We wrote earlier this week that the subprime relief deal orchestrated by the Administration was an effort to forestall a bill sponsored by Democrats that would, among other things, give judges the ability to change some mortgage terms in consumer bankruptcies.
Elizabeth Warren at Credit Slips confirms this view in her assessment of the subprime plan. Warren discussed in an earlier post how lenders recognize the so-called “hostage value” of the house borrowers live in, and will be willing (if they can) to pay more than it’s worth. Remember, the plan focuses only on borrowers that have less than 3% equity in their residence, which effectively means they have no equity or negative equity.
Even though Warren is proponent of the bankruptcy bill, and we agree that it is a better solution than either the status quo or the Bush plan, it’s important to recognize it is the best of not-so-hot options. Declaring bankruptcy is stressful, costly, disruptive, and leaves the consumer with access only to expensive credit until the bankruptcy rolls off his credit record seven years later. The flip side is that those factors mean the system is unlikely to be abused despite Republican dogma to the contrary.
From Credit Slips:
I’ve been struggling to understand the real point of the Administration’s headline-grabbing plan to deal with subprime mortgages. …..I can’t quite figure out what the plan accomplishes that the lenders couldn’t do without the plan–if they were in a mood to deal fairly with borrowers, acknowledge their losses, and start cleaning up the mess before it takes down the whole economy. So why trumpet a plan that doesn’t do anything? CongressDaily (no link) found the answer: “‘Totally will sandbag the bankruptcy stuff,’ one lobbyist said of the White House announcement.” So that’s what the plan is designed to accomplish–kill off the bankruptcy proposal to deal with home mortgages.
In a piece entitled, “Bankers Hope Bush Subprime Plan Will Scuttle House Bill,” CongressDaily reports that “the mortgage industry hopes a White House plan designed to aid subprime borrowers at risk of losing their houses will help scuttle congressional efforts to refashion mortgages through the bankruptcy code. . . The announcement comes as Congress moves ahead with plans to make it easier for bankruptcy judges to refashion home mortgages that are on the verge of foreclosure — legislation bitterly opposed by the housing industry. Bankers said they hope to use the White House approach as a prime example of why the bankruptcy legislation should not move forward, emphasizing that a voluntary effort can cover many of the estimated 2 million subprime loans that are scheduled to reset to higher rates over the next two years.”
Bankers evidently dislike the bankruptcy proposals because they give borrowers some real power: they can write down the mortgage to the value of the property, and they can rewrite the mortgage into a fixed instrument. “Voluntary,” according to the banks, is much better.
Of course, if the bankruptcy laws changed, the negotiations outside bankruptcy would change too. If families had the option to declare bankruptcy and cut the mortgage down to the size of the property, some mortgage servicers might start returning homeowner’s phone calls and talking over other options.
Bankruptcy can’t fix the whole subprime problem, and it is not a perfect solution even for those who would be helped. Families have to be in really bad shape to go bankrupt, and many will resist either because of the stigma or because they won’t qualify for relief. But bankruptcy could help some of the families hit hardest. It would also move this crisis through the system faster. If a bankruptcy court determines that the family can’t afford the home even with a decent mortgage, then they will have to give it up. A bankruptcy amendment will not put off the day of reckoning. It will help move toward a more stable (and more realistic) housing market faster.
So the administration’s subprime mortgage plan is the bank lobby’s dream. “Totally will sandbag the bankruptcy stuff.” And totally sandbag American homeowners and would be homeowners.
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I came to this conclusion too.
The bankruptcy bill focuses on the wrong thing: cramdown will have only minimal effect except in places where values are dropping significantly (more than 15-20%). Freezing the rate/payment works better for most. Yes, many are in trouble with their current rate, but bankruptcy can deal with those issues too. Last point: on average, the impact on credit available and cost by bankruptcy is all but gone in 3-4 years….
Re: The announcement comes as Congress moves ahead with plans to make it easier for bankruptcy judges to refashion home mortgages that are on the verge of foreclosure — legislation bitterly opposed by the housing industry.
Dont forget that the banking industry is in favor of continuing to expand the muni bond market and thus dream up new investment vehicles for the local government pools (LGIPs):
Re:
Paulson told a national housing forum that Congress should authorize state and local governments to broaden their tax-exempt bond programs temporarily. Currently, states have authorization to issue tax-exempt bonds only to aid first-time home buyers in designated distress zones. Paulson proposed to expand this to allow state and local governments to issue tax-free bonds to help in mortgage refinancing.
The banks want access to more home loans, more pensions, more bonds, more derivatives which will be unregulated, thus it seems as if the powers to be are willing to crash the economy in an effort to increase volitility and then plat politics in the process. I think we will see earnings crash for banks, but wallstreet and The Fed will be supportive of higher stock values; P/Es will skyrocket in dotcom fashion, as fundamentals disconnect from reality!
the impact on credit available and cost by bankruptcy is all but gone in 3-4 years
In the new environment we find ourselves in going forward, this might no longer be true. Subprime was merely the first shoe to drop: we’re now seeing increasing problems in auto loans, credit card debt, non-federally-guaranteed student loans, etc. When the dust settles we may find that lenders of all kinds have become more cautious.
Dec. 6 (Bloomberg) — Schools and towns in a Florida fund that lost half its assets to withdrawals last month say finances may be squeezed by limits on how much money they can take out.
Local governments with more than $1,000 invested won’t have full access to their cash in the $14 billion pool, which reopened today under a plan developed by New York-based money manager BlackRock Inc. State officials halted redemptions on Nov. 29 to stem a run on assets amid disclosures that the fund, used by some local governments like a bank account, held defaulted and downgraded securities.
