By Thomas Adams, an attorney and former monoline executive, and Yves Smith
Joseph Mason, the Hermann Moyse, Jr./Louisiana Bankers Association Professor of Finance, Louisiana State University, has a post up at Housing Wire that not only struck both of us as more than a tad off beam, but even elicited critical e-mails from real estate industry participants. In addition, at a couple of junctures is it so unclearly written as to be difficult to parse.
The post is misguided from at least three perspectives. First, Mason claims that his take on servicing as of October 2007 was so correct that there is virtually nothing to be added. That is tantamount to saying a recommendation for urban planning for New Orleans made pre-Katrina is the pretty much the only thing worth considering now. Like New Orleans, the servicing industry has been hit by devastation, in this case a level of foreclosures that has overwhelmed the industry, that with the benefit of hindsight should have been anticipated. Mason’s 2007 paper did foresee a large increase in delinquencies, but his estimate of the cost of the crisis was $150 billion, consistent with the prevailing “subprime is contained” forecasts.
Moreover, his view of borrowers was based on the subprime ARM resets of 2007 and 2008. Many of those borrowers were simply not viable once a reset hit. Many of them have already lost their homes. One of his premises in that paper, that a mod might not leave the investors any better off, is quite different now, when loss severities (losses as a percentage of mortgage amount) are now averaging over 70%.
While older policy prescriptions to address servicing problems that were recognized pre the foreclosure crisis are no doubt worth considering, the failure of his piece to factor in the impact of a storm surge of foreclosures and the other effects it has had, such as overwhelming court systems in judicial foreclosure states, is a fatal oversight.
The second flaw in the post its failure to deal candidly with servicer economics. Peculiarly, the post tries to create an urban legend of “good servciers” who can be held up as a model for business practices for the rest of the industry. We’d like to know exactly who these “good servicers” are, since we believe that the economics of the industry make it impossible for a servicer not to hemorrhage cash in the current environment unless it cuts corners or worse. For instance, Wells Fargo, which has sanctimoniously claimed that it is better than other servicers, has also falsely stated in Congressional briefings that it did not engage in robo-signing. In addition, industry practices in foreclosures are standardized to a great degree by the use of outsourcers to manage foreclosures, the biggest common platform being Lender Processing Services, which handles more than half the foreclosures in the US.
While Mason’s paper correctly pointed out that servicers had nowhere near the capacity to deal with the increasing requests for mods that would result from subprime mortgage resets, he fails to tie it back to badly designed fees structures and resulting flawed incentives which lead them to treat servicing as a factory, routinizing activities where ever possible to allow for the use of low-skilled staff. That is antithetical to what is necessary for mods to have a high success rate, which is individualized appraisal of borrower incomes and expenses.
Third is that his attacks on the various iterations of government mortgage mod programs are wide of the mark. There is no question they have not worked as advertised; we’ve been critics of each one as soon as they were announced, and they’ve all delivered predictably poor results. But Mason appears to have an allergic reaction the premise that the failure of the servicers to do mods means official prodding is necessary:
The government’s Home Affordable Modification Program, or HAMP, and private modifications have failed consumers and investors, as they have not only substantially duplicated costs in the foreclosure pipeline but also have been found wanting as potentially good modifications have been foreclosed upon anyway.
This is an unsupported statement for something that could easily be proven by data if true. Yes, HAMP has underperformed massively (we thought the “kick the can down the road” so called “permanent mods” were the most troubling design flaw). But the biggest problems appear not to result from program design (which as Mason neglects to mention, had substantial industry input) but gaming and poor implementation. Even Treasury has acknowledged that servicers abused HAMP; the lawsuits launched against Bank of America by the attorneys general of Arizona and Nevada allege multiple instances of failure to live up to HAMP guidelines. The biggest snafus included: widespread “dog ate my homework” loss of consumer documents necessary to move forward; failure to suspend foreclosure processes while mods were under consideration; false assurances to consumers that they could ignore foreclosure notices.
And how have these and private modifications failed, exactly? This charge is a drive-by shooting. What costs have been duplicated? The Congressional Oversight Panel complained of the poor metrics and reporting on HAMP, so burdensome reporting is unlikely as a major culprit. What good mods were foreclosed on anyhow? And again, to the extent this occurred, how much was it due to the servicer rather than HAMP per se? HAMP, after all, was strictly voluntary. HAMP is far more likely to have exposes the level of incompetence and abuse in private mod programs rather than create a unique new set of bad behaviors (again, the Arizona and Nevada suits cover both pre and post HAMP malfeasance).
