Judicial 'cramdowns' could roil the markets.

February 19, 2009

Wall Street Journal

By Alan Reynolds

The president's new mortgage-relief plan contains clever elements that might indeed help homeowners. However, the superfluous threat of inviting judges to rewrite contracts must dilute the collateral behind troubled mortgage-backed securities. That, in turn, would jeopardize the endangered capital of banks, pension funds and other holders of such securities, including the Federal Reserve, Fannie Mae and Freddie Mac. The simplest yet arguably most potent part of the strategy is the plan to allow Fannie and Freddie to refinance conforming loans (up to $729,750) without the quaint requirement that the refinanced loan be no larger than 80% of the value of the house. This change provides access to today's low mortgage rates even to "underwater" borrowers -- those who owe more that their houses are worth. Although such borrowers have no skin in the game, President Obama assumes or hopes that their reduced payments will result in fewer defaults. A second part of the plan provides standardized rules for modifying mortgages (obligatory for banks that accepted Troubled Asset Relief Program money). Participating lenders would first have to cut interest rates sufficiently to limit mortgage payments to 38% of gross income -- something more likely for those now paying 39%-40% than for those paying much more. The government would then match further interest-rate reductions to push mortgage payments all the way down to 31% of pretax income. In order to cut mortgage payments to 31% from 38%, $75 billion in taxpayer subsidies will be available to lenders to cover half the cost. Some will pay more in taxes so that others can pay less for housing. This is redistribution based on debt rather than income. The plan also provides small bribes to mortgage servicers and borrowers for every assisted borrower who does not end up defaulting again (a big problem with past loan modification schemes). Treasury would also establish an insurance fund to protect participating lenders if house prices fell further. Subsidizing select mortgages poses a fundamental rationing problem: Demand for subsidies rises to meet the available supply. If Joe and Sally get federal subsidies to cut their mortgage payments to 31% of their income, their neighbors will want subsidies too. To keep the expenses from ballooning well beyond $75 billion, there may have to be stern but arbitrary "means testing" to decide who is most deserving of a taxpayer-supported mortgage. And that will likely provoke resentment about how winners and losers are picked. The third part of the plan is to get Fannie and Freddie to buy more mortgages with the hope of keeping mortgage rates down. Never mind that both organizations were considered insolvent last fall, when they held far fewer dubious IOUs than they do now. The plan instructs the Treasury -- which is also getting skeptical reviews from Moody's -- to invest another $200 billion in Fannie and Freddie preferred shares. Last and least helpful, the president's proposed "cramdown" would "allow judicial modification of home mortgages for borrowers who have run out of options." That would require federal legislation, and Congress would be well advised to put that plan aside in order to give the president's new options a fair chance. Any plan that compels mortgage holders to reduce the amount of money they are owed must in turn reduce the value of mortgage-backed securities held by banks, insurance companies, pension funds, Fannie and Freddie, and the Fed. By injuring the balance sheets of potential lenders, a cramdown would also injure potential borrowers. The needless threat of inviting judges to rewrite mortgage contracts at whim helps explain why bank stocks generally fell on the plan's announcement, while financial shorts rose. In sum, allowing conforming loans to be refinanced without a big equity position seems promising. Trying to bribe lenders to trim monthly mortgage bills to 31% of income would help those lucky enough to get in on the deal before the money runs out. But all of this potential good could be undone by the systemic risks to mortgage-backed securities caused by the unpredictable legal risks of a judicial cramdown.

Mr. Reynolds is a senior fellow at the Cato Institute, and the author of "Income and Wealth" (Greenwood Press, 2006).

Proposal Is Heavy on Incentives to Modify Loans

Challenges Include Dealing With Mortgages Sold to Investors and Borrowers Who Owe Lenders More Than Homes Are Worth

