Tag Archives: mortgage-backed securities

P2P, Mortgage Market Messiah?

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Monty Python's Life of Brian

As this is my last post of 2015, let me make a prediction about the 2016 mortgage market. Money’s Edge quoted me in Can P2P Lending Revive the Home Mortgage Market? It opens,

You just got turned down for a home mortgage – join the club. At one point the Mortgage Bankers Association estimated that about half of all applications were given the thumbs down. That was in the darkest housing days of 2008 but many still whisper that rejections remain plentiful as tougher qualifying rules – requiring more proof of income – stymie a lot of would be buyers.

And then there are the many millions who may not apply at all, out of fear of rejection.

Here’s the money question: is new-style P2P lending the solution for these would-be homeowners?

The question is easy, the answers are harder.

CPA Ravi Ramnarain pinpoints what’s going on: “Although it is well documented that banks and traditional mortgage lenders are extremely risk-averse in offering the average consumer an opportunity for a home loan, one must also consider that the recent Great Recession is still very fresh in the minds of a lot of people. Thus the fact that banks and traditional lenders are requiring regular customers to provide impeccable credit scores, low debt-to-income (DTI) ratios, and, in many cases, 20 percent down payments is not surprising. Person-to-person lending does indeed provide these potential customers with an alternate avenue to realize the ultimate dream of owning a home.”

Read that again: the CPA is saying that for some on whom traditional mortgage doors slammed shut there may be hope in the P2P, non-traditional route.

Meantime, David Reiss, a professor at Brooklyn Law, sounded a downer note: “I am pretty skeptical of the ability of P2P lending to bring lots of new capital to residential real estate market in the short term. As opposed to sharing economy leaders Uber and Airbnb which ignore and fight local and state regulation of their businesses, residential lending is heavily regulated by the federal government. It is hard to imagine that an innovative and large stream of capital can just flow into this market without complying with the many, many federal regulations that govern residential mortgage lending. These regulations will increase costs and slow the rate of growth of such a new stream of capital. That being said, as the P2P industry matures, it may figure out a cost-effective way down the line to compete with traditional lenders.”

From the Consumer Financial Protection Bureau (CFPB) to Fannie and Freddie, even the U.S. Treasury and the FDIC, a lot of federal fingers wrap around traditional mortgages. Much of it is well intended – the aims are heightened consumer protections while also controlling losses from defaults and foreclosures – but an upshot is a marketplace that is slow to embrace change.

Monday’s Adjudication Roundup

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Reviewing the Big Short

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Jared

Wax Statue of Ryan Gosling at Madame Tussauds

Realtor.com quoted me in Explaining the Housing Crash With Jenga—Did ‘The Big Short’ Get It Right? The story reads in part,

One of the more hyped movie releases this Oscar season stars the housing crisis itself: “The Big Short,” in which four financial wheelers and dealers (Christian Bale, Steve Carell, Ryan Gosling and Brad Pitt) join forces to figure out what caused the housing bubble of 2003-2005 to burst (and how they could profit from it, of course). It’s based on the best-selling, intensively reported book by journalist Michael Lewis.

Granted, the subprime mortgage meltdown is a complicated subject… but this movie purports to illuminate all with a simple visual aid: a tower of Jenga blocks. As Gosling explains in [this video clip], mortgage bonds at that time were made up of layers called tranches, with the highest-rated and most secure loans stacked on top of the lower-rated “subprime” ones. And once holders of those subprime mortgages defaulted in droves, as they did starting in 2006, the whole structure collapsed. Jenga!

Which seems simple enough. Only is this depiction accurate, or just a Hollywood set piece?

Well, according to David Reiss, Research Director at the Center for Urban Business Entrepreneurship at Brooklyn Law School, this movie’s high-concept depiction of the mortgage crisis is largely on the money.

“There is a lot that is accurate in the clip: the history of mortgage-backed securities, the degradation of mortgage quality during the subprime boom, the loss of value of lower grade tranches,” he says.

*     *     *

Yet there is one thing that the movie did fudge, according to Reiss.

