad Miller (D-N.C.), Rep. Melvin Watt (D-N.C.) and Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee. It is expected to move quickly through the House this month and go to the Senate by May. The odds of passage in some form are high, according to banking and housing industry lobbyists.

The bill is a tougher version of one pushed by Miller in 2007 that passed the House but foundered in the Senate. This year, however, as a result of heavier Democratic majorities in both houses, "the political climate has changed," Miller said. "The foreclosure crisis has wreaked havoc on middle-class families and our economy as a whole. The industry's arguments for watering the bill down are not at all convincing."

Here's what the legislation would do:

* Ban all fees paid to loan officers that are tied to the interest rate of the mortgage or the type of the loan. During the headiest years of the boom, Wall Street investment banks paid mortgage brokers higher fees if they originated exotic loans such as short-term subprime adjustable-rate, interest-only, payment-option and "stated income" no-documentation loans with minimal or no down payments.

The lending industry also routinely paid brokers higher fees for originating mortgages that carried rates above prevailing levels. Loan officers frequently steered applicants with marginal credit histories into loans with excessive rates and penalties -- and were paid extra by banks and Wall Street for doing so. Studies have documented that minority and first-time borrowers disproportionately were marketed loans with unnecessarily high fees and penalties, based on their credit scores.

The new bill would prohibit any compensation -- "direct or indirect" -- that is tied to the rate or terms of the mortgage. "There should be no way you can be compensated for steering anyone to a higher rate," Frank said in an interview. The bill does permit home buyers or refinancers to opt for a slightly higher note rate to finance closing costs.

* Create mandatory minimum national quality standards for all mortgages. The rules would encourage lenders to make fully documented 30-year, fixed-rate loans with prevailing market rates, as opposed to loans with higher-risk features such as adjustable payments and negative amortization. The bill would also impose a federal "duty of care" standard requiring loan officers to offer applicants terms and rates that are "appropriate" to their income and ability to repay. Refinancings would have to pass a "net tangible benefit" test demonstrating that the replacement loan is superior to the borrower's current terms. Lenders would have to offer applicants the option to choose any loan without a prepayment penalty attached. Mandatory arbitration clauses in most mortgages would be banned.

* Allow borrowers who are put into mortgages that violate the new law to seek legal redress through cancellation of the loan contract, refund of all payments and fees and compensation for legal costs.

Borrowers who lied or committed fraud on their loan applications would have no such recourse. The bill would also extend liability for rule violations to third-party securitizers who buy loans for repackaging into mortgage bonds. Originators of all but fully documented 30-year, fixed-rate loans would be required to retain at least a 5% stake in the loan until it's finally paid off. If the loan goes into default, they would retain some economic stake in the losses.

Francis Creighton, vice president and chief lobbyist for the Mortgage Bankers Assn., said that although his group supports many of the principles in the bill, forcing small and medium-size mortgage companies to set aside capital to cover 5% of their loan production would be difficult for them financially.

Why are the banking and mortgage industries generally more supportive of the new reform proposals than they've been in previous years? Anne Canfield, executive director of the Consumer Mortgage Coalition, which represents many of the largest firms in the field, put it this way: "We just don't want anything like what happened" -- the boom, the bust, the huge losses and the credit crisis -- "to ever, ever happen again."

Mortgage Mod Failure Rates Rising

Posted by Yves Smith on Naked Capitalism:

A Bloomberg story gives the not-heartening news that the government-prodded mortgage modifications are producing higher failure rates as the economy decays:

Mortgages modified in the third quarter failed at a faster pace than those revised in the first, and the delinquency rate on the least risky loans doubled, signs of deteriorating credit quality, U.S. regulators said.

Loans modified in the first quarter to help borrowers keep their homes fell delinquent 41 percent of the time after eight months, and second-quarter loans had a 46 percent default rate, the Office of the Comptroller of the Currency and Office of Thrift Supervision said in a report today. Third-quarter trends “are worsening,” the agencies said.

“For the year and this quarter, we saw the same trend that we saw last time: quite high re-default rates, no matter how we measured them,” John Dugan, the U.S. Comptroller of the Currency, said in a conference call with reporters.

Lenders including Citigroup Inc. and loan-servicing companies are adjusting mortgages by lowering interest rates or crafting longer-term payment plans. The Obama administration is acting to help as many as 9 million struggling homeowners by using taxpayer funds to pay lenders such as bond investors, mortgage servicers for reworking the mortgages.

Dugan said higher re-default rates are likely related to stressful economic conditions and new loan plans are not producing significant reductions to make mortgages sustainable.

It's important to notice what kinds of mods were offered: interest rate reductions and lengthening maturities. These are not very deep mods, in other words.

Mods that offer principal reduction have higher success rates. And Wilbur Ross, a well known investor in distressed companies, is not exactly the charitable sort. As reported in HousingWire:

[Wilbur] Ross has plenty of skin in the mortgage servicing game, as he owns Irving, Tex.-based American Home Mortgage Servicing, Inc., which recently became the nation’s largest third-party servicer with the acquisition of a large portfolio from Citigroup Inc....