February 19, 2009

Wall Street Journal

By Ruth Simon and Carrick Mollenkamp

In its effort to address the foreclosure crisis, the Obama administration is relying heavily on the carrot rather than the stick. The administration's plan, announced Wednesday, tries to address one of the key weaknesses of previous voluntary efforts by providing financial incentives for mortgage servicers and investors to modify troubled loans. At the same time, it doesn't fully address some issues that have bedeviled previous attempts to fix the situation, including how to boost modifications of loans that were packaged into securities and sold to investors. Some also say it doesn't do enough to encourage reductions in principal for borrowers who owe far more than their homes are worth. One of the hallmarks of the administration's approach is a set of financial rewards designed to encourage mortgage companies and investors to modify delinquent mortgages. Mortgage servicers, for instance, will receive an upfront fee of $1,000 for each eligible modification and "pay for success" fees of up to $1,000 each year for three years if the borrower stays current on the loan. The plan also includes incentives for servicers and mortgage holders to modify loans of borrowers who are at risk of falling behind on payments, for instance because of a loss of income or an interest-rate increase. Borrowers, meanwhile, can receive a principal reduction of $1,000 a year for five years if they stay current on their modified loan. "This is the first real significant step to try to push servicers to modify loans rather than just cheerleading," said Kurt Eggert, a law professor at Chapman University in Orange, Calif. The effort also shares some of the cost of reducing borrowers' monthly payments between the mortgage lender and the government. Some analysts say the administration isn't doing enough to encourage lenders to write down loan balances instead of just reducing monthly payments. Recent studies by Credit Suisse and others suggest borrowers are less likely to fall behind again on their mortgages if both their principal and interest payments are reduced. Housing counselors praised the administration's focus on making loan payments affordable, but say that interest-rate reductions alone may not be enough to help many borrowers. "For about half the clients that come in to us, an interest-rate reduction down to zero" isn't going to save them from onerous debt, said Michael van Zalingen, director of homeownership services at Neighborhood Housing Services of Chicago. For the other half, he said, the Obama plan "could make a huge difference." The plan also relies heavily on government-controlled housing-finance giants Fannie Mae and Freddie Mac to help more borrowers refinance loans, including those whose mortgages are near or exceed the current value of their homes. To help such efforts, the administration has agreed to allow the firms to hold up to $900 billion in mortgages and mortgage-backed securities until next year, and to ease rules that bar them from owning or guaranteeing mortgages for more than 80% of a home's value. But the plan wouldn't help borrowers refinance if their loans aren't already owned or guaranteed by Fannie or Freddie, or if they owe far more than their homes are now worth. Those restrictions could exclude many borrowers in some of the hardest-hit markets, such as California, Las Vegas and Florida, said Chris Mayer, senior vice dean of Columbia Business School. He argues that it wouldn't cost the government more to allow more loans owned or guaranteed by Fannie and Freddie to be refinanced. It also wasn't clear how far the administration's plan will go in pushing mortgage companies to rework troubled loans that have been packaged into securities and sold to investors. Securitized loans are being foreclosed on at a much faster rate than mortgages held by banks, according to a December analysis by Tomasz Piskorski of Columbia University, Amit Seru of the University of Chicago and Vikrant Vig at the London Business School. The Obama administration plans to create uniform guidance for loan modifications. "It's clear that the intent of the government is that it does get adopted by a broad cross-section" of the mortgage market, said Michael Heid, co-president of Wells Fargo Home Mortgage. But "private security holders will still have to agree to the principles that are laid out here." Mr. Heid believes the incentives will help bring investors on board. Other mortgage executives say that may not be enough to spur modifications of large mortgages and other loans that were sold to private investors. "In those private-label securities, servicers still have a problem, particularly without a safe harbor" that would protect them from lawsuits, said John Courson, president of the Mortgage Bankers Association. At least two lawsuits have been filed recently in New York and Connecticut courts by investors who have alleged that mortgage-servicing firms mishandled foreclosures or should bear the brunt of losses in modifying loans. Some investors, meanwhile, say they were disappointed by the announcement. "The whole thing seems like window dressing," said one major bond investor. He worries the program will encourage some borrowers who aren't yet delinquent to seek government help even though they could otherwise afford the payments. The plan also does little to solve a problem that occurs when different classes of mortgage investors disagree on whether a loan should be modified. "The securitization has split the interest in the home loan among so many different parties that it is difficult for servicers to make a modification without fear that some significant party may sue or do something else that hurts the servicers," said Mr. Eggert of Chapman University. One step toward making the latest proposal work, he said, would be enabling bankruptcy judges to modify loans, including those packaged into securities, to reduce principal balances and adjust payment plans. This could prove to be the stick needed to get mortgage investors to agree to modify a loan before bankruptcy-court proceedings begin.

