Saturday, January 30, 2010

Treasury Removes Embarrassing Line From Mortgage Modification Report

Original posted In The Atlantic by Daniel Indiviglio:

I was working on a post about the Treasury's new mortgage modification rules (to soon follow) when I noticed something kind of amusing. Last month, I noted that its mortgage modification program was doing incredibly badly in terms of providing permanent modifications to struggling homeowners who requested assistance. In fact, it had a mere 1% success rate through November. Looking at this month's report, I suddenly realized that I couldn't make that calculation any more: the Treasury removed the denominator of the ratio from the report.

Here's what the chart looked like in November's report (.pdf):

Nov 2009 mort mods treas rpt-thumb-468x321-19378.png

And here's that chart in this month's report (.pdf) for December:

Dec 2009 mort mods treas rpt.PNG

Notice anything? In the new format, the Treasury added a few lines, and dropped the top one from November -- the number of troubled homeowners who actually applied to the program. Now anyone who reads this report can no longer evaluate how successful it was, based on the total number of applicants.

I looked throughout the rest of the report, and I couldn't find this statistic included. On one hand, I can't blame the Treasury. It was really embarrassing. If no one can calculate the program's success rate, then that should eliminate some of the negative news stories plaguing the program, like those with headlines such as "1% Success Rate For Obama Administration Mortgage Modification Program." On the other hand, this isn't the kind of transparency the President promised when criticizing the Bush administration's opaqueness during the campaign.

Update: Naturally, I contacted the Treasury about this, and just got a response. They informed me that the latest number (through December) is 3,297,817. The reason they didn't include it: "there didn't seem to be much interest in that metric and we're trying to make the report as user-friendly as possible." By the way, in case anyone's interested in that calculation I couldn't make -- it's now the case that 3% of the requests for financial information sent to borrowers have resulted in permanent modifications. That's up from 1% in November. So it's improving!

Wednesday, January 27, 2010

Mortgage Servicing Performance I: Underwater and That Social Trust Thing

Original posted on RortyBomb:

Steve Waldman of interfluidity has an interview up at mortgage calculator where he discusses, among many other things, his statement: “I think that the moral thing for most borrowers to do, under present circumstances, is to default on loans when it is in their financial interest to do so.” You should check it out.

There’s a lot of arguments for “strategic defaults” which we will leave to the side for right now. The counter-argument is that lending has an element of “social trust” norms build into it, a trust that isn’t easy to replicate and once broken it is very difficult to rebuild. The small, difficult to quantify but ever present, elements of these norms are what form the glue of many of our credit markets. Lenders trust borrowers, and borrowers can trust lenders, and this takes the rough edges off the credit market.

Recap: we have a problem where many homeowners, maybe one out of four, are underwater, which means they owe more than their home is worth. Many others, with 18% underemployment and loan resets, are having trouble making their monthly payments. Being underwater is very correlated with defaulting on a loan, and foreclosures destroy value for the house itself and has an externality destroying value for neighbors. Meanwhile there’s also an agency problem that has exploded: as we discussed last summer, mortgage backed securities were never designed to handle large number of write-downs; as the inventor Lewis Ranieri warned for years, nobody has a fiduciary responsibility to make sure principal gets written down in mortgage backed securities. For normal mortgages at a regular bank you writedown before you foreclosure; but none of the gee-whiz financial engineers stopped to think how you’d do that in a mortgage backed security.

Because of all these problems the Obama administration decided to start a program called the federal Home Affordable Modification Program (HAMP) last year. Long story short, we subsidize banks who make adjustments to the amount people pay per month. Obama is doing this do this because of the externality of waves of foreclosures, the threat of abandoned neighborhoods and to “nudge” the servicer of the loan, who have a twisted incentive to get paid through fees as things get worse for investors, to do the right thing.

Underwater and Social Trust

I think we can quantify this trust thing a little bit. Let’s get into the meat of a new report issued by the State Foreclosure Prevention Working Group: Analysis of Mortgage Servicing Performance (pdf) (h/t Shahien Nasiripour for the pointer).

Remember there’s two problems: too much of a loan principal that is underwater, and too high of a payment. Most agree that the first is the bigger problem for both parties, but the second is easier to modify, politically, from the point of view of the government. Now people (including myself) thought it would be great if banks would decrease the principal of the loans they are modifying in addition to the payment, which would reduce the risks of default and help get mortgage prices to adjust quicker, but they could instead just leave them the same. That’s their choice. But given that the borrower is going out of their way to try and make the payments, it would be a nice social trust kind of thing to reduce the principal slightly instead of leaving it the same, right?

So what has happened? From Analysis of Mortgage Servicing Performance, more than 70% of the modifications resulted in an increase in the loan balance. Not staying the same, and certainly not decreasing, but piling on more principal for the loan:

I’ve seen a lot of bad things during this financial crisis, but this is the most disgusting thing I’ve seen so far. At a time when one out of four homeowners are underwater, banks are using a mortgage modification program to pile on more debt on these loans. They do this even when it’s well known the correlation between the level of being underwater and default.

How? From the report: “Servicers routinely capitalize delinquent interest, corporate advances, escrow advances and attorney fees and other foreclosure-related fees and expenses into the loan balance when completing a loan modification.” So fees allow them to make it look like they are doing their clients a favor, while all they are really doing is running them in a big circle.

(If any risk quants or people who work in this area want to contact me, I can keep it completely off the record, but wtf? Is this a statistical juking? This has to increase the redefault risk, but is there a way that this makes the numbers in the medium term look better on expected values? Is this the servicers going completely rogue? Or is this simply profit maximization as sociopathic behavior? One can’t simply “nudge” a sociopath….)

And for the social trust argument, these are not random people. These are people who, instead of walking away from their responsibilities, are burning time, money and energy to credible signal to the bank: “I’m in over my head with this mortgage but I want to do right by it because it’s an obligation I made to you. Instead of simply walking away or trying to short sell, is there any way we can work this out so I can still pay you whatever I can? I gave you my word and that means something to me.” And the bank uses their signal that they want to do the right thing to fuck these borrowers the hardest, piling on as much debt as possible on these guys as they can get away with. The borrowers are trying to come up from the pool to get a breath of air, and the bank grabs them by the head and pushes them as far underwater as they can get them. And we are subsidizing this.

Though I shouldn’t be too surprised. I mentioned before when it came to the walking-away problem simple game theory tells us, “If you are convinced that the other party will cooperate with you no matter what (i.e. never walk away), that’s when you fuck them over the hardest (or more politely, that’s when you ‘don’t co-operate’). It’s only through the threat of non-cooperation that you can actually secure cooperation.” So the people who really want to meet their obligations are the ones you screw with as much principal as possible, and the ones who threaten to walk away are the ones you have to take seriously. If we had mortgage cramdowns, everyone would suddenly be someone the banks would have to take seriously in these situation, instead of a mark who still believes in things other than profit maximization…

Part 2:

So we talked about a recent report about mortgage modifications, the Analysis of Mortgage Servicing Performance, here. I asked back in August whether or not the Mortgage Modification plan has failed, and nothing in this report, which is the latest in data collection by 12 state attorneys general and three state banking supervisors, makes me think otherwise.

If you are also reading the on the ground journalism, say this excellent article by Mary Kane, the closer you get to it the more of a disaster it looks:

The voluntary plans by servicers, however, were called “extend and pretend” plans by critics, who said servicers simply were setting up repayment plans with late fees and other charges rolled into them, without ever actually reducing a borrower’s debt. Re-default rates on those loan modifications have been high as a result. Making Home Affordable has been more aggressive about lowering a borrower’s monthly payment, and the government is pressing servicers to switch to using its program — one reason why Making Home Affordable permanent loan modifications are lagging behind. In addition, some borrowers simply can’t qualify for the government’s program because they are too far underwater on their mortgages.