Last week, Ross told HousingWire in an interview that he thinks the best way to motivate lenders, servicers, and homeowners work together on modifications requires far more than what’s been proposed so far. In particular, he believes that what’s needed is aggressive principal modifications for borrowers most in need. He has said that his American Home servicing shop has seen six-month recidivism rates below 20 percent — compared to the 50 or 60 percent standard in the industry — because the servicer has been aggressively looking to cut principal balances.

“The price of housing needs to be cleaned out. The Obama administration could right-size every underwater home and reduce principal to fit the current market value of the home. If they are going to deal with it they have to deal with it in a severe way,” Ross told HousingWire. “They also really need to consider all borrowers who are underwater, and not just the ones that have gone into default.”

The Homeowner Affordability and Stability Plan does some of that, but doesn’t go far enough, Ross suggested. “The have to reduce the principal amount of loan, not just nonperforming loans, but also performing ones,” he told CNBC. “Why should a guy who’s not paying benefit, while some poor citizen who’s struggling to make the payments gets stuck with the mortgage?”

His own plan looks something like this:

1. The lender takes a write-down in principal, and the servicer takes a similar hit on any servicing strip on the newly-reduced UPB.

2. After principal reduction, the government guarantees half of the remaining principal the lender now holds.

3. This guarantee of half the principal can now be sold into the securitization market, which will give the lender an income stream on the home again and offset some of the losses the owner of the loan has to take when they write down the principal.

4. When the house is sold, if the value of the home has gone up at the point of sale, the homeowner and the lender share in the profits earned on the gain.

Ross isn’t the first to suggest an home equity sharing plan, and there are clearly strong complexities in how any such plan would be put together, particularly as it relates to second lien holders and/or investors in junior bond classes. But the fact that a large investor with such a strong hand in the servicing business is suggesting it’s possible at all to accomplish is something that perhaps bears more attention than the idea has been getting as of late.

We've been arguing for some time that with housing in many market trading at well below peak levels, the bank can offer a principal reduction and still come out ahead. In normal times, the cost of foreclosure means recovery rates of 70% at best. So assuming 50-60% (and that is probably still high), the bank can reduce principal 25% and still come out ahead.

It isn't simply that a principal reduction lowers monthly payments more (but let us not kid ourselves, that's a biggie) but it also changes the owner's perspective. Why should he struggle to make payments on a house that is unlikely to be worth more than the mortgage? Odds are that he is still looking at a foreclosure or short sale as his endgame. That also means he has zero reason to make repairs or routine investments. Conversely, if the mortgage is written down to something much closer to the current value of the house, he has much greater reason to persevere.

Why isn't that happening? Ah, those pesky securitizations. Although investors litigating to block mods is the oft-given reason for not taking this course of action (a presumed to be high number of securitizations either bar or restrict mods), my impression is servicers simply have not wanted to fight this fight (they have clearly defined compensation in the case of foreclosure versus no rewards for mods, save the fees under new government programs). Paying legal fees to fight investors is an even more dubious business proposition (it's a near certainty they can't charge those expenses to the securitization trust, and it would thus come out of their bottom line).

That is a long winded way of saying I doubt that there has been much study by legal talent as to how to overcome mod restrictions in servicing agreements. Given the high level of fraud (in a small sample, Fitch found evidence of fraud in every loan file it examined), there might be ways to persuade investors they have more to lose than gain by pursuing this line of legal action.

UNC study shows lower payments, write-downs can reduce mortgage foreclosures

Press release from the University of North Carolina Center for Community Capital:

Allowing homeowners to reduce their monthly mortgage payments can significantly lower the rate of defaults compared to loan modifications that do not reduce payments, according to a new study of recently modified loans conducted by the University of North Carolina at Chapel Hill's Center for Community Capital.

Further, combining lower payments with a write-down of the loan balances for loans that exceed the value of the home can prevent even more defaults.

"Our data clearly show that not all loan modifications are created equal," says Roberto Quercia, director of the center, part of UNC's College of Arts and Sciences. "By using such data to inform policy and practice, the industry can reduce foreclosures and increase stability in the economy."

The study, "Loan Modifications and Redefault Risk: An Examination of Short-Term Impact," analyzed 10,000 loans that were modified to prevent default. These modified loans came from a pool of more than 1.3 million mostly subprime and adjustable-rate mortgages made during the peak of the mortgage boom, from 2005-2006.

The results show that the type of modification matters. Six months after receiving a modification, homeowners who got a "traditional modification" — where past due amounts and fees are added to the loan and the payment rises — had a 60 percent higher rate of delinquency than those whose modification led to a reduced payment. A full third of delinquent borrowers in the sample received a modification that increased their payments. "This is like throwing a brick to a drowning man," says Quercia.

Digging deeper to take into account the risk profile of each loan before it was modified, researchers confirmed these trends: homeowners who obtained a rate reduction were about 13 percent less likely to redefault than similar borrowers in similar situations (e.g., type of loan, geography, servicer, loan amount, etc.) who received a traditional modification. Those whose rate reduction was accompanied by a principal reduction were 19 percent less likely to redefault.

These findings come at a time when 12 percent of all loans (nearly 6 million mortgages) are past due or in foreclosure and 20 percent of all homes in America are "underwater," meaning their mortgaged property is worth less than the amount they owe on their loan.