Some Americans, Underwater but Ineligible, Are Riled Up

February 19, 2009

Wall Street Journal

By Nick Timiraos and Michael M. Phillips

President Barack Obama's new foreclosure-prevention plan is already sparking outrage from some Americans who won't qualify for federal aid -- and from those who resent having to foot the bill for those who do. "What do you expect from the government?" said David Newton, 46 years old, proprietor of DJN Management LLC, which owns 232 rental apartments in the Atlanta area. "The government isn't out there to help people who obey the law and follow the rules." Mr. Obama "told everybody, 'I'm going to spread wealth around,' and that's what he's going to do," Mr. Newton said. WSJ's Nick Timiraos talks to Kelsey Hubbard about the $75 billion being spent to help the housing sector. Timiraos explains who the money will benefit -- and who will be left out. The housing plan, which President Obama outlined Wednesday in Phoenix, will allow homeowners who have little or no equity to refinance their homes, something that has been nearly impossible to do under current rules. It also establishes standards for government-subsidized loan modifications for borrowers in subprime loans and endorses a provision that would allow bankruptcy judges to reduce the principal on primary residences. While real-estate professionals applauded the refinance provisions, which the White House says could help four million to five million homeowners, lots of borrowers wouldn't be eligible. For example, the refinance provision is limited to borrowers whose mortgages are owned or securitized by Fannie Mae or Freddie Mac, the government-backed mortgage companies. That essentially shuts out wealthy borrowers who would like to refinance but can't because they own expensive homes financed with so-called jumbo mortgages, which are too large to be owned by Fannie Mae and Freddie Mac. Steve Rosenberg, a 44-year-old institutional stock broker in Chicago, has been trying to refinance his $815,000 option adjustable-rate mortgage for months. But his bank is requiring him to put an additional $150,000 of equity into his home, something he is reluctant to do because his income has been cut in half over the past year. For jumbo borrowers, he said, the government's message is, "You're on your own." Mr. Rosenberg saw little consolation in the president's initiative. "The only recourse I will have is a bankruptcy judge." Congress has endorsed a provision that would allow bankruptcy judges to modify all types of loans. The White House's proposal would limit such write-downs to existing mortgages under Fannie Mae and Freddie Mac loan limits. Some borrowers in hard-hit markets say they also are excluded. That is because the foreclosure-mitigation plan allows borrowers with little or no equity to refinance a first mortgage for up to 105% of the property's current market value. For some affluent borrowers heavily underwater in markets like California, that isn't enough. "We can afford to make our payments, so no one is going to help us," said Jill Wong, who has watched the value of her Modesto, Calif., home drop to around $350,000, from the $605,000 she paid four years ago. That wiped out her 20% down payment and has left her with a mortgage that has a 125% loan-to-value ratio. Ms. Wong said she is considering walking away from her current residence since she doesn't expect that the home will ever recover its value. "What's to stop me?" she said. "Years ago you would have thought it was immoral." The housing measures have also upset a range of homeowners who say they shouldn't have to subsidize those who bought more than they could afford. "We've lived a conservative life," said Tim O'Brien, 61, a retired CPA from Los Angeles. "We've paid our house off and saved our money, so you kind of find yourself on this issue not agreeing with everything." Mr. O'Brien believes that Mr. Obama's approach will prove inflationary -- a hardship for those, like him, on fixed incomes. "It's kind of like they've chosen the bloc they want to support with the packages and we're going to end up paying for a lot of it through the losses we've suffered in the market and through inflation over the next 10-15 years," he said as he worked on a project restoring an 80-year-old, two-masted wooden schooner. The White House says even those who don't benefit directly could benefit indirectly if the effort boosts the housing market and lifts the economy. Brenda Gilchrist said she feels like she is being punished twice, first by watching foreclosures depress the value of her three-bedroom condominium in Santa Rosa, Calif., and now by subsidizing borrowers who bought more than they could afford. The price of her condo has fallen to the mid-$300,000 range, down so far from the $510,000 that she and her husband paid for it four years ago that their 20% in equity is gone. She said they decided to buy a less expensive home even though they had qualified for a $1 million loan. "We said, 'Absolutely, no way.' We chose to buy within our means," said Ms. Gilchrist, a 39-year-old managing partner of a human-resources firm. "The 'good guys' are getting a raw deal," she said. Jim Stoll, 67, of Stafford, Va., said tax cuts would be more equitable. "I look at all the spending in this bill, and I don't see it going to the normal taxpayer," said Mr. Stoll, who spent 26 years in the Marine Corps and an additional 16 in civil service. "If they have to spend money, then it would be easier to put it in consumers' pockets and let them do with it what they will," he said. Others are skeptical that the plan will work. "Twelve months down the road they're going to say, 'We're going to need to throw another $50 billion at the problem,' " said Mr. Newton, the Atlanta property owner. "They should just foreclose on the properties, auction them off on the courthouse steps and see who buys them."

Foreclosure Plan Getting High Marks for Scope

February 19, 2009

American Banker

By Cheyenne Hopkins and Emily Flitter

WASHINGTON — The Obama administration did not make the same mistake twice. A week after being hammered for offering a bank assistance plan that lacked details, the administration unveiled a sweeping and detailed plan Wednesday to prevent millions of foreclosures. It includes just about every suggested solution: loan guarantees, greater incentives to lenders and servicers, and expanded use of the government-sponsored enterprises. It even included a stick to go with the carrots: a bigger push for legislation to let judges rework mortgages in bankruptcy. "If this doesn't work, nothing will," said Karen Shaw Petrou, the managing director at Federal Financial Analytics Inc. "We've tried a lot of other half solutions that were quibbled and nibbled at … , and we've wasted a year and a half. This needed to be really big and far-reaching, and I think this plan is." No one — not even President Obama — claimed the plan would be a cure-all. "This plan will not save every home," Mr. Obama said in his Wednesday speech in Mesa, Ariz., to unveil the plan. But it was a large step ahead from the previous administration, which relied solely on voluntary efforts and resisted greater government intervention to save homes. The administration estimated its plan could help 7 million to 9 million homeowners — including 4 million to 5 million borrowers whose mortgages are worth less than their homes and 3 million to 4 million others who are at imminent risk of foreclosure. The plan was bigger — and more costly — than expected. The administration said it would spend $75 billion to create a Homeowners Stability Initiative and double its funding commitment to the government-sponsored enterprises, to $200 billion each. The plan was originally projected to cost $50 billion. Industry observers largely welcomed the plan, agreeing it would go far to avoid foreclosures, but some were already suggesting it needed to go further. Questions remained whether the plan's incentives would be enough to encourage servicer participation, whether certain borrowers would be left out, and whether a five-year interest rate reset included in the plan is sufficient. "There are significant groups of borrowers who are not addressed by today's announcement," said Josh Denney, an associate vice president of public policy at the Mortgage Bankers Association. Mark Zandi, the chief economist and co-founder of Moody's Economy.com Inc., said the plan "will help but it won't solve the problem." "Foreclosures will still rise this year; they just won't rise as much as if they didn't have the plan," he said. "I just don't think it's big enough and bold enough to solve the problem quickly." The plan's centerpiece appears to be the Homeowners Stability Initiative, which is designed to help borrowers who have defaulted on their mortgages or are at imminent risk of default. Under the initiative, the Treasury Department is to partner with lenders to reduce loans' monthly payments to no more than 38% of a borrower's income. After that, the government is to match further reductions dollar-for-dollar to bring payments down to a 31% debt-to-income ratio. Lenders are to keep the modified payments in place for five years; after that, interest rates may be gradually increased. Lenders may also choose to reduce mortgage principal, with the Treasury sharing in the cost. The government will also allow an additional 4 million to 5 million currently ineligible homeowners who got mortgages through Fannie Mae or Freddie Mac to refinance their loans at lower rates. This will be targeted at borrowers who owe more than 80% of the value of their homes. But critics said the plan leaves out borrowers who were seriously delinquent and those that had jumbo loans. "It doesn't seem that it provides enough initial relief for people who are at the edge or following the edge at this point," said Gil Schwartz, a partner at Schwartz & Ballen. For example, the Treasury caps assistance to borrowers at a loan-to-value ratio of 105%. Mr. Denney of MBA said many borrowers in Florida, California, and Nevada would not qualify. Some consumer advocates also said a five-year time frame would not work, arguing that the modified loans should be fixed for a longer period. "You're setting the borrowers up to fail again. This is what got us into trouble in the first place," said Bruce Marks, the chief executive officer of Neighborhood Assistance Corporation of America. The plan is designed to offer a national standard for loan modifications and give incentives to lenders, servicers, and borrowers. Under the plan, banking regulators must offer loan modification guidance by March 4, and any institution getting Troubled Asset Relief Program funds in the future must comply with it. The guidance aims to provide servicers protection from investor lawsuits, but several said it did not go far enough, and a change in the law is needed. The plan would provide a $1,000 fee to servicers for each modification meeting the regulators' modification guidelines. Servicers will also get "pay for success" fees monthly as the borrower stays current on the loan — up to $1,000 a year for three years. The government will also provide an incentive payment of $1,500 to mortgage holders and $500 to servicers for modifications made while a borrower at risk of imminent default is still current. Despite the breadth of incentives, it was unclear whether it was enough to entice the industry. "Will investors pick it up?" asked Scott Talbott, senior vice president of government affairs at the Financial Services Roundtable. "It's a voluntary program and provides thousands of dollars to servicers. Is that enough?" The administration said it has also developed a $10 billion partial guarantee program with the FDIC to discourage lenders from foreclosing on mortgages that could be viable out of fear that home prices will fall even further later. Further details were not immediately released, though it appears to differ from a proposal offered by FDIC Chairman Sheila Bair last year. That plan called for offering guarantees of up to 50% if lenders agreed to a systematic modification and the new loan defaulted after six months. Under the new plan, Treasury will give a 50% partial guarantee for loans modified through the initiative to be paid if home prices depreciate. Mr. Schwartz estimated the new program may benefit lenders. "You'd probably have steeper declines under this program and more people who would qualify," he said. "That's not necessarily bad. It just costs more."