So I’ll ask the obvious question. Is the current system predatory? I’m not a lawyer, and I know there isn’t a good working definition of what constitutes predatory lending. But let’s take a look at two separate charts in the report. One we’ve already discussed:

70% of people who go through mortgage modification have an increase in their balance. Here’s another chart that should worry you:

Within 1 year almost 45% of modified loans become “delinquent.” 7-9% reach 60-day delinquency within just the first three months after modification, which for all intents means the borrower didn’t make the first post modification payment. What will the 2 and 5 year markers look like?

So we have a financial technique offered to consumers that (a) piles on principal unexpectedly through hidden fees and surcharges and (b) has a reasonable expectation that the consumer won’t be able to make the payments. That doesn’t sound good, does it? Lawyers in the audience, would you consider this predatory? How do those arguments proceed?

It isn’t simply a matter of nobody being able to pay the loans. They find that with significant principal reduction you can get the re-default rate from 45% to 34%, though that is still very high. I am not sure what constitutes significant principal reduction, though I doubt it is on the order of the % decline in the neighborhood value, as the Zingales and Posner Slate article argued as a benchmark for principal reduction.

This is a long, stressful process, and it appears to leave nobody better off, except perhaps the servicers who get some nice fees and a subsidy from the government. This one or two year process is a period where the borrower could be taking the difference on their loan and a cheaper rental rate and start rebuilding their savings and financial lives (and ultimately, the economy).

That said, there is a norm asymmetry here, that is being exacerbated by unreasonable expectations from government officials as to the effectiveness of mortgage modification, a process that is subsidized by our taxpayer dollars. I get the sense that many are worried this is all they’ll get on this front from the administration, so better to try and get it working better than pushing for new efforts.

Where to Go?

Think Progress has a very important article on where the debate should go. Mortgage cramdowns would make banks have to take a writing down process more seriously. As Megan McArdle has written, the law around second-leins and securitization is a mess for these kinds of principal writing down situations, and could be modified. Many banks are probably worried about solvency issues ahead of the issue of properly writing down balances before foreclosure. If a mortgage is 95 cents on the books, but only worth 50 cents, given how weak banks are doing it might be worthwhile to let some foreclosure to 20 cents if they can keep the majority at 95 cents. There are FDIC workarounds for this that can be proposed or implemented. A version of Right to Rent could be pushed more aggressively. And in what I’d like to see some serious brain effort put into, taxpayer dollars could be used to subsidize short sales instead of ineffectual modifications.

Interestingly, as the document points out, we’ve hit the ceiling for the rate at which we can process foreclosures.

See how the “foreclosure closed” marker can’t scale at the pace of delinquency? There’s room for action there as well.

Currently we are trying to pay the banks to take care of this themselves. Given that so much innovation of late in consumer finances has gone into the process of making quasi-predatory items for consumers, it doesn’t surprise me that the fruits of this partnership are ineffectual at best. Now would be exactly the right time to push a stronger agenda, with bolder experiments, to fix this broken market.

Canadian Mortgage Broker Commissions Overview

Original posted RateSuperMarket.ca:

Mortgages are a complex product and once you start looking at all the available options including fixed vs variable rates, cash back, no frills, quick close specials, full-featured products, and the list goes on, it can be difficult to know which product is the best for you. That’s where a good mortgage broker can help. They can offer the following services:
  • They work for you, not the lender
  • They have access to many lenders including many major banks, specialty and mortgage-specific lenders, enabling them to find the best product for you, versus a single lender
  • Can help with strategic financial planning – Are you going to want additional cash for home renovations? Are there other debts you can consolidate?
  • Offer their services for free

The reason they can offer their services for free is that mortgage brokers are paid commission by the lenders once they close a deal, and work on 100% commission only (some charge for special, difficult situations or when organizing for private lending), but most only work on commission, so be wary if they want to charge you. The compensation is based on a percentage of the mortgage amount and varies for different mortgage rates, products, rate terms (i.e. a 1 year fixed versus a 10 year fixed), and even for different brokers. There are different options available on how broker’s can take their commission, such as up front or over the term of the mortgage, but we won’t get into that for now.

A few rules of thumb are:

  • Fixed terms typically pay more commission then variable terms
  • The longer the fixed term the more commission (ie. a 10 year fixed would pay more than a 1 year – which makes sense as the lender can predict their revenue stream for a longer period)
  • Commissions can vary among brokers as larger ones receive additional bonuses based because of higher volumes
  • No frills products which are “stripped down” with some features removed to provide a better rate typically offer lower commissions
  • Speaking to many brokers they make an average of 0.75%
  • A no frills, quick close product could offer 0.50%, while a full featured 5 year product could provide 1%

Brokers that do a lot of business, such as sourcing over $100M in mortgages annually (to put this in perspective CAAMP reports that there was $952B of residential mortgage credit outstanding October 2009), typically get better deals from lenders based on the volumes they provide and that’s how some can offer lower rates than other brokers. Additionally, if a lender has funds that become available or needs to hit their quarter/annual targets they can make a lower rate product available to a large broker and this sometimes results in special offers and deals in the market that no else has access to.

So all brokers don’t always offer the same rates or products and that’s why, as we try and provide the most comprehensive mortgage rate market comparison in Canada, we compare different brokers as well as the banks, credit unions and other lenders.

Surprisingly, mortgage broker market share is estimated at between 25-30% in Canada versus other markets such as the UK and US (before the economic collapse) where they are over 60%. Therefore there is a lot of growth available to brokers in Canada, and they offer a great service and we hope many more Canadians will consider talking to one before they take out their next mortgage. If your current bank or lender offers you a better deal, that’s great news. You can now sleep easy as you know that you’ve compared the market and increased the likelihood of getting a better deal after speaking to a broker.

Tuesday, January 26, 2010

BofA Signs up as First Servicer for HAMP Second Lien Program

Originally posted on the Housing Wire by Diana Golobay:

Bank of America just signed the first agreement to participate in the second-lien modification initiative under the Home Affordable Modification Program (HAMP).

Through HAMP, the US Treasury Department allocates capped incentives to servicers that pursue modifications of first mortgages at risk for foreclosure.

So far, the HAMP program for second liens — announced in April 2009 and added to the HAMP Web site with administrative process apparently in place — had yet to result in a single servicer contract, prompting some to wonder whether the program was on hold. Calculated Risk, for example, said housing economist Tom Lawler received an email that the program was on hold.

In December, industry professionals urged House lawmakers to ensure HAMP addresses second liens and the conflicts of interest that can sometimes arise when servicers of second liens also service first mortgages.

The agreement with BofA indicates servicer approval for participation may be gaining momentum.

BofA already has infrastructure in place to execute second lien modifications under the Second Lien Modification Program (2MP) once regulators release final program policies and guidelines, according to an e-mailed statement Tuesday. BofA indicated the release of guidelines may be coming soon, although a time frame for execution has not yet been announced.

2MP will call for modifications that reduce monthly payments on qualifying home equity loans and lines of credit under certain conditions, including the completion of a HAMP modification of the first mortgage.

“For many homeowners facing severe financial difficulty, decreasing the payment on the first mortgage without a reduction in the payment on the second lien may not produce an affordable combined mortgage payment,” said Bank of America Home Loans president Barbara Desoer.

Industry sources on the securitization side say HAMP must address the issue of second liens. At a congressional hearing in early December, officials told House lawmakers a clearinghouse might be required to mediate between first and second lien holders until a modification can be agreed upon.