Policymakers at present are encouraging servicers to reduce monthly payments as a percentage of household income by subsidizing lenders that reduce payments to 31 percent of household income. These plans rely more heavily on interest-rate reductions and term extensions than on the crucial tool of principal write-down.

"Our results support the Obama administration's efforts to seek more broad-based, systematic loan restructuring," Quercia says. "They also suggest the need to reduce the principal amounts on loans, especially loans in which the household owes more than the home's worth, to minimize the risk of redefault long-term."

The complete study report can be found at http://www.ccc.unc.edu/documents/LM_March3_%202009_final.pdf.

Home mortgage finance is a key area of research and analysis for the UNC Center for Community Capital, the leading center for research and policy analysis on the transformative power of capital on households and communities in the United States. The center offers in-depth analyses that help policymakers, advocates and the private sector find sustainable ways to expand economic opportunity to more people, more effectively. For more information, visit www.ccc.unc.edu.

The Plan to Assist Mortgage Borrowers: Refinancing

From the Mortgage Professor (Jack Guttentag):

Last week I criticized the government's new two-part program, Making Home Affordable, for being too narrow and limited in scope. This article describes the refinance part of the program, which applies only to mortgages owned or guaranteed by Fannie Mae or Freddie Mac.

Purpose: The objective of the refinance program is to allow borrowers to refinance who would otherwise find it impossible or excessively costly because of declines in the value of their properties. Under the program, loan balances can range up to 105 percent of current property value, but in all other respects, borrowers must meet conventional underwriting requirements: their existing payments must be current, they cannot have more than one 30-day late payment in the previous 12 months, and their income must be sufficient to cover the new payments.

Pricing: Interest rates under the program are "market rates," but what that really means is hard to say. It is not clear, for example, whether the agencies will charge more for a 90 percent loan that does not have mortgage insurance than for one that does. Whatever it means, we can be sure that prices will fluctuate from day to day, and that the prices loan originators quote to borrowers will include varying markups and fees on top of the prices at which they sell to the agencies. Markups will be particularly high on loans held by Freddie Mac, which will only accept loans refinanced by the lender now servicing them.

Mortgage Insurance: An unusual feature of the program is that any mortgage insurance on the existing loan will be carried forward to the new loan. (Ordinarily, mortgage insurance is terminated when a loan is paid off and, if required, a fresh policy is issued on the new mortgage). The mortgage insurers have to agree to this arrangement, but since it is clearly in their interest, that should not be a problem.

This is a sensible idea because it prevents a sudden drop in insurance premiums to the beleaguered mortgage insurers, and it also provides a way to comply with the rule that any loan acquired by Fannie or Freddie that exceeds 80 percent of property value carry mortgage insurance or its equivalent.

Rationale of the 105 percent Loan Cap: Capping the loan balance at 105 percent of value presumably is based on a judgment that borrowers with adequate income and a good payment record are not going to default just because they owe 5 percent more than their house is worth. That makes sense. What doesn't make sense is that borrowers with more than 5 percent negative equity are not eligible for the refinance program at all, and can't get their problem fixed by a loan modification under the second part of MHA.

Eligibility: In its documentation, the Treasury states that eligible borrowers must occupy their homes, a provision I criticized last week. Interestingly, Fannie Mae's description of the program indicates that second homes and investor-owned properties are eligible, contradicting the Treasury. Let's hope Fannie prevails.

Eligible structures can have up to four dwelling units so long as the borrower lives in one of them.

The home can have a second mortgage, the balance of which is not counted in the 105 percent cap, but the second mortgage lender has to agree to remain in a second lien position. Some second mortgage lenders charge a fee for stepping aside, so this could pose a problem in some cases.

Borrowers are not allowed to withdraw cash from the transaction, even to pay off other debts. However, they are allowed to include settlement costs in the new loan balance.

By far the most questionable eligibility rule is the one that restricts the program to borrowers whose mortgages are held by the agencies or are in a security guaranteed by them. Borrowers had no control over which investor ended up with their loan, yet this crapshoot now separates those who are and are not eligible for the program. Is there a good reason for excluding the other half of the market?

Questionable Rationale For Limiting the Program: As noted above, the agencies must obtain mortgage insurance on any loan they purchase that exceeds 80 percent of property value. Their regulator, the Federal Housing Finance Agency (FHFA), has stated that the agencies will be in compliance with this rule when they refinance loans they already own or guarantee because they are already responsible for any default losses on these loans and the refinance does not increase that risk. This rationale would not apply to loans owned by other investors.

However, the agency would also be in compliance with the 80 percent rule if it purchased loans held by other investors that now carry mortgage insurance that the insurer has agreed to transfer to the refinanced loan. This is true as well of loans that originally met the 80 percent rule and still do. In a financial crisis, the net should be as wide as possible.

The Plan to Assist Mortgage Borrowers: A Limited Scope

From the Mortgage Professor (Jack Guttentag):

Most of the small print about the administration's plan to help beleaguered mortgage borrowers is now available. In my view, it is coherent and well-thought-out but disappointing in its limited scope. The program is designed to provide benefits to owners who deserve to be helped, rather than to reduce foreclosures and stabilize home prices.