$275 Billion Plan Seeks to Address Housing Crisis

February 19, 2009

New York Times

By Sheryl Gay Stolberg and Edmund L. Andrews

MESA, Ariz. — President Obama announced a plan on Wednesday to help as many as nine million American homeowners refinance their mortgages or avert foreclosure, saying that it would shore up housing prices, stabilize neighborhoods and slow a downward spiral that was “unraveling homeownership, the middle class and the American Dream itself.” The plan, which was more ambitious and expensive than many housing analysts had expected, drew praise from consumer advocates as well as the financial industry. It could ultimately cost taxpayers as much as $275 billion — $75 billion in direct spending to keep people in their homes and the rest in additional financial backing for the government-controlled mortgage giants, Fannie Mae and Freddie Mac. But analysts and administration officials alike cautioned that it would not come close to halting the tidal wave of foreclosures. Nor would it provide much help to millions of homeowners who are “under water,” or holding mortgages that are bigger that the market value of their houses. “This plan will not save every home, but it will give millions of families resigned to financial ruin a chance to rebuild,” Mr. Obama told a crowd here, in one of the communities hardest hit by the housing crisis. “It will prevent the worst consequences of this crisis from wreaking even greater havoc on the economy. And by bringing down the foreclosure rate, it will help to shore up housing prices for everyone.” Almost one in 10 home mortgages is either delinquent or in foreclosure, and analysts estimate that at as many as six million families could lose their homes over the next three years in the absence of government action. The plan has three components. The first would help homeowners who are still current on their payments, but who are paying high interest rates and cannot refinance because they do not have enough equity in their homes, a problem afflicting growing numbers of people as housing values tumble. A second component would assist about four million people who are at risk of losing their homes. It would provide incentives to lenders who alter the terms of loans to make them affordable for the troubled borrowers. A third component would try to increase the credit available for mortgages in general by giving $200 billion of additional financial backing to Fannie Mae and Freddie Mac. Beyond luring lenders with government money, the plan also calls on Congress to give bankruptcy judges the power to change the terms of mortgages and reduce the monthly payments. The banking industry has vehemently fought that proposal for more than a year, saying it would make investors unwilling to finance future mortgage lending. But Democrats in Congress strongly support the idea and banking executives are putting up less resistance than before. Republican lawmakers reacted cautiously to Mr. Obama’s plan. Representative John Boehner of Ohio, the House Republican leader, called it “an important step,” but raised questions. “Does your plan compensate banks for the bad mortgages they should never have made in the first place?” Mr. Boehner asked. “Will individuals who misrepresented their income or assets on their original mortgage application be eligible to get taxpayer-funded assistance?” Mr. Obama’s announcement came a day after he signed his $787 billion economic stimulus package, and administration officials said that the initiatives would work in tandem to stabilize the economy. The plan will take effect March 4, when the administration publishes detailed rules explaining it. Except for the provision that empowers bankruptcy judges, almost all the other elements can be enacted by Mr. Obama without further action by Congress. To help the estimated four million homeowners in danger of foreclosure, Mr. Obama will create a $75 billion program to subsidize loan modifications that would reduce a family’s monthly payment to as little as 31 percent of its gross monthly income. As envisioned, a mortgage lender would have to first make enough concessions to reduce a borrower’s payments to 38 percent of monthly income. To encourage lenders, the government would offer incentives, like a $1,000 upfront payment for every loan modified and more payments if the borrower stays current. If the lender gets the monthly payments down to 38 percent of the borrower’s monthly income, the government would then match, dollar for dollar, additional reductions to bring the payment as low as 31 percent of monthly income. The changes could be accomplished in several ways, from stretching out the repayment period of a loan to reducing the interest rate or reducing the outstanding principal. But analysts noted that lenders, or the mortgage-servicing companies that administered the loan, would still have the last word on whether to make concessions. If a lender decides that the cost of the concessions is higher than the cost of foreclosing, even with the government subsidies, then a borrower would probably still lose the property. A potentially big limitation on the rescue portion of Mr. Obama’s plan involves second mortgages. To avoid the need for a down payment, or to minimize the down payment, millions of people bought homes with piggy-back mortgages that went alongside the primary mortgages. Administration officials said on Wednesday that their plan to help homeowners facing foreclosure did not deal with second mortgages. Because those second mortgages were often made by a different lender than the first mortgages, that could greatly complicate negotiations over a loan modification. To help homeowners who can still keep up with their payments, but who may resent the idea of rescuing others, Mr. Obama’s plan would make it easier to refinance at today’s very low interest rates. The plan would apply to people with fairly traditional loans that are owned or guaranteed by Fannie Mae and Freddie Mac — about 30 million homeowners. The new loans would not be subsidized, but borrowers would not need to have a 20 percent equity stake in the house. Normally, Fannie Mae and Freddie Mac require that such borrowers pay private mortgage insurance, which can add hundreds of dollars to a monthly payment. Administration officials estimated that this portion of the plan could help 4 million to 5 million borrowers. The big limitation of the refinancing portion of the plan is that it would not help most borrowers who are current, but under water. It would only be available for mortgages that are not more than 5 percent above the current market value of the house. Mark Zandi, chief economist at Moody’s Economy.com, estimated that the plan would help less than a million of the 14 million homeowners who are under water. A third, more vague component of the plan is aimed at propping up the mortgage market as a whole by having Fannie Mae and Freddie Mac step up their purchases of mortgages and mortgage-backed securities.