As much as the analysis and forecast in Mason’s 2007 had merit, his policy views seem distorted. He seems to think mods are bad, and refis are somehow better. But mods, or as one might more accurately put it, debt restructuring, has a long and proud history. It is rational, self-interested creditor behavior when dealing with a stressed borrower to determine whether he worth more to you dead or alive. Banks routinely gave mods to homeowners who were in trouble if they thought they were viable in the long haul.
His push for mods to be classified as new loans is to allow banks to recoup new fees and so incentivize them to restructure debt. But the logic is faulty. There is nothing to restrict refis now; in fact, this was the way, up through the crisis, that a lot of subprime borrowers were kept alive. Treating mods as refis would require them to come out of the current MBS, if in one. Under the current structures, this would require the trust to pay off the full principal balance of the existing loan. This appears to be the basis of the argument used by Bill Fry’s Greenwich Capital in their litigation with Countrywide. The case was dismissed on procedural grounds, since Greenwich didn’t have the required 25% of certificate holders to initiate litigation. Currently, the trusts don’t have the capital to pay off the modified loans to the trust, thus we are in a quandary.
The part that Mason failed to anticipate in 2007 and seems to miss now is that servicing is a completely underwater business. Tom Adams had a limited experience with one predatory servicer, Fairbanks. Fairbanks was a servicer for distressed portfolios – that means they had three issues most other servicers did not: very high concentration of borrowers in foreclosure, high servicing costs and no lending arm, to provide another source of revenue. People hired Fairbanks to work out bad portfolios – they claimed not to even want good performing portfolios.
Because Fairbanks was a stand alone servicer, and because servicing portfolios amortized quite rapidly back then, they were forced to come up with creative ways to produce additional fee income – hence aggressive late fees, junk fees, quick foreclosures, etc. Like today, Fairbanks depended on foreclosures so they could recoup their fees, which would not have been available via a principal modification.
After Fairbanks’ settlement with the FTC, other servicers of “high risk” portfolios made clear that they were different from Fairbanks, because they only serviced pools in which they (or their parent) had an equity investment in the related MBS. Also, their parents had several other sources of revenue. One such servicer indicated that it did not believe that servicing was, on its own, a profitable business. (it also typically required a variable fee for its distressed portfolios which allowed it to charge more than market rate. When asked them back in 2005 or 06 what it thought the break even servicing cost for distressed pools, it said over 100bps. Today, the level would clearly be even higher).
Today, servicers are forced into the same economic analysis that Fairbanks was – how to make money in servicing highly distressed portfolios, but without the ability to refinance “re-performing” borrowers into new loans. The contractual servicing fees only make sense if most of the pool is performing and very little work. So they need to find other sources of income to make the work profitable, or at least reduce the losses.
Servicing fees are written into the contracts – they can’t be increased. But today, servicing requires hundreds of more bodies for collection, loss mitigation, HAMP analysis etc. The servicing fee doesn’t cover the cost of these new bodies. So they need to use junk fees – which are reimburseable from the proceeds of the foreclosure – to raise additional income.
All servicers are facing this problem today. As we know, today there are few if any “good” servicers – the ones contending with high levels of delinquencies all have issues.
None of them have any flexibility in raising their servicing fees, so they all face the Fairbanks dilemma.
The biggest fix for servicing would be to raise servicing fees. There is no way to do that under the current contracts. New regulations, tons of delinquent borrowers – needing attention, hand holding, and loads of extra work – have dramatically raised the cost of servicing – there is no other way around it.
Servicing fees are uneconomic because the industry systematically bid their fees down to get more business on the theory that larger portfolios increased servicing “efficiencies” and so they could get easy money from lots of low maintenance borrowers. They left themselves no margin for error or the possibility that dramatically more borrowers would become delinquent. And now, they are stuck. If the lenders had done a better job lending or, servicers had done a better job pricing the cost of servicing, then they wouldn’t be in the mess they are in now.
The underlying problem is that servicers are in conflict, basically at war, with homeowners, investors and the economy. It is a Gordian knot that will either be solved by regulatory action, by the courts and foreclosures or by massive rebellion by investors and homeowners. But the servicing contracts, perversely, have the effect of putting the needs of the very few ahead of the needs of the many.