The limited scope of the program is why its cost is estimated at only $75 billion, or less than the amount required to bail out AIG. The systemic impact will be correspondingly small.

The major limitation of the program is that it does not attack the problem of negative equity -- mortgage balances larger than the value of the homes securing the mortgages. The new program is focused entirely on the capacity of borrowers to make their monthly payments. Indeed, this is evident from the program name "Making Home Affordable", henceforth MHA. The major tool for reducing the payment is rate reduction, with balance reductions only a last resort in cases where rate reduction and term extension can't get the payment low enough to be affordable.

Flying in the Face of Evidence

This approach flies in the face of evidence that balance reductions are critically important in avoiding subsequent redefaults. A recent study by Roberto G. Quercia, Lei Ding, and Janneke Ratcliffe found that "among the different types of modifications, the principal forgiveness modification [i.e., balance reductions] has the lowest redefault rate. We believe that this is because it addresses both the short-term issue of mortgage payment affordability and the longer-term problem of negative equity...The results indicate that households with negative home equity are more likely to redefault over time, even when a modification has initially lowered the mortgage payment." [Loan Modifications and Redefault Risk, Center For Community Capital Working Paper, March 2009].

MHA has two parts. Part one is directed toward increasing refinance opportunities for borrowers whose loans are owned or guaranteed by Fannie Mae or Freddie Mac, and who don't have more than 5 percent negative equity on their first mortgage. Borrowers with negative equity greater than 5 percent don't qualify.

The second part of the program encourages payment-reducing contract modifications of mortgages that are endangered by adverse events affecting the borrower, such as a job loss or a pending rate increase. As noted, the major tool for reducing the payment is rate reduction, with balance reductions only a last resort.

A Moral Claim

Both parts of MHA leave negative equity to take care of itself. In my view, this reflects the different mindset that is applied to helping borrowers as opposed to financial firms. Firms are helped in order to avoid the systemic consequences of the firm's failure. Whether or not the firm "deserves" to be helped is wholly irrelevant. Indeed, it could be argued that the largest bailouts have been directed to the least-deserving firms. This is unfortunate but unavoidable because it is the system that is at stake.

When it comes to assisting mortgage borrowers, however, the mindset is that assistance should be limited to those who have some moral claim to government assistance. Eligibility is based on deservedness, with the systemic implications swept aside.

In the minds of the program's designers, having negative equity is not an indicator of deservedness. True, most negative equity has arisen from broad price declines affecting entire markets, but borrowers are not altogether blameless. They could have made larger down payments when they bought the house, and they certainly did not have to take out that second mortgage that allowed them to live (temporarily) beyond their means.

A Faulty Mindset

This same mindset is evident in the rule, incorporated in both programs, that only occupants are eligible. Investors -- those who rent their properties rather than occupy them -- are not eligible. In this mindset, investors don't deserve help because they were implicated in the bubble that preceded the crash, they bought houses in the hope of turning a quick profit, and government should allow them to take their well-deserved lumps without interference.

I happen to agree with that sentiment, but in a financial crisis, deservedness considerations are an indulgence we can't afford. The foreclosure of an investor-owned property puts the same downward pressure on home prices as the foreclosure of an owner-occupied property. Making investors ineligible because they aren't deserving weakens the systemic impact of the program, which should be its major focus.

OCC reports lower re-default rates on meaningful modifications

For the first time, the OCC mortgage metrics report is breaking down re-default rates according to whether the modifications decreased or increased payments. Not surprisingly (as reported by Diana Golobay on the Housing Wire):

Re-default rates among modifications that actually lowered monthly payments “were consistently lower,” according to the report. About 23 percent of modifications that eased payments by more than 10 percent re-defaulted six months later, compared with the 51 percent of unchanged modifications that re-defaulted after six months. Some 46 percent of modifications that led to an increased payment had re-defaulted six months later.

Here's the whole Housing Wire story:

Re-default rates — among modified mortgages continues to represent a problem for the [mortgage] industry. The agencies reported that 41 percent of loans modified in the second quarter had fallen at least 60 days behind payments after eight months, a trend that “appeared to continue for loans modified during the third quarter.”

For the firs time, the OCC and OTS reported separate data sets for four modification categories that: reduced monthly payments by more than 10 percent or 10 percent or less, had no effect on monthly payments, or increased monthly payments. “Overall for 2008, about 42 percent of modified loans resulted in reduced payments, 27 percent in unchanged payments, and 32 percent in increased payments,” the agencies reported. “The proportion that reduced payments increased significantly in the fourth quarter, to more than 50 percent of all modifications.”

Re-default rates among modifications that actually lowered monthly payments “were consistently lower,” according to the report. About 23 percent of modifications that eased payments by more than 10 percent re-defaulted six months later, compared with the 51 percent of unchanged modifications that re-defaulted after six months. Some 46 percent of modifications that led to an increased payment had re-defaulted six months later.