Pipeline

A roundup of credit market news and views

February 19, 2009

American Banker

By Allison Bisbey Colter

Eye on Refis

Refinancing activity picked up again last week as mortgage rates slipped below 5% for the first time in nearly a month. The Mortgage Bankers Association said Wednesday that its index of refi applications shot up 64.3% last week, while its index of applications for loans to buy homes rose 9.1%. The refi share of mortgage activity increased 7.5 percentage points, to 74.2%, the MBA said. The average contract interest rate for a 30-year fixed-rate mortgage decreased 20 basis points, to 4.99%, the trade group said. The refi index "has been on a roller coaster for the past month, posting double-digit … [week-over-week] percentage changes as applications reacted very strongly to small movements in mortgage rates," mortgage-backed securities analysts at Barclays PLC's investment bank in New York wrote in a note to clients Wednesday. "This suggests that prospective refinancers are searching for the best entry point and could potentially reapply if rates fall below a previously locked-in mortgage rate." Mortgage Maxx LLC said Wednesday that its index of eight bellwether states, including both purchase and refi applications, fell 0.6% last week. The Ossining, N.Y., company's index of California applications rose 2.8%. With Treasury prices "trending lower of late, and the Fed's MBS purchases yielding no significant breakthrough in mortgage affordability, application activity remains well below year-ago levels," Mortgage Maxx said. It noted that the President's Day holiday will cause the index to decline in real terms this week.

Buyback Warning

Freddie Mac has put lenders on notice that it can make them repurchase any mortgage deemed "high-cost" under state or federal antipredator laws, even if the loan's terms are amended to escape the designation. Certain state measures, such as those in New Jersey and Georgia, contain so-called cure provisions that let lenders make such amendments under certain circumstances. Regardless, Freddie told lenders last week that if it inadvertently buys a high-cost loan, "such a mortgage is subject to repurchase by the seller." Both Freddie and Fannie Mae have been forcing more lenders to buy back loans as the government-sponsored enterprises step up reviews for underwriting problems to counteract mounting delinquencies on the loans they hold or guarantee. Freddie's warning last week was part of additional guidance it issued after reviewing the results of on-site quality control inspections conducted at sellers and servicers over the past few months. It will not buy mortgages if the points and fees exceed 5% of the loan amount. (Points and fees on mortgages of $20,000 or less can be no more than $1,000.) The policy applies to mortgages secured by primary residences in any state, whether they are being purchased or refinanced, but not to investment properties or second homes. The points and fees that count toward the 5% threshold include origination fees, underwriting fees, broker fees, and finder's fees, as well as charges that are imposed as a condition for making the mortgage and are paid to the seller or a third party. They do not include bona fide discount points; charges for actual services rendered, such as attorney fees, notary fees, and fees for appraisal, credit reports, title examination, and home inspection; credit-risk price adjustments; the cost of title, hazard, and flood insurance; state and local transfer fees; tax and insurance premium escrow deposits; and miscellaneous fees that do not exceed 0.25% of the mortgage.