Treasury spokesperson Meg Reilly earlier this month denied 2MP was on hold: “Because there has not been a systematic method of notification to second lien holders when a first lien on the same property is modified, ramp-up has taken some time.”

Sunday, January 24, 2010

Underwater, but Will They Leave the Pool?

Posted in the New York Times by Richard Thaler:

MUCH has been said about the high rate of home foreclosures, but the most interesting question may be this: Why is the mortgage default rate so low?

After all, millions of American homeowners are “underwater,” meaning that they owe more on their mortgages than their homes are worth. In Nevada, nearly two-thirds of homeowners are in this category. Yet most of them are dutifully continuing to pay their mortgages, despite substantial financial incentives for walking away from them.

A family that financed the entire purchase of a $600,000 home in 2006 could now find itself still owing most of that mortgage, even though the home is now worth only $300,000. The family could rent a similar home for much less than its monthly mortgage payment, saving thousands of dollars a year and hundreds of thousands over a decade.

Some homeowners may keep paying because they think it’s immoral to default. This view has been reinforced by government officials like former Treasury Secretary Henry M. Paulson Jr., who while in office said that anyone who walked away from a mortgage would be “simply a speculator — and one who is not honoring his obligation.” (The irony of a former investment banker denouncing speculation seems to have been lost on him.)

But does this really come down to a question of morality?

A provocative paper by Brent White, a law professor at the University of Arizona, makes the case that borrowers are actually suffering from a “norm asymmetry.” In other words, they think they are obligated to repay their loans even if it is not in their financial interest to do so, while their lenders are free to do whatever maximizes profits. It’s as if borrowers are playing in a poker game in which they are the only ones who think bluffing is unethical.

That norm might have been appropriate when the lender was the local banker. More commonly these days, however, the loan was initiated by an aggressive mortgage broker who maximized his fees at the expense of the borrower’s costs, while the debt was packaged and sold to investors who bought mortgage-backed securities in the hope of earning high returns, using models that predicted possible default rates.

The morality argument is especially weak in a state like California or Arizona, where mortgages are so-called nonrecourse loans. That means the mortgage is secured by the home itself; in a default, the lender has no claim on a borrower’s other possessions. Nonrecourse mortgages may be viewed as financial transactions in which the borrower has the explicit option of giving the lender the keys to the house and walking away. Under these circumstances, deciding whether to default might be no more controversial than deciding whether to claim insurance after your house burns down.

In fact, borrowers in nonrecourse states pay extra for the right to default without recourse. In a report prepared for the Department of Housing and Urban Development, Susan Woodward, an economist, estimated that home buyers in such states paid an extra $800 in closing costs for each $100,000 they borrowed. These fees are not made explicit to the borrower, but if they were, more people might be willing to default, figuring that they had paid for the right to do so.

Morality aside, there are other factors deterring “strategic defaults,” whether in recourse or nonrecourse states. These include the economic and emotional costs of giving up one’s home and moving, the perceived social stigma of defaulting, and a serious hit to a borrower’s credit rating. Still, if they added up these costs, many households might find them to be far less than the cost of paying off an underwater mortgage.

An important implication is that we could be facing another wave of foreclosures, spurred less by spells of unemployment and more by strategic thinking. Research shows that bankruptcies and foreclosures are “contagious.” People are less likely to think it’s immoral to walk away from their home if they know others who have done so. And if enough people do it, the stigma begins to erode.

A spurt of strategic defaults in a neighborhood might also reduce some other psychic costs. For example, defaulting is more attractive if I can rent a nearby house that is much like mine (whose owner has also defaulted) without taking my children away from their friends and their school.

So far, lenders have been reluctant to renegotiate mortgages, and government programs to stimulate renegotiation have not gained much traction.

Eric Posner, a law professor, and Luigi Zingales, an economist, both from the University of Chicago, have made an interesting suggestion: Any homeowner whose mortgage is underwater and who lives in a ZIP code where home prices have fallen at least 20 percent should be eligible for a loan modification. The bank would be required to reduce the mortgage by the average price reduction of homes in the neighborhood. In return, it would get 50 percent of the average gain in neighborhood prices — if there is one — when the house is eventually sold.

Because their homes would no longer be underwater, many people would no longer have a reason to default. And they would be motivated to maintain their homes because, if they later sold for more than the average price increase, they would keep all the extra profit.

Banks are unlikely to endorse this if they think people will keep paying off their mortgages. But if a new wave of foreclosures begins, the banks, too, would be better off under this plan. Rather than getting only the house’s foreclosure value, they would also get part of the eventual upside when the owner voluntarily sold the house.

This plan, which would require Congressional action, would not cost the government anything. It may not be perfect, but something like it may be necessary to head off a tsunami of strategic defaults.

Wednesday, January 20, 2010

‘Tranche Warfare’ Erupts as Property Owners Slide Into Default

Posted on Bloomberg by Nadja Brandt and Jonathan Keehner:

When Lightstone Group bought Extended Stay Hotels Inc. in June 2007, it relied on more than $7 billion in debt financing to complete the $8 billion deal just weeks before the leveraged-buyout market imploded.

Today, Extended Stay’s creditors are battling each other after the company filed the largest bankruptcy case by a U.S. hotel owner. A company reorganization plan, which includes financing from Centerbridge Partners LP and Paulson & Co., may be challenged by a proposal from Starwood Capital Group LLC that is backed by some so-called mezzanine lenders.

Infighting among lenders with different classes of debt, called tranches, is on the rise in the hotel industry and throughout the $3.5 trillion market for commercial real estate loans after property prices fell more than 40 percent from their peak in 2007. Commercial mortgage defaults more than doubled to 3.4 percent in last year’s third quarter from a year earlier.

“I expect that we will see a lot more of this tranche warfare as you are seeing in the Extended Stay scenario,” said Patrick Campbell, principal at Greenwich, Connecticut-based Wheelock Street Capital LLC, a private-equity firm focused on real estate.

Underlying the conflicts are complex financing arrangements made at the top of the market, according to David Broderick, a partner in the real estate group of law firm Allen & Overy LLP in New York. Those deals divided lenders into multiple tranches, with varying degrees of seniority and risk.


‘Binary Relationships’


Mezzanine loans, which became more prevalent during the market’s peak in 2006 and 2007, got their name because they rank in the capital structure between secured debt such as mortgages and ownership equity, sharing attributes of both. They are seen by investors as riskier than a first mortgage and have higher interest rates.

“Borrowers and lenders had a more binary relationship a decade ago,” Broderick said. “Creditors in these complicated structures no longer have similar economic interests, especially with so many lenders underwater.”

Delinquencies on loans packaged into commercial mortgage- backed securities rose to a record high of more than 6 percent in December, according to Trepp LLC, a New York-based seller of commercial mortgage data. There were about $60 billion of CMBS that were in so-called special servicing for a workout or resolution at the end of September, data from Fitch Ratings show.


Bankruptcy Claims


Extended Stay, which Lightstone bought from New York-based private-equity firm Blackstone Group LP, filed for bankruptcy in June, citing decreased business-travel spending.

The case, in federal bankruptcy court for the Southern District of New York, has been complicated by creditor lawsuits, including claims that the Chapter 11 filing was a effort to push out junior debt holders and transfer control of the Spartanburg, South Carolina-based company. Mezzanine lenders Deuce Properties Ltd. and Line Trust Corp., both incorporated in Gibraltar, said in a June lawsuit in New York Supreme Court that Cerberus Capital Management LP and senior lenders were trying to take over the chain’s 680 properties.