Combined modifications and payment plans rose more than 11 percent overall in the quarter, although they “declined as a percentage of all retention actions” to 40 percent at year-end from 52 percent recorded at mid-year, the agencies reported. HousingWire has found in recent months that these options broken out between prime and non-prime borrowers shows a continuing disparity. During February, 39.7 percent of loan workouts for prime borrowers were loan modifications; in contrast, 66.5 percent of subprime loan workouts were loan modifications, according to data released in late March from HOPE NOW, the private sector alliance of mortgage servicers.

OCC: More Seriously Delinquent Prime Loans than Subprime

Posted on Calculated Risk:

From the Office of the Comptroller of the Currency and the Office of Thrift Supervision: OCC and OTS Release Mortgage Metrics Report for Fourth Quarter 2008

The Office of the Comptroller of the Currency and the Office of Thrift Supervision today jointly released their quarterly report on first lien mortgage performance for the fourth quarter of 2008. The report covers mortgages serviced by nine large banks and four thrifts, constituting approximately two-thirds of all outstanding mortgages in the United States.

The report showed that credit quality continued to decline in the fourth quarter of 2008. At the end of the year, just under 90 percent of mortgages were performing, compared with 93 percent at the end of September 2008. This decline in credit quality was evident in all loan risk categories, with subprime mortgages showing the highest level of serious delinquencies. However, the biggest percentage jump was in prime mortgages, the lowest loan risk category and one that accounts for nearly two-thirds of all mortgages serviced by the reporting institutions. At the end of the fourth quarter, 2.4 percent of prime mortgages were seriously delinquent, more than double the 1.1 percent recorded at the end of March 2008.
emphasis added

Click on graph for larger image.

Note: "Approximately 14 percent of loans in the data were not accompanied by credit scores and are classified as “other.” This group includes a mix of prime, Alt-A, and subprime. In large part, the loans were result of acquisitions of loan portfolios from third parties where borrower credit scores at the origination of the loans were not available."

This report covers about two-thirds of all mortgages. There are far more prime loans than subprime loans - and the percentage of delinquent prime loans is much lower than for subprime loans. However, there are now more prime loans than subprime loans seriously delinquent. And prime loans tend to be larger than subprime loans, so the losses from each prime loan will probably be higher.

We're all subprime now!

Posted on the Housing Wire by Diana Golobay:

Less than 90 percent of all mortgages were considered “performing” at the end of 2008, compared with 93 percent at the end of September 2008, the Office of the Comptroller of the Currency and the Office of Thrift Supervision announced Friday in a joint quarterly mortgage performance report. Although subprime mortgages (unsurprisingly) showed the highest level of serious delinquencies, prime mortgages posted the largest percentage jump — more than double — from 1.1 percent recorded at the end of March 2008, to 2.4 percent at year-end. Prime mortgages, considered the lowest risk bucket due to inherent high credit score distribution, account for two-thirds of the mortgages examined for the study.

Recidivism — or re-default rates — among modified mortgages continues to represent a problem for the industry. The agencies reported that 41 percent of loans modified in the second quarter had fallen at least 60 days behind payments after eight months, a trend that “appeared to continue for loans modified during the third quarter.”

“The reasons for high re-default rates are not clear,” officials wrote in a press release. “As noted in the previous quarter’s report, high re-defaults could be the result of a worsening economy, excessive borrower leverage, or poor initial underwriting.”

For the firs time, the OCC and OTS reported separate data sets for four modification categories that: reduced monthly payments by more than 10 percent or 10 percent or less, had no effect on monthly payments, or increased monthly payments. “Overall for 2008, about 42 percent of modified loans resulted in reduced payments, 27 percent in unchanged payments, and 32 percent in increased payments,” the agencies reported. “The proportion that reduced payments increased significantly in the fourth quarter, to more than 50 percent of all modifications.”

Re-default rates among modifications that actually lowered monthly payments “were consistently lower,” according to the report. About 23 percent of modifications that eased payments by more than 10 percent re-defaulted six months later, compared with the 51 percent of unchanged modifications that re-defaulted after six months. Some 46 percent of modifications that led to an increased payment had re-defaulted six months later.

Combined modifications and payment plans rose more than 11 percent overall in the quarter, although they “declined as a percentage of all retention actions” to 40 percent at year-end from 52 percent recorded at mid-year, the agencies reported. HousingWire has found in recent months that these options broken out between prime and non-prime borrowers shows a continuing disparity. During February, 39.7 percent of loan workouts for prime borrowers were loan modifications; in contrast, 66.5 percent of subprime loan workouts were loan modifications, according to data released in late March from HOPE NOW, the private sector alliance of mortgage servicers.

Homeowner-Aid Plan Caught in Second-Loan Spat

From the Wall Street Journal by RUTH SIMON and MICHAEL M. PHILLIPS:

The Obama administration's $75 billion effort to help troubled homeowners avoid foreclosure has hit a stumbling block: a fight over how to aid borrowers who have more than one home loan.

The Treasury Department, scrambling to address the problem, is trying to persuade lenders to forgive or greatly reduce so-called second liens. But that effort has sparked a fight between investors who own securities backed by first mortgages and banks that hold second mortgages over how losses should be shared.

A failure to resolve the impasse could blunt the impact of President Barack Obama's housing plan, which is designed to tackle one source of the financial crisis -- the spiral of foreclosures and falling home prices. About half of seriously delinquent borrowers have a second mortgage debt, according to Credit Suisse.