Facing Facts

Homeowners' perceptions of the value of their own homes moved more in line with reality at the end of last year, according to Zillow Inc. More than half (57%) of homeowners polled in the fourth quarter by the Seattle real estate information company said they believe their own home lost value during the year. In a similar poll Zillow conducted in the second quarter, 38% of respondents said their home's value was declining. In reality, 76% of all U.S. homes lost value last year, according to data collected by Zillow. As a result, the company's index measuring the gulf between homeowner perceptions and actual values shrunk to 10 in the fourth quarter, from 16 in the third quarter and 32 in the second quarter. (An index of zero would mean homeowners' perceptions were in line with actual values.) "It's clear that the 'not my house' sentiment that was so prevalent in earlier surveys is waning," said Stan Humphries, Zillow's vice president of data and analytics. When asked what the near future will bring for their homes, most homeowners expressed optimism that the worst may be over. According to the fourth-quarter survey, 70% of homeowners say their home's value will either increase or stay the same in the first six months of this year. Unfortunately, Mr. Humphries said, the data tells another story. With year-over-year losses continuing to accelerate, he expects housing values to drop further in most areas of the country before they begin to stabilize.

'Show Me the Note'

Troubled homeowners across the nation are taking the advice of Rep. Marcy Kaptur, D-Ohio, and trying to stave off foreclosure by exercising squatters' rights. The Association of Community Organizations for Reform Now unveiled a broad civil disobedience campaign at a Brooklyn, N.Y., church last week and plans to roll it out in at least 22 other cities in the coming weeks, according to The New York Times. The campaign will use phone trees, Web pages, and text-messaging networks to connect families facing eviction with volunteers who will stand at their side as officers arrive, even if it means risking arrest. "You want to haul us out to jail? Fine. Let the world see how government has been ineffective," Bertha Lewis, Acorn's chief organizer, told the Times. "Politicians have helped banks, but they haven't helped families in the way that it's needed, and these families are now saying, 'Enough is enough.' " Other homeowners are having some success with another tactic Rep. Kaptur has advocated: persuading judges to compel the production of loan documents. According to a report this week by the Associated Press, Chris Hoyer, a Tampa lawyer, has played a major role in promoting the produce-the-note strategy through his Consumer Warning Network Web site. "We knew early on that the only relief that would ever come to people would be to the people who were in their houses," Mr. Hoyer told the AP. "Nobody was going to fashion any relief for people who have already lost their houses, so your only hope was to hang on any way you could." Judges are often willing to accept electronic documentation, and lenders are sometimes allowed to produce other paperwork to establish they are the holder of a loan. Still, assembling such documents to a judge's satisfaction can buy homeowners some time. That may be all they need if the foreclosure prevention plan the Obama administration unveiled Wednesday proves effective.

Quotable …

"There's no A, R, or P in Tarp. The 'asset relief program' has yet to occur."

— Richard Davis, the chief executive of U.S. Bancorp, at a Thrivent Financial for Lutherans conference Tuesday in Minneapolis.

Oppenheimer's Whitney Exiting to Start Own Firm

February 19, 2009

Wall Street Journal

By Susanne Craig

Oppenheimer & Co. stock-research analyst Meredith Whitney, one of the few people to have built a positive reputation on the back of the credit crisis, is leaving the brokerage firm to set up her own company. The 39-year-old Ms. Whitney said her venture will provide stock research, largely on financial firms like Citigroup Inc. and Morgan Stanley, to institutional clients that will pay for the information. She is taking a small team with her from Oppenheimer, a New York unit of Oppenheimer Holdings Inc., and hopes to branch out into investment banking and other areas. Meredith Whitney Advisory Group LLC will be launched in early March with 10 employees, and Ms. Whitney wants to double that number within six months of operation. She has been an analyst at Oppenheimer since 2004 and was at Wachovia Corp. before that. "There has been a massive disruption in the marketplace, and that creates massive opportunity and I want to be a participant rather than a bystander," she said. Ms. Whitney first gained attention on Wall Street by correctly predicting in late 2007 that Citigroup would need to raise lots of capital, possibly through a dividend cut. The report was criticized at the time, and she received threatening emails following its publication. Ms. Whitney made a number of other prescient predictions, including correctly forecasting larger-than-expected losses and capital raises at Merrill Lynch & Co., now owned by Bank of America Corp. A report she called her favorite, titled "Ring of Fire," was published in November 2007 and showed that changes in how ratings firms rate certain securities, including mortgage assets, would require banks to raise more capital. She followed that with sequels on the same issue. "I was surprised that more analysts didn't run with the theme because it has been such a critical issue in this current environment," she said in an interview Wednesday. At a time when Wall Street is being vilified for its culpability in the financial crisis, Ms. Whitney's calls have made her a celebrity of sorts, and she is a fixture on business television shows. She also is known for her outgoing personality. At one analysts' gathering at a Western-themed bar in Manhattan, Ms. Whitney was the only person to ride the mechanical bull. Despite her stature as an analyst, she still isn't as widely known as her husband, John Layfield, a professional-wrestling bad guy who uses the ring names John "Bradshaw" Layfield and JBL.

Dukes of Moral Hazard

Re-default rates are 55% after six months.