Peter Duda, a spokesman for Cerberus, a New York-based hedge-fund and private-equity firm, declined comment.

“I think it’s fair to say these kinds of issues will come up more and more as additional CMBS cases are filed,” said Jacqueline Marcus, a lawyer for Extended Stay at Weil, Gotshal & Manges LLP in New York. She declined further comment.

Michael Beckerman, a spokesman for Lakewood, New Jersey- based Lightstone, didn’t return a message seeking comment.

“We’re proceeding with our action against the senior lenders who supported the original term sheet filed by Extended Stay,” said Stephen Meister, a lawyer for Line Trust and Deuce Properties.


Competing Plans


Now, Starwood Capital, the investment firm run by Barry Sternlicht that is owed about $266 million by Extended Stay, has put forward its own plan for the bankrupt chain, backed by some junior creditors.

Starwood, based in Greenwich, Connecticut, said its proposal will ease “widespread dissatisfaction” among Extended Stay’s creditors by providing a new $600 million equity investment, court filings show.

Starwood may end up competing with Extended Stay’s own plan, which includes $400 million in new financing from Centerbridge Partners and Paulson & Co., the hedge-fund firm run by John Paulson.

The firms, both based in New York, have agreed in principle on a $200 million equity investment and $200 million backstopped rights offering to support the hotel chain’s turnaround.

Tom Johnson, a spokesman for Starwood Capital, declined to comment. Leslie Armel, a Paulson spokesman, declined to comment, while a message left for Centerbridge officials wasn’t immediately returned.


Vacant Rooms


The hotel industry is struggling with falling occupancy rates caused by the recession. Occupancy last year through November dropped 8.9 percent in the top 25 U.S. markets as leisure and business travelers slashed spending, according to Smith Travel Research Inc. The rate probably will fall an additional 0.2 percent this year nationwide, according to Jan Freitag, a vice president at the Hendersonville, Tennessee-based firm.

About $28.2 billion in debt across 1,200 loans backed by 1,800 U.S. hotels was included on a performance watch list as of December 2009, according to data compiled by Realpoint LLC, a Horsham, Pennsylvania-based credit-rating company. Most of these loans are in default or close to default, according to Frank Innaurato, managing director of CMBS analytical services at Realpoint. Outstanding securitized hotel debt is $73 billion.


Stuyvesant Town


Earlier this month, real estate investor Tishman Speyer Properties LP and BlackRock Inc., the world’s largest money manager, missed a $16.1 million payment on Stuyvesant Town and Peter Cooper Village, the New York apartment complex they bought in 2006 for $5.4 billion with $1.4 billion of mezzanine debt and a $3 billion mortgage.

A group led by Boston-based Winthrop Realty Trust, holding about $300 million in senior mezzanine debt, last week took a step toward foreclosure by demanding payment from Tishman Speyer and BlackRock, both based in New York.

Fitch estimates the property’s value to be $1.8 billion today, making it worth less than the senior debt. Representatives of Tishman Speyer, Blackrock and Winthrop declined to comment.

Possible resolutions for the complex could include restructuring, sale of the debt or even the property itself, according to Ben Thypin, senior market analyst at New York-based research firm Real Capital Analytics Inc.


W Union Square


“One avenue for sale is an auction for mezzanine debt, which gives a way for all stake holders to participate in the transfer of ownership including bidding with money already owed in a so-called credit bid,” Thypin said. “Junior holders often have the incentive to move most quickly to salvage any return on their investment.”

That’s what happened with the W New York Union Square Hotel after Dubai World’s Istithmar investment unit, which bought the property in 2006 at the height of the market, missed a payment.

LEM, a Philadelphia-based affiliate of Lubert-Adler Real Estate Funds, won control of the 270-room property on Manhattan’s Park Avenue South in an auction last month by bidding $2 million for Istithmar’s equity interest, assuming the $97 million in mezzanine debt it didn’t already own and taking over the defaulted $115 million first mortgage. LEM was the most junior lender in the original $285 million deal.


Private Equity


In addition to its first mortgage, Istithmar financed the purchase of the W New York Union Square with $117 million in mezzanine debt. The loan was split into three tranches, with LEM’s $20 million piece the smallest and most junior.

The hotel could change hands again as the senior mezzanine lender, DekaBank Deutsche Girozentrale, considers foreclosing on LEM unless loan payments are brought up to date, said David Gutstadt, a senior vice president at New York-based Savills LLC. Savills is DekaBank’s adviser.

Rick Matthews, an LEM spokesman, declined to comment. Industry newsletter Real Estate Alert reported Dekabank’s plan yesterday.

“Tranche warfare will increase because of the capital that’s been raised targeting distressed commercial real estate,” said Thypin.

Real estate private-equity firms raised $6.8 billion in the fourth quarter of 2009, according to London-based Preqin Ltd., and more than $40 billion for the year. Sternlicht, the former chairman of U.S. lodging company Starwood Hotels, raised $930 million when he took Starwood Property Trust public in August.

“Private equity has been disappointed with opportunities available through senior debt so they’re looking to subordinated debt to get control of properties,” Thypin said.

HAMP: 66,465 Permanent Mods

Original posted on Calculated Risk:

From Treasury: Administration Releases December Loan Modification Repot, Update on Conversion Drive

HAMP Click on graph for larger image in new window.

Just over 66,000 modifications are now permanent, and this shows about a 43% failure rate (loans permanent divided by loans permanent + loans no longer active)

Here is the link at Treasury. See here for a list of reports.

If there were 270,000 cumulative HAMP trial modifications in July - how come there were only 66,465 permanent mods and 48,924 disqualified modifications by the end of December? The numbers don't add up.

What happened to the other 150,000+ modifications? I guess they have all been extended until the end of January.

And of the 787,231 active trial modifications, are all the borrowers current? My understanding was the HAMP data would show how many trial modifications had started, and the redefault rate by month. That key data is still missing.

Original posted on FT Alphville by Tracy Alloway:

As Calculated Risk notes, you have to wonder why, if there were 269,955 cumulative Hamp trial mods in progress at July 2009, there are now only 66,465 permanent mods and a reported 48,924 disqualified mods at the end of December.

Did the missing 154,566 get additional (beyond five-month) extensions?

Then you have to wonder about the reported Hamp modifications by investor type.

In November, for example, mortgage-servicer Wells Fargo reported zero private (investor) modifications and 24,000 mods for its own portfolio. But December’s numbers show 23,910 private mods and 5,041 portfolio ones.

It’s quite a big change:

What’s going on?

And originally posted on Calculated Risk an exchange between Meredith Whitney and Jamie Dimon on the JPMorgan conference call this morning (ht Brian):

Whitney: [W]e're reaching a critical point in terms of all of the loan modification efforts and this is an industry question but then how it specifically affects your Company, given the fact that the industry feedback and statistics on the loan modification efforts are not good, so you question what's the next initiative and the issue of principal forbearance. How much momentum do you think that has, can you comment on what stage we are in terms of obviously the extension ends [soon] with the last slug is over in February, so where do you think we are in terms of the government’s efforts to influence banks to do certain things?

Dimon: Well remember we do modifications of our own and we do the government modifications and I do think they're kind of new, it was complex, and I think people will get better at it over time, Meredith. We have not thought of a better way to do it than loan by loan, which is does the person want to live there, can they afford to live there, and we really think that the payment, how much you're paying is more important than principal. Even if you are going to do something on principal, to do it right you have to do it loan by loan and it effectively comes a similar kind of thing. The difficulty is the loan by loan part and we've asked the government and I think they tried to streamline a little bit to have programs because there's too much paperwork involved in it so a lot of the reasons we're not getting to final modifications half the time we don't finish the paperwork, so they need the lower payments but they weren't finishing the paperwork so we're trying to get better at it, honestly, we rack our brains to figure out if there's a better way to do it and you can do it more macro than loan by loan but once you start talking about macro, you're going to get involved in a lot of issues about whether the people live there, whether they have the ability to pay, whether they were honest when they first told people how much their incomes were, so we're working through it.