Administration officials had hoped to announce a plan this week with the support of bankers, homeowner advocates and investors, who include pension funds, insurance companies and hedge funds. Instead, they find themselves shuttling proposals between warring parties.

"If everybody wants to play chicken and hold out, it's not going to serve anybody," said Janneke Ratcliffe, a housing expert at the University of North Carolina at Chapel Hill.

The administration unveiled its foreclosure-prevention plan early last month. One part of the plan is designed to help as many as four million homeowners by encouraging lenders and their agents to rewrite mortgage terms to make them more affordable.

The administration left vague, however, a plan to pay loan-servicing companies to help extinguish second liens, such as home-equity lines of credit and down-payment loans. Government officials said at the time such an effort would reduce the borrower's indebtedness and make it more likely that the homeowner would stay current on the modified mortgage.

The Treasury is "actively working" on the second-lien issue and will announce "something within the next few weeks," said department spokesman Andrew Williams.

One proposal would require lenders to cap monthly payments on second loans at a set percentage of the borrower's gross income. The lender would be expected to "eat the vast majority" of the cost, with the government subsidizing a small portion, according to an administration official. Treasury still hasn't settled on the level of the cap or the size of the government contribution.

Delinquencies on home-equity loans climbed to a record 3.03% in the fourth quarter from 2.39% a year earlier, the American Bankers Association said Thursday. Delinquencies on home-equity lines of credit climbed to a record 1.46% from 0.96%.

One problem is that first and second mortgages are often owned by different parties and may be handled by different mortgage servicers, the companies that collect checks from the borrowers. Lenders who provide home-equity loans and other second liens are normally expected to take a loss before the holder of the first mortgage does so.

"If you sign up for the first loss, you should take the first loss," said Jeffrey Gundlach, chief investment officer of TCW Group Inc., which manages roughly $52 billion in residential mortgage-backed securities.

Mortgage investors, who typically own first mortgages, say they are willing to take some losses in an effort to resolve the housing crisis. But they add that rewriting their contracts without touching the second liens violates their rights. They also complain that banks -- which as loan servicers have great influence in the Obama plan -- have a conflict of interest that may lead them to modify first mortgages and do nothing about second liens.

The implication is that angry investors might gum up the works with lawsuits and refuse to help the administration resolve first mortgages if they feel badly treated on second liens.

Banks and other financial institutions own as much as 90% of the $1.08 trillion in home-equity loans and lines of credit in the marketplace, according to SMR Research Corp., a market-research firm in Hackettstown, N.J. Bank of America Corp., Wells Fargo & Co., J.P. Morgan Chase & Co. and Citigroup Inc. have the largest home-equity portfolios, SMR said.

Banks say they are willing to write down the value of troubled home-equity loans, but they want to limit their losses.

"We are going to have to take a haircut on the second" lien, said one bank executive. "But we don't think we should get wiped out."

Write-downs of second mortgages are likely to mean higher losses for banks, which typically don't mark down the value of these loans until they are 180 days past due, said Fred Cannon, an analyst with Keefe, Bruyette & Woods.

NY Fed Study Debunks ‘Reverse Redlining’

Posted on the Housing Wire by Paul Jackson:

Did lenders target minorities with higher-cost loans, relative to their white counterparts? Consumer advocates have long trumpeted this as fact, using studies commissioned by their own staff and publicly-available data via the Home Mortgage Disclosure Act to allege that banks routinely and deliberately offered disparate terms to minority borrowers. And legislators have taken these findings at face value, no questions asked.

The latest such study to allege such disparity in lending practices was released Thursday morning by Inner City Press / Fair Finance Watch, a New York-based consumer advocacy group, that argues “the seeming survivors of the banking meltdown, Wells Fargo, Bank of America and JPMorgan Chase, had worse disparities by race and ethnicity in denials and higher-cost lending than the banks they acquired, Wachovia and Countrywide.”

The problem of course, is that consumer groups aren’t disinterested observers of the data they’re analyzing — you’d be hard pressed to find a consumer group of any sort releasing a study that finds evidence that banks did not engage in so-called ‘reverse redlining,’ for example. Doubly so in the current economic climate, where it can be all-too-easy to vilify essentially any bank, and where standards for analyzing data (and, more importantly, interpreting it) can be set with such a seemingly sliding scale.

The other problem is often the data itself: HMDA data is notoriously incomplete, meaning that conclusions based on analysis of that particular data often can be missing critical key credit indicators that might otherwise explain disparities that seem to be reported in previous studies.

All of which makes this week’s release of a new joint study by researchers at the Federal Reserve Bank of New York and the Columbia School of Business something worth paying real attention to. And a study that should receive far more press and attention from regulators than it likely will.

For one thing, the researchers involved here are true researchers in the academic sense of the word — independent of an any agenda that might arise from the findings of their work, for one thing. But the NY Fed study is groundbreaking particularly because it uses a hybrid data set that isn’t reliant on just the HDMA data; the first such study to do so. The researchers matched approximately 70 percent of loan-level data in a database provided by First American LoanPerformance to unique mortgage data in the HDMA. Doing so was “extensive work,” Andrew Haughwout, Christopher Mayer, and Joseph Tracy — co-authors of the study — note in review.