February 19, 2009

Wall Street Journal

REVIEW & OUTLOOK

President Obama yesterday announced his plan to prevent home foreclosures, saying he wanted to be "very clear about what this plan will not do: It will not rescue the unscrupulous or irresponsible by throwing good taxpayer money after bad loans . . . And it will not reward folks who bought homes they knew from the beginning they would never be able to afford." We really do wish he were right. In fact, the details released yesterday suggest the President's plan will do all of the above. The plan will help some struggling homeowners. But by investing in failure, the Administration will also prolong the housing downturn and make financing a home purchase more difficult for future borrowers. Meanwhile, the plan isn't likely to slow the continuing decline in housing prices. Let's focus on the plan's effect on the individual borrower. Anyone with mortgages owned or guaranteed by Fannie Mae and Freddie Mac will be able to refinance to lower rates if his mortgage is between 80% and 105% of the value of the home. This is a sweet deal that is not available, for example, to many renters looking to buy homes now. Sadly for those who deferred the gratification of homeownership, the 20% down payment has now become industry standard. But at least their taxes will allow other people to stay in homes they can't afford. Existing borrowers who may not qualify for Fan/Fred refinancing can still receive loan modifications that move their mortgage payments down to 31% of monthly income. In either case, no effort will be made to verify that recipients of aid were truthful on their original mortgage applications. Given that mortgage fraud skyrocketed during the housing boom, and that the Obama Administration intends to assist up to nine million troubled borrowers, we can say with certainty that the unscrupulous will be among those rescued. Going forward, it will be up to lenders to verify income. Getting this number correct is critical to the government's hopes for the plan. That's because, if pending Treasury guidelines follow the Federal Deposit Insurance Corp. model on which they are based, new modifications will forgo extensive underwriting. The FDIC believes that a lot of the normal research that goes into making a loan or a refinancing decision can be skipped as long as the mortgage-debt-to-income ratio can be moved, even if only for a few years, down to that magic number of 31%. So the government will pay loan servicers $1,000 for each mortgage modified, share the cost of lowering the monthly payments and pay other subsidies to lenders and borrowers -- adding up to $75 billion in taxpayer assistance for modifications. The government will then spend another $10 billion compensating lenders if the housing market continues to decline and some of these loans go bad again. Will $10 billion be enough? The recent history of mortgage modifications isn't encouraging. According to the December report by the Comptroller of the Currency and the Office of Thrift Supervision, "The number of loans modified in the first quarter that were 30 or more days delinquent was 37 percent after three months and 55 percent after six months. The number of loans modified in the first quarter that were 60 or more days delinquent was 19 percent at three months and nearly 37 percent after six months." Said Comptroller John Dugan, "One very troubling point is that, whether measured using 30-day or 60-day delinquencies, re-default rates increased each month and showed no signs of leveling off after six months and even eight months." Those who favor Mr. Obama's plan say that many of these modifications haven't lowered monthly payments the way the new plan does. True, and the more taxpayer dollars are spent subsidizing a particular borrower, the more affordable a loan becomes. But in part to avoid putting an astronomical price tag on this plan, the Administration doesn't necessarily fix loans for the long term. In fact, the program encourages mortgage servicers to keep the payments low only for five years, after which rates will rise. During the housing bubble, these were called "teaser" rates. Modifications also may extend the term of, say, a 30-year mortgage to 40 years, but still leave the borrower underwater. Research at Credit Suisse suggests that borrowers without equity are not a good bet to stay current. What research cannot answer is how many people will seek assistance when they are told that a new federal program is available to cut their mortgage bill. Mr. Obama's mortgage plan is his third big economic rescue proposal in a month, and perhaps someone in the White House has noticed that financial markets haven't exactly cheered. Yesterday's end-of-day wrap from UBS put it this way: "Obama Speaks, Market Listens, Sells Off." What investors, businesses and working Americans want to hear is a President with ideas to spur economic recovery. What they've been getting are plans for a long national Chapter 11 workout.

Fed Chief Rejects Nationalization, Defends Actions

February 19, 2009

American Banker

By Stacy Kaper

WASHINGTON — Federal Reserve Board Chairman Ben Bernanke said nationalizing banks would be a mistake, drawing distinction Wednesday between his position and comments made this week by his predecessor, Alan Greenspan. In a speech to the National Press Club, the current Fed chief also defended his role in determining which institutions have been saved by the government and which have been allowed to fail. In contrast with Mr. Greenspan's comment this week that "nationalization could be the least bad option," Mr. Bernanke said it was untenable. "As a general rule, it's very challenging for governments to manage banks for protracted periods," he said in answer to a question. "An additional problem when you have a government running an institution is that you begin to lose the franchise value, so that the counterparties and others don't want to deal with you, because they don't know the future." Noting that the government already has a big stake in a number of large financial institutions, Mr. Bernanke said, "I think there is a very strong commitment on the part of the administration to try and return banks to private hands as quickly as possible." Regarding the Treasury Department's stress-test plan for gauging the health of banks, Mr. Bernanke said Secretary Tim Geithner would design the details. However, "what we want to do is assure ourselves that under stress conditions, conditions worse than the current conditions, that banks have adequate capital, adequate capital not only to be stable, but also to lend and complete economic recovery," Mr. Bernanke said. "So in this first stage, the analysis of the stress test … [will be] diagnostic to figure out what's needed." Fed chairmen rarely open themselves up to the sort of free-for-all questioning that accompanies a National Press Club speech, and Mr. Bernanke was grilled about everything from a December conversation with Kenneth Lewis, Bank of America Corp.'s chief executive, to why Lehman Brothers was allowed to fail. B of A's deal for Merrill Lynch & Co. Inc. was too far along to pull the plug, Mr. Bernanke said. "There was very little time left. We did not see any realistic legal ways [for B of A] to break the deal." In addition, scuttling the deal could have further destabilized fragile markets, he said. When asked whether not saving Lehman was a mistake, Mr. Bernanke took issue with the tone of the question, saying the word "mistake" implies there was a "choice or option." There was no buyer, and the $700 billion Troubled Asset Relief Program had not yet been created, he said, so there was no way regulators could prevent Lehman's collapse. "We did everything we possibly could to prevent the failure of Lehman Brothers. I have said from the very beginning of this crisis that is essential not to let large, systemically important institutions fail, and in the beginning when we helped Bear Stearns, … Congress and many others said, 'Let it fail.' … And I think we knew better than that," Mr. Bernanke said. "We made every possible effort. Unfortunately, the situation with Lehman was neither like Bears Stearns nor AIG. In the case of Bear Stearns, we had an acquirer. … In the case of Lehman, we had some interest … but in the end, no buyer was available." In addition, "we need to address the issue of 'too big to fail,' which is a major problem," he said. "One way to do that is to allow a resolution regime that allows the government to come in and be able to deal with it in a systematic way." Mr. Bernanke reiterated the need for policymakers to address the failure of systemically important institutions, and continued to tout the Fed's emergency efforts to pump liquidity into the system.