The best solution is meaningful principal mods for viable borrowers. With mortgages showing average losses of 70% or greater, there is plenty of leeway for deep reductions that still leave both investors and borrowers ahead. Anna Gelpern and Adam Levitan pointed out in a 2009 paper that the contracts themselves, the pooling and servicing agreements, make private resolution well nigh impossible, which means some sort of intervention is necessary:
Rewriting PSAs will not resolve today’s financial crisis. Yet voluntary foreclosure prevention initiatives are unlikely to succeed as long as contract rigidities persist. The continuing foreclosure epidemic also holds an important lesson for the future: even where contract rigidity makes perfect sense for the parties, pervasive rigidities can have catastrophic consequences for financial stability and for society.
There will also need to be a mechanism for recapitalizing banks that will suffer large writedowns on their second mortgage portfolios. The industry will of course try to characterize this process as the unnecessary “creation” of losses to try to blunt the well-deserved political backlash. In fact, the losses already exist; the nature of this exercise is to start recognizing them for the benefit of the economy, and figure out how to distribute the costs.
Dealing with the hit to servicers is rounding error compared to the balance sheet losses the biggest US banks need to recognize. And the truly important task is not servicer economics (although that needs to be addressed too) but how to restructure the major banks when they come back to the trough after paying executives and staff multimillion dollar compensation.
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This post is bizarrely pro-Obama and pro-government. I’m second to no one in my hatred for the servicers, and for precisely that reason I hate their lackey kleptocracy.
But Mason appears to have an allergic reaction the premise that the failure of the servicers to do mods means official prodding is necessary:
The government’s Home Affordable Modification Program, or HAMP, and private modifications have failed consumers and investors, as they have not only substantially duplicated costs in the foreclosure pipeline but also have been found wanting as potentially good modifications have been foreclosed upon anyway.
This is an unsupported statement for something that could easily be proven by data if true.
While his rejection of the premise that government prodding is “necessary” arises from his being a bank lackey, the citizenry knows that such conscientious prodding is impossible, as the HAMP proves.
This is a kleptocracy. We must never again trust this bank-owned government to do anything but try to harm us.
“….potentially good modifications have been foreclosed upon anyway.
This is an unsupported statement for something that could easily be proven by data if true.”
The design of the program strongly suggested ahead of time that the HAMP was a government scam. Many observers said so at the time. I wrote a post forecasting that a year ago.
And the data has certainly proven us correct. Vast numbers of potentially good mods were instead strung along with “promises” and then foreclosed upon anyway.
That was the intention of the Obama administration: To deter walkaways and induce people to keep paying for a few more months by dangling the prospect of a permanent mod.
The fact that the same criminal enterprises who created the problem in the first place had the HAMP written to their specifications and were then placed in charge of administering is proof beyond a reasonable doubt of Obama’s malign intent.
This is a kleptocracy. We must never again trust this government to do anything but what the banksters want it to do.
Yes, HAMP has underperformed massively (we thought the “kick the can down the road” so called “permanent mods” were the most troubling design flaw). But the biggest problems appear not to result from program design (which as Mason neglects to mention, had substantial industry input) but gaming and poor implementation.
That sentence directly contradicts itself. It says: The servicers themselves designed the program and then gamed it; yet they didn’t design it in order to be able to game it. In spite of the servicers’ having designed it, it was still well-designed. It was only poorly implemented.
Is there some kind of acute, terminal mental illness which the election brought on, that even people who used to be skeptical of Obama have chosen now of all times to completely surrender to his alleged “good intentions”?
It’s absurd on its face to flip-flop now and think the HAMP was well-meant but poorly executed. It’s absurd on its face to think Obama means well but executes poorly in anything he does.
Why are even people who used to agree on that suddenly choosing now of all times to regress? Are the Republicans really that scary? That suddenly it’s “Save us, Obama! I didn’t have faith in you before, but now I have to have faith in you!”
That was a generalized complaint; I’ve seen far worse examples than this post. But this post is saying, “I didn’t have faith in the HAMP’s intent before, but now I do.”
I’m not trying to nit-pick here: Propping up the zombie either/or of banks/corporations “or” government is always pernicious. It’s one of the worst forms of divide and conquer, maybe even worse than the way they foment racial discord. This is a corporatist kleptocracy. There is no difference of interest or intent between banks and the central government.
The underlying problem is that servicers are in conflict, basically at war, with homeowners, investors and the economy. It is a Gordian knot that will either be solved by regulatory action, by the courts and foreclosures or by massive rebellion by investors and homeowners.
That’s more like it. Maybe the rest of the piece was actually a satire on believing in “regulation”, which we know cannot work. This is a kleptocracy.