Whitney: Okay, do you get a sense that there's something right behind HAMP, that there’s another solution for the government or is it more your efforts?

Dimon: We're trying to do this, look, we're trying to have ideas and they are trying to have ideas but if we had a brilliant one we would be very supportive of doing it. We want to do the right thing for the people.

Whitney: Okay, so a point of clarification on your answer, issue of principal forbearance is not something that people should be overly concerned about with respect to reserves and capital for the bank?

Dimon: No, I think if there's a macro government force on something like that you could have a fairly significant effect on loan loss reserves and losses, etc.

Whitney: But is that a real, any momentum?

Dimon: Honestly Meredith you probably know as well as we do.

Whitney: I don't know. I can't help myself on that one.
A few comments:
  • Most completed modifications are bank programs, and not HAMP. It is worth remembering that HAMP is just a subset of all the programs (the HAMP numbers will be released today).

  • Thinking that the "payment" is more important than the "principal" (or price when buying) is part of the reason we have this problem.

  • "Paperwork" is mostly qualifying borrowers in arrears.

  • Dimon apparently isn't aware of any momentum for a macro principal reduction program, but if one came along it would have a "significant effect on loan loss reserves and losses".
  • Sunday, January 17, 2010

    Is Slashing Mortgage Principal the Answer?

    Original posted in the Wall Street Journal by James R. Hagerty:

    Many critics of the Obama administration’s mortgage loan-modification program say it won’t work because it doesn’t do enough to address “negative equity,” the plight of people who owe more on their home loans than the current value of those properties. Without equity in their homes, these critics say, borrowers have little incentive to keep paying and are apt to walk away as soon as things get tough, if not before.

    There is even a new word to describe this approach: Lenders need to “re-equify” borrowers by chopping the loan balances to something less than their homes’ values. That would go well beyond the usual loan-mod formula of cutting the interest rate and giving the borrower more time to repay. It also would force banks to admit that the collateral backing their loans is greatly diminished, bringing their balance sheets closer to reality.

    But some important voices are raising questions about whether widespread principal reductions are the answer.

    When he was asked about that in a news briefing Friday, Assistant Treasury Secretary Michael Barr didn’t rule out broader use of principal reductions. But he suggested that there would be a risk that such a program would change a lot of borrowers’ behavior. “Most people, most of the time, make their mortgage payments …even if they’re underwater,” Mr. Barr noted. “You have to be quite careful not to design a program that induces more people to walk away” or one that strikes people as unfair.

    How would principal reductions induce more people to walk away? Let’s say your neighbor, who hasn’t made any payments on his loan for months, gets a huge reduction in his loan balance. Meanwhile, you’ve been working three jobs and dining on cat food to pay your note each month. Your reward from the bank? Zilch.

    So maybe you’d decide to stop paying, too, in the hope of the same deal your neighbor got.

    Goldman Sachs also is questioning the idea that principal reductions are coming on a huge scale. In a report last week, the Wall Street firm’s economists wrote that the government is likely to make “some additional response” to improve the loan-mod program. “But,” the economists wrote, “the notion that the Treasury will implement a principal-reduction scheme could be a setup for disappointment. While principal reductions would be more effective than rate reductions for many borrowers, well-known obstacles still haven’t been overcome: second-liens pose obstacles; broadly applied principal reductions would involve significant costs, and selective relief could have negative political ramifications.”

    This debate isn’t over. Others insist lenders will have to grant principal reductions in many cases. Here’s one formula: The lender or other owner of the mortgage sells it at a big discount to an investor. That investor then reduces the loan balance and refinances the borrower into a mortgage insured by the Federal Housing Administration. Now Uncle Sam is holding the bag on a loan that (we all hope) might be sustainable.

    Tom Capasse, a principal at Waterfall Asset Management LLC, a New York-based investor in mortgages, says it’s too late to prevent a “seismic shift” in borrower behavior away from the old model of paying off the mortgage no matter what. Many Americans already see walking away as a legitimate option if they can’t get a better deal from the bank.

    “There used to be a scarlet D on your forehead if you defaulted,” says Mr. Capasse. “Now it’s a badge of honor.”

    Friday, January 15, 2010

    HAMP Results Remain Disappointing

    Original posted on Calculated Risk:

    From Treasury: Administration Releases December Loan Modification Repot, Update on Conversion Drive

    HAMP Click on graph for larger image in new window.

    Just over 66,000 modifications are now permanent, and this shows about a 43% failure rate (loans permanent divided by loans permanent + loans no longer active)

    Here is the link at Treasury. See here for a list of reports.

    If there were 270,000 cumulative HAMP trial modifications in July - how come there were only 66,465 permanent mods and 48,924 disqualified modifications by the end of December? The numbers don't add up.

    What happened to the other 150,000+ modifications? I guess they have all been extended until the end of January.

    And of the 787,231 active trial modifications, are all the borrowers current? My understanding was the HAMP data would show how many trial modifications had started, and the redefault rate by month. That key data is still missing.

    Friday, January 8, 2010

    Redefault Rates ‘Tragic’, Says Amherst

    Original posted on the Housing Wire by Diana Golobay:

    According to Amherst Securities Group, default and prepayment rates on non-agency, private-label mortgage-backed securities (MBS) were constant in November. However, re-performance rates, where payments return to less than two months delinquent, were down and re-default rates “tragic” in November, according to market commentary provided by the firm.

    The Amherst report, based on November payment data covering 98% of loans backing private-label MBS, said cash flow velocity continued to decline.

    Based on performance data, Amherst projects that always-performing loans fell to $905bn in November from $930bn in October, as first-time defaults came in at $16bn, from $16.8bn in October. Prepayments of $8.3bn were unchanged from the previous month.

    Re-performing loans totaled $117.3bn in November, down from $118.1bn in October. Loans totaling $12.8bn became re-performing in November by getting back within two payments delinquent, down from $13.4bn in October. Total non-performing loans were $484.8bn in November, from $486.1bn in October.

    Re-defaults after modification were $12.8bn, or 10.9%, up from 10.5% last month.

    Laurie Goodman of Amherst has said the fundamentals of certain modification programs put them at a disposition for unsuccessful modification. The Treasury Department’s Home Affordable Modification Program (HAMP), for example, is “destined to fail” as it does not address negative equity.

    Any solutions, she says, must provide principal write-downs and address the loss allocation among first lien and second lien investors. Treasury continues to establish the infrastructure for a HAMP second lien program, sources tell HousingWire.

    A recent report by the Office of the Comptroller of the Currency (OCC) and Office of Thrift Supervision (OTS) indicated the re-default rate on modified loans seems to be improving for newer vintages. Of the most recent modifications made in Q209, 18.7% were 60 or more days delinquent three months after the modification, for example, compared to 33.3% in Q208 and 30.7% in Q109.

    HAMP 2nd Lien Program Update

    Original posted on Calculated Risk:

    In an email exchange with me, Treasury spokesperson Meg Reilly clarified the status of the HAMP 2nd Lien program today. Ms. Reilly told me the program is "moving forward", and although there are no "official contracts signed yet, ... servicers are committing to the program". She characterized the email received1 by Tom Lawler from HAMP administration as "misleading" (I think that means "incorrect").