Merrill Execs Heading UMA Platform at B of A

February 19, 2009

American Banker

By Matt Ackermann

When Bank of America Corp. acquired Merrill Lynch & Co. Inc., it gained a stronger unified managed account platform than its own and a team of executives well versed in UMAs. Now the Merrill contingent is leading the development of the platform. Jon Goldstein, a spokesman for B of A, said Mitch Cox, who headed global investment solutions at Merrill, will manage the Charlotte company's global wealth and investment management's complete investment product suite, including unified managed accounts. Mike Perry, who also worked at Merrill, will report to Mr. Cox and run managed accounts and managed account platforms, Mr. Goldstein said in an interview last week. Analysts said it makes sense for Merrill to take the lead. Christopher Davis, the president of the Money Management Institute, said Merrill has been offering UMAs for years, but B of A, which had $35 billion in fee-based assets under management before buying Merrill, started its UMA program two years ago. "Bank of America is a leading bank and a huge presence in the industry," Mr. Davis said. "And this merger with Merrill, which has an established UMA program and a huge group of financial advisers, will benefit their UMA business tremendously." He said B of A is "well positioned to take advantage of growth in the UMA business because of their brand and their resources." Dan McNamara helped build Bank of America's UMA platform, but he will not be part of the next phase. He was among a group of wealth executives B of A fired this month. Mr. Goldstein said "these decisions are part of an ongoing series of leadership announcements made as Bank of America goes through the process of integrating with Merrill Lynch." Mr. McNamara said B of A is serious about unified managed accounts. "A lot of people see UMAs as a product, but it is a platform that gives folks the opportunity to break down product walls and provide clients an efficient way to diversify their portfolio," he said in an interview last week. "Both Merrill and Bank of America realize this. The UMA is still in its early stages, but both organizations are committed to it." As one of the executives selected to lead the transition of investment products, he was paired with an executive from Merrill. "We spent days working together and finding ways to bring these UMA platforms together," he said. "They had also been looking to use the UMA platform as the primary way to deliver investment solutions to customers. So, philosophically we were very much aligned." Because the two companies agreed on so much about the UMA platforms, he said, by mid-November "we hit a point where we couldn't execute further until we had leadership named." Mr. McNamara, who ran Wachovia Securities' managed account unit before joining B of A in 2001, said he "expected to stay with" the bank. "Usually when you are put on a transition team it is a good sign. I had very, very positive conservations with senior-level people and was hopeful about my future with the company." Mr. McNamara said he had been through 10 acquisitions during his career and "thought everything was going to be OK," because this one "was the easiest merger that I have ever been a part of," he said in an interview last week. Then he got a call from Keith Banks, the president of the bank's global private client services group, telling him he was out of a job. Mr. McNamara said it was ultimately a "lack of sponsorship" that cost him his job. "I was challenged at the bank, because in my seven years here I reported to seven different people," he said. "Continuity of leadership is important." Mr. McNamara said B of A was developing a program with its private banking arm, U.S. Trust, to deliver all of its investment products to high-net-worth clients through its UMA platform. He said he expected the program eventually would be used for all of B of A's investment customers. "Over time, they will get there," he said. "The next step is to provide a holistic view to local portfolio managers and to add alternative asset management capabilities to the portfolio." Mr. McNamara estimated the integration of the B of A and Merrill UMA platforms will take 18 to 24 months. "Down the road, the organization will be in phenomenal shape, and UMAs are part of the strategy," he said. "It will be a tough road to get there, but they are well positioned to be a leader." Mr. Goldstein said it is too early to determine what the company's strategy will be in any of its investment product lines. Mr. Davis said with $8 trillion to $12 trillion in cash on the sidelines and investors demanding well-diversified investment products and services, unified managed accounts will be essential for any bank that wants to develop its assets under management. Mr. McNamara said he will take his time before committing to his next job. He said he expects opportunities at small and midsize banks. "I definitely want to stay on the traditional investment side," he said. "I know that this is not the ideal environment to be hunting for a job, but there will be catalysts that provide opportunities." Unified managed accounts "are still the fastest-growing products from a percentage basis in this industry," he said. "We were starting to see a lot of success at B of A, and this product is not going to stop just because my time there has ended."