Please reread. I make it clear HAMP is an abortion and link to older posts that go on at considerable length.
But if you are going to criticize these programs you need to do so in an accurate way and point to remedies that make sense. Mason effectively says the problem is the pressuring banks to do mods. Given that mods for viable borrowers are good for everyone but the banks, his position is bizarre.
Yves, thanks to this article. And thanks to your tips, I read this week both the Anna Gelpern-Adam Levitin 2009 article as well as the just released Levitin-Twomey article. These are must-reads – and are ultimately depressing. Depressing because in neither article are politically feasible resolutions suggested as is de rigour for law review articles – state the problem, analyze it, and proposed the resolution. Not for want of imagination by the brilliant and dedicated authors, but in the end the only possible resolution is some form of government intervention forcing the parties to take their losses – what “attempter” would describe as kleptocracy.
As the Levitin articles demonstrate, the entire house of cards of the structured finance instruments is anti-social – from the requirements of super-majorities by investors to the absolution of the trustees of any fiduciary obligations to the servicer compensation structure to the servicer black-box to the emasculation of bankruptcy courts in consumer bankruptcies as far as mortgage modifications and to the role of consumer credit agencies to the fouling of real estate recording.
I do disagree that one should focus “blame” on the servicers alone: the servicers were merely responding to the demands of deal structurers to do the deals and walk away. It is only proper that most servicers are owned by the banks. Simply, the banks have to pour money into the servicers – rather than bonuses for the creative geniuses who devised this mess with not thought to the consequence – like building an automobile that works fine but when the brakes wear out, the automobile will explode on the road.
The solution is unknown – but, I believe the mortgage foreclosure judges “just saying no” is going to force back solutions – and I foresee judges imposing penalties on the rampant filing of improper foreclosure demands. Ultimately, every public foreclosure proving the absence of timely ownership by the trust creates a data trail. I would assume there are some analysts out there who are mining this data trail of improper transfers to trusts – once certificate investors can take the public data revealed in the foreclosure cases to prove non-compliance with the trust agreements so that put back demands can be substantiated, then there will be a big crack in the dam.
In the meantime, the banks need to fire up their $100 million a day lobbying campaigns to persuade Congress to provide authority to bankruptcy courts to modify loans – and this “reform” needs to be implemented as fast as possible. This might save the banks from total destruction.
And, truly, a lot of the losses will need to be borne by investors. They had to be truly dumb to buy this junk. But, if the mortgages are not reformed, not only will there be terrible social consequences, but the investors and banks will lose even more.
The process is going to have to play out – but, do not blame the servicers alone – blame those who created and profited from the structures. If the servicers were underpaid by half a percent, then the deal makers stuffed their pockets with this unpaid half a percent – let see, that is half a percent over 30 years! Present value that, even with declining basis.
Also, lets clawback this years and the last two years of bank bonuses of any bonus over $250,000 or 10 times the lowest pay in the servicer or bank organizations – including the pay of off-shore outsourced employees.
I hope Obama and his staff will take some time over the next two weeks to study these two Levitin articles.
I didn’t see this sentence earlier:
Not for want of imagination by the brilliant and dedicated authors, but in the end the only possible resolution is some form of government intervention forcing the parties to take their losses – what “attempter” would describe as kleptocracy.
Um, no, liar. This government and your hero Obama have no intention of doing anything but intervening to shift all losses onto the people, so that “the parties” can keep all they stole and keep stealing more. That’s all they ever did from day one, as you know perfectly well.
That’s kleptocracy. That’s why I reject faith in the government and recommend others do the same.
I wouldn’t have responded to your astroturfing gambit, but since you chose to lie about me, then I’ll tell the truth about you – since you consciously choose to whitewash these capital crimes, you’re a full collaborator and abetter.
The only truly possible resolution, of course, is for the people to take back the country from the below. We’re already on the land, and we can politically, spiritually, and in practice evict the banks at will. Morally and legally they already abandoned the land.
Comments from Calculated Risk on a previous Naked Capitalism post on Joseph Mason 2yrs ago
http://www.calculatedriskblog.com/2007/06/subprime-and-cdos-illiquifying.html
There it is again, “viability”. I tell you what, the Palestinians, and their seized land, can tell us about a thing or two about viability, or subjective tyranny. We listen to politicians hurl with seemingly benign calls to embrace crime, with statements like “through no fault of their own”. In other words, the housing bubble was their fault.