    Ms. Reilly also wrote:
    The Second Lien program is moving forward. Treasury has been working to create program infrastructure and technology, including a new platform that matches second liens to first liens modified under HAMP. Because there has not been a systematic method of notification to second lien holders when a first lien on the same property is modified, ramp up has taken some time. We have made enormous progress and continue to move forward with innovative technological development and program implementation and expect to finalize servicer contracts soon.
    1 Mr. Lawler has shared with me his email exchange with HAMP administration. His questions were straightforward concerning the status of the 2nd lien program: "Is there a list of servicers who have signed up for the Second Lien Modification Program? (2MP) The last time I checked with y'all, no one had signed up yet." And the response was: "That program is currently on hold and there is no list of servicers that registered before it was placed on hold." I considered the "on hold" important news, although Treasury has clarified that today. (ht to Diana Golobay at HousingWire who contacted Treasury first).

    A second (lien) helping of Hamp

    Original posted on FT Alphaville by Tracy Alloway:

    So the second lien portion of the US Treasury’s mortgage modification scheme is reportedly “on hold.”

    This shouldn’t be a major surprise since the programme, called 2MP, an add-on to the Home Affordable Mortgage Modifaction Plan (Hamp), appears to have never actually got off the ground in the first place.

    Indeed, Amherst MBS specialist Laurie Goodman noted in her December congressional testimony on the Hamp, that:

    Second liens have thus far, under Hamp, been treated with kid gloves. While the first lien modification program is fully operational, to the best of my knowledge the second lien program has not yet been implemented.

    Mortgage minutiae rarely make for interesting reading but bear with us here because the second lien issue is quite interesting, and has potential ramifications for US banks like JP Morgan and Bank of America Merrill Lynch.

    Normally second lien mortgages (which are simply second mortgages taken out on a property) rank subordinate to the first loan. In principle, that means if the property is sold or the borrower defaults, the first lien lender is first in line to get the resulting money, followed by the second lien lender.

    But it seems an interesting thing happens when mortgage modifications come into play.

    Because the borrower is paying the Hamp-modified first lien amount, and the full second lien amount, the second lien effectively becomes senior to the first. In fact, second lien lenders might even be thought of as benefiting from the first lien mortgage since they have a better chance of getting more of their money back from the borrower.

    Weird?

    Yes. But it gets weirder.

    Here’s Linda Lowell, of Housing Wire, to explain:

    [The second lien] obstacle is not reduced by the fact that the four largest servicers (BofA, Wells Fargo, Chase and Citi) are also the largest holders of second lien residential loans. According to data compiled by Goodman last March, they own $94 billion closed-end seconds, $397 billion home equity lines of credit, and about $653 billion in first lien loans. (The report wasn’t cited in [Goodman's] testimony, but I relied on it in my November 2009 Housingwire Magazine article, “Modify Me: A Review of Loan Modification Efforts.”)

    At first glance, these concentrations seem to raise the odds that the first lien servicer is owned by the bank that holds the second lien. However, in March Goodman calculated that, even if every first lien was accompanied by a 25% second lien, only about $163 billion of the top servicing banks’ second liens would be accounted for.

    In other words, it should come as little surprise that mortgage servicers (banks) which also hold second lien loans are not jumping wholeheartedly into the 2MP programme.

    Ironically, if the US Treasury, decides to replace the aborted-second lien portion of the Hamp with something else — principal forgiveness perhaps — you can probably expect those second liens to be extinguished entirely.

    Principal Cuts on Lender Menus as Foreclosures Rise

    Original posted on Bloomberg by John Gittelsohn and Prashant Gopal

    Efforts by U.S. banks to help distressed homeowners have focused mainly on temporary fixes such as interest-rate reductions that may only put off the day of reckoning, despite policy makers wanting them to do more.

    Banks may be forced to resort to a remedy they’ve been trying to avoid -- principal reductions -- as another wave of foreclosures looms and payments on risky loans rise, Bloomberg BusinessWeek magazine reports in the Jan. 18 issue.

    While interest-rate reductions or extending loan terms reduce homeowners’ monthly payments, they don’t give much comfort to borrowers who owe more on their homes than their properties are worth. Borrowers who don’t have equity in their homes are more likely to hand over the keys when they run into trouble. “The evidence is irrefutable,” Laurie Goodman, senior managing director of Amherst Securities Group in New York, testified before the U.S. House Financial Services Committee on Dec. 8. “Negative equity is the most important predictor of default.”

    The 25 percent plunge in residential real estate prices from their 2006 peak has left homeowners underwater by $745 billion, according to research firm First American CoreLogic --a number that tops the government’s $700 billion bailout for banks. That’s why Federal Deposit Insurance Corp. Chairman Sheila Bair is considering incentives for lenders to cut the principal on as much as $45 billion of mortgages acquired from seized banks. “We’re looking now at whether we should provide some further loss-sharing for principal writedowns,” says Bair. “Now you’re in a situation where even the good mortgages are going bad because people are losing their jobs.”

    Deepening Crisis

    The foreclosure crisis is likely to deepen this year in part because payments on many adjustable-rate mortgages are set to balloon. Unless there’s a sharp recovery in property values or a change in lenders’ willingness to cut principal, at least 7 million borrowers currently behind on their payments will lose their homes, Goodman estimates.

    Some lenders may be coming around to the idea of principal reduction. “If you can right-size the mortgage and return to an equity situation, the incentive is to stay,” says Micah Green, an attorney at Patton Boggs in Washington and a lobbyist for a coalition of mortgage bond investors. Banks can either forgive principal outright or defer it. In deferrals the borrower must pay back the full amount on the original mortgage when he sells the property; if the ultimate sales price doesn’t cover the principal, the homeowner has to pay the difference, making it a less effective tool.

    Deferring Principal

    A principal deferral helped Marcus Beckett stave off foreclosure. The 42-year-old small-business owner couldn’t afford his $2,413 monthly mortgage bill after his income dropped and his son, Riley, was born. In October, OneWest Bank agreed to defer $66,000 of the $423,000 debt on his two-bedroom condominium, which he’ll have to pay back if he sells his Aliso Viejo, California, home. The monthly tab on the house he bought in 2006 is now $1,314. “It’s like I got a second chance on life,” Beckett says. “I feel, mentally, I’m able to keep making payments.”

    While principal reductions remain rare, banks are doing them more often. In the third quarter of 2009, some 21,000 home loans -- 3 percent of the total modified mortgages -- included a principal reduction or deferral, according to Mortgage Metrics, a government publication. That’s up from 6,245 in the first quarter of 2009, the first time the U.S. reported the data.

    Positive Results

    Banks that negotiate principal reductions have seen positive results. Principal forgiveness can be more than twice as effective in slowing re-defaults than reducing an interest rate, according to a December study by the Federal Reserve Bank of New York. Cutting a homeowner’s principal would be especially powerful in Florida, Nevada and Arizona, markets likely years away from recovery, said Joseph Tracy, executive vice president of the New York Fed and coauthor of the study.

    “Lenders are going to eat the losses at some point in time,” Tracy said. “There’s a real chance to recognize the loss by forgiving principal today instead of waiting.”

    Last year, Wells Fargo & Co. cut $2 billion of principal on delinquent loans. After the modifications, the six-month re- default rate on those loans was roughly 15 percent to 20 percent. That’s less than half the industry average. “We are very comfortable with what we’ve been doing,” says Franklin Codel, chief financial officer of the bank’s home-lending unit. “We offer a principal reduction if that makes sense for that individual borrower’s situation.”

    Option ARMs

    When principal reductions were granted for pay-option adjustable-rate mortgages -- loans with high default rates because they enabled borrowers to pay less than the cost of interest as the principal increased -- the re-default rate after 60 days fell to 6 percent, according to Mortgage Metrics.