This is important: whatever you know or don’t know about research, the garbage-in, garbage-out mantra applies here moreso than almost any other endeavor. And I’ve long been bothered by the notion that the analysis of HMDA data lacked any insight into the borrower’s credit risk profile.

All of which makes the findings of this study, which looked at more than 70,000 subprime 2/28s originated in 2005, an absolute barn-burner for anyone in the mortgage space:

In contrast to previous findings, our results show that if anything, minority borrwers get slightly favorable terms, although the size of these effects are quite small. Black and Hispanic borrowers pay very slightly lower initial mortgage rates than other borrowers — about 2.5 basis points (0.0025 percent) compared with a mean initial mortgage rate of 7.3 percent. Black and Hispanic borrowers also have slightly lower margins (about 1.7 to 5 basis points, or 0.0017 to 0.005 percent) compared to a mean margin of 5.9 percent. Asian borrowers pay slightly higher initial rates and reset margins (about 3 basis points). We find no appreciable differences in lending terms by the gender of the borrower. These results control for the mortgage risk characteristics and neighborhood composition. While many of these differences are statistically significant, they are economically insignificant.

A second important finding is that 2/28 mortgages were cheaper in Zip Codes with a higher percentage of Asian, black and Hispanic residents, as well as in counties with higher unemployment rates, once we control for the individual risk characteristics of the borrower.

I can’t state this clearly enough: this is a stake in the heart of the argument, made by most consumer groups, that lenders used predatory practices to target minorities for the worst loans. And on the surface, any of us should know this without the need for hard data: during the boom, loans were being made to anyone and everyone that could fog up a window. And I mean everyone — why do you think we’re now seeing such strong and swift performance deterioration in prime jumbo mortgages? The argument suggesting that minorities were disproportionately targeted and offered comparatively more onerous loan terms shouldn’t have passed the smell test for anyone that actually worked in the mortgage industry during those go-go years.

To be sure, there are still plenty of unanswered questions here; the study does not address the question of “steering,” as consumer groups have also long alleged. The idea here is that minority borrowers were put into higher-cost subprime loans more often than white counterparts, when they could have qualified for a more traditional mortgage. But again, the results of this study should lead you to ask yourself: would this just be a phenomena limited to minorities?

Likewise, the study does not address qualification standards, or a lender’s refusal to offer credit. But I doubt many consumer groups have been willing to argue that lenders were failing to extend credit to minority borrowers during the housing boom from 2003-2006 (roughly speaking). Nor does the study look outside of 2005 subprime 2/28s.

Nonetheless, I think it’s time we at least began to lend some real credence to the idea that lax lending practices were an epidemic in this country. It’s an epidemic that is now clearly hurting minority borrowers, absolutely — and especially so, given the gains in minority homeownership that are now evaporating — but not just minority borrowers and/or borrowers with lower incomes and poor credit. That’s something I think we all need to start considering, especially when faced with a growing set of data — repeatedly covered here at HousingWire, and largely ignored by the rest of press and, apparently, many consumer groups — suggesting that the least credit-worthy borrowers are more than twice as likely to receive a loan modification once they fall behind on their mortgage, relative to their prime-credit peers.

Lenders Struggle to Find Cash to Quench Growing Demand for Refinancing

In the Washington Post by Dina ElBoghdady:

Now that mortgage refinancing is popular again, one big concern is that there won't be enough money to keep up with the demand.

Mortgage bankers say the money they borrow to finance home loans -- called warehouse lines of credit -- has dried up and that borrowers may pay the price in artificially inflated interest rates and maddening delays in loan closings.

Interest rates are at record lows. The average on a 30-year, fixed-rate mortgage fell to 4.61 percent for the week ended March 27, according to a survey released yesterday by the Mortgage Bankers Association. But many capital-starved bankers said rates could be 0.25 to 0.75 percentage points lower if they had better access to warehouse lines.

These credit lines provide bankers who are not licensed to take deposits with the money they need to close a mortgage. The bankers then pay down the credit line after the mortgage is sold to Fannie Mae, Freddie Mac or other investors.

But the amount of available credit has plummeted to about $25 billion from $200 billion a year ago, according to the mortgage bankers group. Many of the large financial institutions that extend credit to the bankers have left the business, imposed tough restrictions or capped existing lines as they try to shore up their own capital. In the past few weeks, National City Bank, J.P. Morgan Chase and Guaranty Bank have announced plans to end warehouse lending.

Mortgage bankers say the supply of money available to them is shrinking just as demand for loans is taking off, blunting the Obama administration's efforts to loosen consumer lending. Last week, loan applications were up 3 percent from the previous week and almost 69 percent compared with the previous year, the mortgage bankers' survey found.

"When demand outstrips supply, lenders manage that by raising rates" or slowing the pace of lending, said John Courson, chief executive of the mortgage bankers group. "The end result is that borrowers are not enjoying the full benefit of these lower rates."