Viability doesn’t examine fraud, organized crime, victims, predation, conflict of interest, control fraud, homelessness, lobbyists, bad laws – it all comes down to the little fish, to evaluate their worth, apparently. To have them line up their paychecks to see if they deserve a place to live.
Articles like these continue to present that power in the US Government is actually concerned with housing or human rights and all those other allegations of Democracy that, for whatever reason, writers need to go along with.
What are the chances of re-visiting a reasonable, fair solution, namely cramdown? It’s forbidden apparently, just like any number of statements about Israel – can’t mention solutions that would offend power, instead it’s let’s tweak HAMP again, let’s examine borrower “entitlement”, determine if they are getting away with something, scan their paychecks, do things we never did when we jammed them into debt peonage, determine their viability, and hoist them upon their troubled petards, evict them into the homeless shelter and rightly so! Everyone needs to stop paying, pull out the Chapter 7.
Yves,
Your last paragraph is the issue. There are now only 19 primary dealer banks. There once were more than forty. The concentration of financial power is a part of the problem. The abrogation of regulatory reponsibility, profilgate lending to satisfy profligate loan demand all because the damm currency is losing purchasing power by the day are part of the problem.
Were the major banks to resume marking to market, we’d see that quite a few are insolvent. What should occur is that these banks be taken into conservatorship and liquidated. In the conservatorship there should be an investigation as to civil and crimnal fraud on the part of management.
It is no excuse, but the reason that we have seen so few fraud prosecutions is because the fraud was and continues to be, so deeply imbeded and pervasive.
Joseph Mason is among the biggest Louisiana problems pertaining horrific consumer abuses and corruption. If Mason would simply NOT promulgate untrue things about how the foreclosure scourge REALLY IS here in Louisiana, possibly Louisiana REAL ESTATE RACKETEERING would have been dealt with decades ago.
Instead, people like Mason enable rampant Wells Fargo, Freddie Mac, foreclosure mills and judicial collusion to plague consumers.
None of the State Attorney Generals which have served Louisiana have been able to do anything about mortgage fraud –not even investigate it! HOPEFULLY, the combined efforts of addressing foreclosure frauds by the 50 Attorneys General will be able to see past people like Mason.
Louisiana is a CASE IN POINT / MODEL of everything fraud foreclosure! An examination of the “Louisiana Way” will serve to demonstrate nuances of mortgage loan server / foreclosure mills / judicial collusion frauds that can drastically reduce fraudulent repossessions, nationwide. Neither Investors, nor bankers, nor city revenue –and certainly not defrauded families stand a chance against sanctioned frauds. http://chn.ge/eU2zAm
Mortgage and real estate fraud is the ECONOMIC TITANIC that is driving American underwater, and people like Mason refuse to sound warnings!
notes>>>
*New Orleans: LEHMAN BROTHERS; Foreclosure Fraud, Conspiracy, Wells Fargo; Deceptive Judicial Filings http://bit.ly/e2fYoE
*Illegal Foreclosures, Evictions, Lender / Lawyer Frauds, Justice Impediment http://newsblaze.com/story/20091011141440lawg.nb/topstory.html
*Foreclosure Fraud Assault – A Cry For Help http://newsblaze.com/story/20101116120222nnnn.nb/topstory.html
*Lawyers for mortgage lenders should be held accountable for foreclosure improprieties and concealing malprac…” http://huff.to/bWkVMN
*New Orleans Foreclosure frauds, Judge Thomas Porteous and the Judicial ‘Devil’s Den’ from Whence He Came http://bit.ly/a7mx2V
*58 people now working to restore property records in NEW ORLEANS clerk’s office @ http://t.co/VVEHHec
*NEW ORLEANS -Real estate computer crash brings industry to its knees @ http://t.co/noIo4rk
*MARCH 2007 SENATE INQUIRIES ABOUT EPIDEMIC MORTGAGE FORECLOSURES. . .
http://www.lawgrace.org/2007/03/26/viewpoint-the-march-2007-senate-inquiries-about-epidemic-mortgage-foreclosures-and-us-attorney-general-alberto-gonzales/
Petition: Request for Congressional Foreclosure Panel to Examine Foreclosure Lawyers
http://www.change.org/petitions/view/request_for_fraudulent_foreclosure_investigation
Tom Adams, you sir are far too kind.
When someone of Jos. Mason’s caliber writes things like:
“Major improvements to servicing best practices have been implemented over the past decade.” . . .
that is just an out and out, BOLD FACED LIE.