    “In terms of incentive, you have more skin in the game or less negative equity to deal with,” said Fred Phillips-Patrick, director of credit policy for the Office of Thrift Supervision.

    Many banks don’t want word to get around that they reduce principal. They fear that homeowners who can afford their payments will demand better deals. John Lashley, a 44-year-old salesman in Huntersville, North Carolina, is making his payments. But he is thinking about walking away from his four- bedroom home unless his lender, Sun Trust Mortgage, agrees to cut the principal on his $345,000 loan.

    The house next door recently sold for $260,000, and Lashley doesn’t see the point of pouring money into his house when he may never recoup the investment he made in 2007. “Why should I stay in my house?” he says. “It’s not a moral decision. It’s a financial decision.”

    Dueling Interests

    The conflicting interests of mortgage lenders and home- equity lenders is a roadblock to doing principal reductions. Banks, credit unions and thrifts held $951.6 billion in home- equity loans as of Sept. 30, according to Federal Reserve data.

    Mortgage lenders don’t want to cut principal unless the home-equity lenders agree to take a hit. Typically, though, the home-equity lenders are reluctant; much of the value of their loans would be wiped out. That could drive more banks into insolvency, says Joshua Rosner, an analyst at investment research firm Graham Fisher in New York.

    The threat of lawsuits is also hampering principal reductions. In December 2008 money manager Greenwich Financial Services sued lender Countrywide Financial in New York State Supreme Court. Greenwich, which owns mortgage-backed securities, demanded 100 cents on the dollar for some Countrywide investments. The securities included loans on which Countrywide had agreed to cut $8.4 billion in principal and interest to settle allegations of predatory lending.

    Legal Hurdle

    Greenwich Financial’s case is pending. Bank of America Corp., which bought Countrywide in 2008, says: “We are confident any attempt to stop this program will be legally unsupportable.” Greenwich says it’s willing to accept loan changes that benefit borrowers.

    So far the feds haven’t put pressure on banks to forgive debt. President Barack Obama’s $75 billion program to spur banks to alter loan terms doesn’t require them to do so. But the FDIC and other regulators are looking at measures to promote the writedowns. Mark Zandi, the chief economist for Moody’s Economy.com, who has testified before Congress on housing issues, proposes that banks receive a federal match of $1 for every $2 in principal reductions they offer to homeowners who were victims of predatory lending practices. “You’re not going to wipe out all the borrowers’ negative equity,” he says. “This just gives them enough hope to get them committed again.”

    Thursday, January 7, 2010

    Walk Away From Your Mortgage!

    Original posted in the New York Times by Roger Lowenstein:

    John Courson, president and C.E.O. of the Mortgage Bankers Association, recently told The Wall Street Journal that homeowners who default on their mortgages should think about the “message” they will send to “their family and their kids and their friends.” Courson was implying that homeowners — record numbers of whom continue to default — have a responsibility to make good. He wasn’t referring to the people who have no choice, who can’t afford their payments. He was speaking about the rising number of folks who are voluntarily choosing not to pay.

    Such voluntary defaults are a new phenomenon. Time was, Americans would do anything to pay their mortgage — forgo a new car or a vacation, even put a younger family member to work. But the housing collapse left 10.7 million families owing more than their homes are worth. So some of them are making a calculated decision to hang onto their money and let their homes go. Is this irresponsible?

    Businesses — in particular Wall Street banks — make such calculations routinely. Morgan Stanley recently decided to stop making payments on five San Francisco office buildings. A Morgan Stanley fund purchased the buildings at the height of the boom, and their value has plunged. Nobody has said Morgan Stanley is immoral — perhaps because no one assumed it was moral to begin with. But the average American, as if sprung from some Franklinesque mythology, is supposed to honor his debts, or so says the mortgage industry as well as government officials. Former Treasury Secretary Henry M. Paulson Jr. declared that “any homeowner who can afford his mortgage payment but chooses to walk away from an underwater property is simply a speculator — and one who is not honoring his obligation.” (Paulson presumably was not so censorious of speculation during his 32-year career at Goldman Sachs.)

    The moral suasion has continued under President Obama, who has urged that homeowners follow the “responsible” course. Indeed, HUD-approved housing counselors are supposed to counsel people against foreclosure. In many cases, this means counseling people to throw away money. Brent White, a University of Arizona law professor, notes that a family who bought a three-bedroom home in Salinas, Calif., at the market top in 2006, with no down payment (then a common-enough occurrence), could theoretically have to wait 60 years to recover their equity. On the other hand, if they walked, they could rent a similar house for a pittance of their monthly mortgage.

    There are two reasons why so-called strategic defaults have been considered antisocial and perhaps amoral. One is that foreclosures depress the neighborhood and drive down prices. But in a market society, since when are people responsible for the economic effects of their actions? Every oil speculator helps to drive up gasoline prices. Every hedge fund that speculated against a bank by purchasing credit-default swaps on its bonds signaled skepticism about the bank’s creditworthiness and helped to make it more costly for the bank to borrow, and thus to issue loans. We are all economic pinballs, insensibly colliding for better or worse.

    The other reason is that default (supposedly) debases the character of the borrower. Once, perhaps, when bankers held onto mortgages for 30 years, they occupied a moral high ground. These days, lenders typically unload mortgages within days (or minutes). And not just in mortgage finance, but in virtually every realm of our transaction-obsessed society, the message is that enduring relationships count for less than the value put on assets for sale.

    Think of private-equity firms that close a factory — essentially deciding that the company is worth more dead than alive. Or the New York Yankees and their World Series M.V.P. Hideki Matsui, who parted company as soon as the cheering stopped. Or money-losing hedge-fund managers: rather than try to earn back their investors’ lost capital, they start new funds so they can rake in fresh incentives. Sam Zell, a billionaire, let the Tribune Company, which he had previously acquired, file for bankruptcy. Indeed, the owners of any company that defaults on bonds and chooses to let the company fail rather than invest more capital in it are practicing “strategic default.” Banks signal their complicity with this ethos when they send new credit cards to people who failed to stay current on old ones.

    Mortgage holders do sign a promissory note, which is a promise to pay. But the contract explicitly details the penalty for nonpayment — surrender of the property. The borrower isn’t escaping the consequences; he is suffering them.

    In some states, lenders also have recourse to the borrowers’ unmortgaged assets, like their car and savings accounts. A study by the Federal Reserve Bank of Richmond found that defaults are lower in such states, apparently because lenders threaten the borrowers with judgments against their assets. But actual lawsuits are rare.

    And given that nearly a quarter of mortgages are underwater, and that 10 percent of mortgages are delinquent, White, of the University of Arizona, is surprised that more people haven’t walked. He thinks the desire to avoid shame is a factor, as are overblown fears of harm to credit ratings. Probably, homeowners also labor under a delusion that their homes will quickly return to value. White has argued that the government should stop perpetuating default “scare stories” and, indeed, should encourage borrowers to default when it’s in their economic interest. This would correct a prevailing imbalance: homeowners operate under a “powerful moral constraint” while lenders are busily trying to maximize profits. More important, it might get the system unstuck. If lenders feared an avalanche of strategic defaults, they would have an incentive to renegotiate loan terms. In theory, this could produce a wave of loan modifications — the very goal the Treasury has been pursuing to end the crisis.

    No one says defaulting on a contract is pretty or that, in a perfectly functioning society, defaults would be the rule. But to put the onus for restraint on ordinary homeowners seems rather strange. If the Mortgage Bankers Association is against defaults, its members, presumably the experts in such matters, might take better care not to lend people more than their homes are worth.