Blackrock was hired Nov. 30 to salvage and restore faith in an investment pool that was the largest in the U.S. at $27 billion before schools and cities began to pull their deposits. Participants will have full access to new deposits and 86 percent of existing balances, from which removals are limited to the greater of $2 million or 15 percent.
“Opening the fund to some withdrawals will take care of some immediate needs, but a $2 million limit will be a hardship for some cities,” said Jeannie Garner, director of financial services at the Florida League of Cities.
Governments needing more cash may borrow from unnamed banks that the State Board of Administration said are now in negotiations, or pay a 2 percent fee.
Rebuilding Cash
The board said in a letter to local governments it expects to allow larger withdrawals as the fund rebuilds its available cash, “and eventually all such restrictions will go away.”
Under BlackRock’s plan, the Local Government Investment Pool’s hundreds of participants will temporarily lose access to $2 billion of the weakest securities, including debt tied to structured investment vehicles, or SIVs. The state board in its letter today didn’t say how much may be collected on these securities.
The remaining $12 billion were described by the New York- based firm as “high-quality money-market instruments” with maturities ranging from this month to December 2008.
The fund had more than $2.6 billion of high-quality securities maturing this month. Additional withdrawals would be allowed as more securities mature or local governments put money in the fund, according to BlackRock’s proposal. The firm, which invests more than $1.3 trillion in fixed-income and other assets, was named interim pool manager while the state seeks an outside firm to take over.
“Our members were disappointed that the state didn’t stand up and back the fund,” Garner said. “We’re still hoping for some help.”
No Guarantee
State officials have said that under existing law they are unable to guarantee repayment of the funds that local governments and schools invested in the pool, according to Bill Montford, chief executive officer of the Florida Association of District School Superintendents.
Governor Charlie Crist and other state officials didn’t address the issue yesterday even after an advisory committee representing investors asked for a guarantee in a document presented at the meeting. The committee also said it is “strongly against” redemption fees for withdrawals.
“There’s concern about the penalty on those who would need to withdraw more than the maximum of $2 million,” Montford said.
Watching Withdrawals
The Hillsborough County School District, which has $573 million in the state-run fund, can last three months on tax dollars, said spokesman Steve Hegarty. For now, the school district is stashing other funds in a Wachovia Bank account.
“We have no immediate need to withdraw money,” Hegarty said. “The question is, are we going to put any money back in?”
For many Florida counties, one point is non-negotiable: “dollar for dollar” withdrawals from the pool, or the guarantee that their principal is protected, as is common with money-market funds.
“Without that, why would I go back in?” asked clerk and comptroller Bob Inzer of Leon County, which pulled $80 million out of the pool before the freeze. “The state has to treat us at least as well as Bank of America.”
`Dollar-for-Dollar’
Bank of America Corp., the second-biggest U.S. bank, set aside as much as $600 million last month to cushion investors whose money-market funds may have lost money on the same sorts of SIV investments that have hurt Florida’s pool.
“The fund is supposed to be set up that way — dollar-for- dollar withdrawals,” said Ken Burke, clerk and comptroller for Pinellas County, which withdrew $290 million before pullouts were suspended. “They’ve changed the rules of the game.”
Both Burke and Inzer sit on the advisory committee to the Florida investment pool.
While the freeze continues, places like Oakland, a town of 2,000 people just outside Orlando, are feeling the pinch. Officials scurried this week to raise $425,000 for a bond payment, draining half the town’s general fund to meet the once- a-year bill for its new charter school.
Oakland now faces police, fire and school payrolls due in the coming months, debts that may drain what’s left of public money if town can’t access its $1.5 million tied up in the state pool, said town manager Maureen Rischitelli.
“My hair is turning gray,” Rischitelli said by telephone. “I’m not sure the state understands: Money is tight for our residents. We don’t have a big general fund to cushion us.”
Key Points http://www.mofo.com/news/updates/files/update02234.html
Participation by governmental, church, and foreign plans is no longer required to be taken into account under the 25% “plan assets” exception.
For funds with “significant” benefit plan participation, benefit plan investment is taken into consideration only to the extent of the investment.
Many benefit plan service providers can more freely conduct transactions involving plan assets under new statutory prohibited transaction exemption.
A new “quick fix” for inadvertent prohibited transactions is available.
As a result of the factual complexity involved in many of these situations, avoiding inadvertent prohibited transactions with service providers has been costly and administratively cumbersome as plans and service providers attempt to conform their operations to one or more of the prohibited transaction class exemptions issued by the DOL or else seek their own individual prohibited transaction exemptions.
Under the new statutory exemption created by the PPA, if a person or entity is not a fiduciary (or an affiliate of a fiduciary) possessing discretionary authority or control over the investment of plan assets or providing investment advice for a fee to the plan at issue and is only a party in interest as a result of providing services to the plan, several common transactions involving the plan’s assets will no longer be prohibited as long as the plan does not receive less or pay more than “adequate consideration.” The PPA provides some useful clarification on the “adequate consideration” issue by allowing factors such as the size of the transaction and the marketability of the securities at issue to be taken into consideration. Further, the exemption makes clear that any plan fiduciary can make “adequate consideration” determinations for transactions involving assets for which no public market exists (subject, of course, to the usual prudence and exclusive benefit requirements imposed on fiduciaries by ERISA).
The types of transactions covered by the new exemption include sales, leasing, and exchanges; lending of money or extension of credit; and transfers to or use by or for the benefit of service provider/parties in interest of benefit plan assets.[6] This exemption permits many common transactions that were previously required to be conducted through a qualified professional asset manager under DOL class exemption 84-14.