Mahesh Swaminathan, an analyst at Credit Suisse, said he agrees that lending volume might be higher and loans might be processed more quickly if there were no credit-line problems. "But at the same time, it is not the case that activity is stalling because of that," Swaminathan said.

The new mortgage securities backed by Fannie Mae, Freddie Mac and Ginnie Mae totaled $172 billion in March and could reach nearly $200 billion by June, he said. That's more than the monthly high of $190 billion in 2003, suggesting that lending activity is robust, driven mostly by refinancing.

Still, some borrowers are watching their mortgage deals fall apart at the last minute. For instance, Greystone Financial's sole warehouse line was pulled in February. The Las Vegas company has shut down its operations in the District and 17 states, including Maryland and Virginia.

"We had 500 loans in the pipeline, and we had 30 loans that were signed and ready to go, but we could not fund them," said Michael Sweeney, Greystone's chief executive. "It caused a tremendous amount of headaches for the buyers, and we're not sure how much longer we can continue doing business this way."

The Warehouse Lending Project, a coalition of independent mortgage bankers, and the mortgage bankers association are working with the regulator that oversees Fannie Mae and Freddie Mac to devise a plan to bolster warehouse lending.

That regulator, the Federal Housing Finance Agency, said in a statement that it is aware of the effects of the decline in warehouse lending and that it has met with industry and administration officials to "try to develop solutions."

The warehouse-lending coalition estimates that non-depository banks supply roughly 40 percent of loans and contends that the mortgage market would suffer if they went out of business.

"Think about it: If all of a sudden there was a big demand for gasoline and 40 percent of the gas stations went out of business, you'd have chaos and disruption and higher prices. That's the situation we're drifting toward in the lending arena," said Glen Corso, a principal at the Warehouse Lending Project.

Housing expert calls for new system of home-ownership

Posted on 24Dash.com by John Land:

A Durham University housing expert is calling on the Government and financial institutions to back a new, safer system of home-ownership for the UK.

With repossessions estimated to climb to levels not seen since 1991, Susan Smith, Professor of Geography and a Director of the Institute of Advanced Study at Durham University, believes the time is right for creating a public-private partnership to make effective use of ‘housing derivatives’ – instruments enabling a range of individuals and institutions to share in the fortunes of the housing market, whilst home-owners can buy and sell their properties with much less risk.

In a paper presented at the British Academy Prof Smith, whose research is funded by the Economic and Social Research Council, will explain how this can be achieved.

She will argue that innovative financial instruments could be used by governments, banks and other organisations to enter into a partnership with home buyers, enabling them to choose: how much of their wealth to invest into housing, how much of their home to own, and what proportion of their incomes to reserve for other things.

Prof Smith said: “We are in the midst of a financial crisis rooted in the housing economy; we can either patch things up and aim for business as usual, or take this unique opportunity to create a more sustainable housing future.

"Patching things up means helping those in financial stress to continue to pay their mortgages. This is generally achieved by supporting incomes and deferring regular payments in the hope of better times ahead; or by easing the transition to renting."

Durham University research shows that this only tackles half the problem. British home-buyers hold most of their wealth in their home, and they depend on this as a financial buffer to tide them over income falls and to manage unanticipated life events. Falling prices show how risky it is to hold so many financial eggs in a single housing basket, vulnerable to the ups and downs of price.

Prof Smith said: “The only way to protect home-owners from this kind of risk is to create a different kind of housing system in which housing services and investment returns are not so closely linked.”

The instruments required to achieve this are housing derivatives; financial instruments whose values derive from the performance of an underlying asset or index.

They are used for trading products as diverse as pork and silver, and – despite the moral panic inspired by the misuse of credit derivatives – they can help provide long-term stability in fluctuating markets.

Using housing derivatives (based on house price indexes), home buyers could trade lower housing outlays against future gains, first time buyers could buy in stages, and owners could recoup part of their investment in times of need.

Such instruments could be used to:

• Reduce the costs of entry to the housing market, enabling first-time buyers to take out smaller loans at a low rate of interest;
• Insure home equity against slumping prices;
• Allow people in arrears to swap future price appreciation for a lump sum to reduce their loan (and perhaps stave off repossession);
• Help home owners balance their investments.
• Provide renters with an opportunity to buy into future house price appreciation if they want to.

Professor Smith said: “In this new system a family in financial trouble could remain in their home with less cost and less distress than at present.”

"The whole housing system could be transformed, so that there is no sharp financial divide between owners and renters, and all properties involve at least some equity share.

“Ninety per cent of us rented at the turn of the twentieth century; and even in 1960 only four in 10 households owned or were buying their home. Today we are both a nation of home owners and a market of mortgagors, with far too much debt and way too many assets anchored in a single property.

“Tomorrow we could be a society of home stewards, sharing the risks and returns on housing – as well as the responsibility of maintaining the stock for futures generations – among ourselves and with other institutions.”

According to Prof Smith, financial markets – whose failures have caused the current crisis – will have to help. The financial sector will have to show that they can use these instruments to design new mortgage and insurance products that effectively share the risks and spread the gains associated with participation in the housing market.

And the challenge for government is to be sufficiently nimble and imaginative to regulate them effectively. Policy has to be driven by evidence; but it also needs new ideas.