    Wednesday, January 6, 2010

    Report: HAMP Second Lien Modification Program “On Hold”

    Original posted on Calculated Risk:

    Housing economist Tom Lawler emailed the HAMP administrative website to obtain a list of servicers who had signed up for the Second Lien Modification Program. Here is the response he received:

    “That program is currently on hold and there is no list of servicers that registered before it was placed on hold.”
    The Second Lien program was announced on April 28, 2009 by Treasury:Parallel Second Lien Program to Help Homeowners Achieve Greater Affordability
    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.
    And from the HAMP website:
    The Second Lien Modification Program is a complementary program to the Home Affordable Modification Program designed for first lien mortgages. This Program is expected to reach approximately 1 - 1.5 million responsible homeowners who are struggling to afford their mortgage payments. The Second Lien Modification Program coordinates with HAMP's first mortgage modification program to lower payments on second mortgages and offer comprehensive affordability solutions for homeowners.
    I guess that program is falling a little short.

    Are Principal Writedowns the Answer to Housing Crisis?

    An incredibly stupid post on CNBC by Diana Olick:

    Most agree that the government's mortgage bailout program (Home Affordable Modification Program or HAMP) is at best unsuccessful and at worst detrimental. So now I'm beginning to hear more chatter about principal writedown, and more specifically, government-funded principal writedown.

    The idea is to give folks equity back in their homes so they don't walk away from their mortgage commitments. It would also help borrowers who don't qualify for modifications because they are so far "underwater" on their mortgages. The arguments are plain and simple: Bite the bullet to save the greater housing market or don't because the moral hazard is far too untenable.

    Anyone who's ever read this blog before knows where I stand. I would honestly rather see my home's value go down than see the guy next door (figurative: my neighbors are lovely and fiscally responsible) who made a poor/negligent financial decision get a mulligan at my expense.

    Sunday, January 3, 2010

    Fed economist calls for US government MBS guarantees

    Original posted on Reuters by Joe Rauch:

    A U.S. Federal Reserve economist called on Sunday for the creation of a new federal institution to backstop losses on asset-backed securities to prevent any future collapse of mortgage finance giants Fannie Mae (FNM.N) and Freddie Mac (FRE.N).

    The government had to take over the mortgage finance companies in 2008 as a devastating financial crisis worsened. The two had been shareholder owned, but their congressional charters and Treasury lines of credit lent their debt securities a status just short of U.S. Treasuries in the eyes of investors.

    "There ought to be government-backed ABS," said Fed economist Wayne Passmore in a presentation to the American Economic Association.

    Atlanta Federal Reserve Bank President Dennis Lockhart participated in the session but did not make comments.

    Fannie Mae and Freddie Mac, even under government control, play a major role in U.S. mortgage finance, and President Barack Obama has promised to propose early in 2010 how the companies should be structured in the future.

    Passmore and Fed economist Diana Hancock argued for the creation of an agency that would guarantee all forms of asset-backed securities. It would be capitalized by insurance premiums charged to financial institutions, much like the current Federal Deposit Insurance Corp system, Passmore said.

    "It resolves the problems associated with systemic risk," Passmore said.

    Fannie and Freddie, he argued, should also expand to securitize a host of new assets, like credit cards portfolios, that the private sector already handles.

    I think this old paper is the one that they presented.

    Friday, January 1, 2010

    Five Key Housing Issues to Watch in 2010

    Posted in the Wall Street Journal by Nick Timiraos:

    The housing market, which brought the economy to its knees in 2008, struggled to recover in 2009. The modest gains of the past year can be credited in many ways to federal support that will be removed at some point in 2010.

    That makes for an uncertain outlook for the year ahead, one filled with questions about what policymakers will choose to do and how markets will react to those decisions. “The can has been kicked down the road,” says Ivy Zelman, chief executive of Zelman & Associates, a housing-research firm.

    Here’s our list of five big issues to keep an eye on in 2010:

    Mortgage rates: The Federal Reserve has kept mortgage rates low for most of 2009 by committing to purchase up to $1.25 trillion in mortgage-backed securities. Mortgage rates stayed at or below 5% for much of 2009 thanks to the Fed’s purchases, which have already been extended once, to March 31. Whether the private market is ready to fill the gap when the Fed exits is one of the hottest debates between economists, investors and analysts. The Mortgage Bankers’ Association says that it expects rates to rise by around one-quarter of a percentage point, but others say rates could jump by as much as a full percentage point. Low mortgage rates helped ignite a fragile recovery in home sales in 2009, and they allowed millions of homeowners (including Federal Reserve Chairman Ben Bernanke) to refinance out of mortgages that might have increased to higher rates.

    Fannie, Freddie and the FHA: Nearly nine in 10 mortgages are now being backed by Fannie Mae and Freddie Mac, the mortgage-finance giants taken over by the government, or government agencies such as the Federal Housing Administration. The future of Fannie and Freddie remains nearly as uncertain now as it was one year ago, but the White House has said it will offer its recommendations on how to remake the U.S. housing-finance infrastructure early this year. The FHA, meanwhile, has suffered from heavy losses that could lead to a taxpayer bailout, and it is set to announce a series of measures in the next few weeks to tighten its standards. The New Deal-era agency, which offers loans with minimum 3.5% down payments, backed half of all sales to first time home buyers during the peak April-June buying period. Needless to say, builders are anxious about the prospect of any tightening of loan standards.

    Loan modifications: The Obama administration launched the most ambitious government effort to date in February to modify loans for troubled borrowers. That program, however, has been off to an underwhelming start because loan servicers, which collect loan payments, have had to rapidly build staff and systems to administer the program. Borrowers who complete three reduced loan payments are eligible for a permanent modification that reduces their monthly payment for up to five years. Through November, some 728,000 borrowers have signed up for trial modifications, but just 31,000 have moved into permanent workouts, or fewer than 5% of those eligible. Loan modification efforts have helped to hold back the supply of foreclosures for sale. The number of seriously delinquent loans continues to climb, so it’s reasonable to expect a pick up this year in distressed sales and foreclosures that hit the market.

    More loan resets: Analysts and pundits have been warning for years about the coming wave of option adjustable-rate mortgages that will jump to sharply higher payments beginning this year. Those loan recasts are concentrated particularly in high-cost housing markets, such as coastal California and other areas where homes became increasingly unaffordable at the height of the housing boom. Meanwhile, more interest-only loans that allowed borrowers to avoid making principle payments for three, five, or seven years will reset to higher payments. Those loans became especially popular among borrowers of jumbo loans, which are too large for government backing and range from $417,000 in most parts of the country to as high as $729,750 in the most expensive housing markets. Many of these borrowers owe more than their homes are worth, leaving them particularly vulnerable to default if they can’t afford the higher payments. That could cause more pain for mid-to-upper end housing markets that began to show more signs of stress in 2009.

    Tax credit and home sales: Sales were fueled in the late summer and early fall in part due to an $8,000 tax credit that had been set to expire in November. Congress has extended that through the first half of next year, but some economists say that the tax credit will steal demand from future months. The tax credit led first-time buyers to compete with investors on lower-priced homes, and prices posted six straight months of modest gains through October, according to the Case-Shiller index, which measures home prices in 20 cities. While it wouldn’t be surprising to see prices tick down again during the winter, when home sales are normally cooler, there’s still a good deal of debate between housing economists and analysts over whether a “double-dip” could lead home prices to fall below the bottom that was set last April. Meanwhile, housing analysts expect to see an uptick in short sales, where lenders allow homeowners to sell for less than they owe on the mortgage.