“I would argue that there is one big inaccuracy that exists, I am sure, for dramatic effect,” he says. “I would have put the AAA [tranches] at the bottom of the Jenga stack. In fact, the failure of the Bs and BBs did not cause the failure of AAAs, and many AAAs survived just fine or with modest losses.”

In other words, only the top half of the Jenga tower should have crumbled … but that wouldn’t have looked quite as flashy, would it?

“It would not sound as cool if only the top part of the stack crashed,” Reiss concedes. “But the bigger point, that the failures of the secondary mortgage market led to the crash of the housing market, is spot on.”

And hopefully one that won’t play out again in real life.

Reps and Warranties Mean What They Say

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Derek Jensen

The New York Appellate Division, 1st Department, issued a ruling in Bank of New York Mellon v. WMC Mortgage, 654464/12 (Dec. 1, 2015) that stands for the proposition that representations and warranties regarding mortgage-backed securities mean what they say and say what they mean. The opinion opens,

This breach of warranty action arises from a residential mortgage backed securitization called the J.P. Morgan Mortgage Acquisition Trust 2006-WMC4 (the Trust). The Trust was arranged and sponsored by defendant J.P. Morgan Mortgage Acquisition Corporation (JPMMAC), which made certain representations and warranties as to the quality of the mortgage loans in the Trust. We find that plaintiff’s interpretation of the language of the representations and warranty at issue is the only reasonable interpretation . . ..

The Pooling and Servicing Agreement represented and warranted that

“With respect to the period from [the] Whole Loan Sale Date to and including the Closing Date, [JPMMAC] hereby makes the representations and warranties contained in paragraph (a) . . . of Schedule 4 attached hereto . . . . [that] [t]he information set forth in the Mortgage Loan Schedule and the tape delivered by [WMC] to [JPMMAC] is true, correct and complete in all material respects.”

It also stated that if “JPMMAC breached a representation or warranty it made . . . it was to cure the breach within 90 days after notification; if it failed to do so, it was to repurchase the defective mortgage loan or substitute a qualifying loan for the defective one.” This is pretty standard stuff so far.

By 2012, it appeared that more than 40% of the mortgages remaining in the pool were delinquent and that the R&Ws had been violated. The certificate holders therefor demanded that JPMMAC repurchase the mortgages that were in breach of the R&Ws, which JPMMAC refused to do.

JPMorgan argued, against the plain language of the R&Ws, that it only covered defects that arose during a short period prior to the closing date of the securitization. The Court gave short shrift to this implausible reading of the R&Ws.

This opinion does not make new law, but one wonders what effect it will have on securitization business practices. R&Ws are driven by many things — concerns about credit risk, but also tax compliance with the REMIC rules, to name a couple.  I am curious as to how MBS R&Ws have changed since the early 2000s — and whether the parties to these transactions understand how R&Ws allocate risk among them.

Wednesday’s Academic Roundup

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Monday’s Adjudication Roundup

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Obama Administration on Frannie

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Michael Stegman

Michael Stegman, a White House Senior Policy Advisor, offered up the Obama Administration’s “perspective on critical housing issues” recently. (1) I found the remarks on the future of Fannie and Freddie to be of particular interest:

Before discussing what we would like to see happen in this Congress on GSE reform, you should be aware that last week the Administration made clear its opposition to taking any action in support of what has become known as “recap and release.” We believe that recapitalizing the GSEs with taxpayer funds and administratively- or legislatively-releasing them from conservatorship with a business model that conflicts with their public mission— in essence turning back the clock to the run up to the crisis~ would be both bad policy and poor stewardship of the taxpayers’ interest; willfully recreating the very system that helped do this nation so much harm.
ln remarks I presented two weeks ago at the Mortgage Bankers Association conference, I cautioned that no one should be misled by the increasingly noisy chorus of the advocates of recap and release, many of whom have placed big bets against reform so they can make a‘profit, and are doing everything they can to make sure that those bets pay off.
Nor, I said, should their promise that recap and release would generate a pot of money for affordable housing be taken seriously.
Despite claims to the contrary, recapitalizing the GSEs would not itself provide any resources for affordable housing. Nor can a related — or even unrelated — sale of Treasury’s investment in the GSEs provide any resources for affordable housing. The proceeds of the sale of any GSE obligations acquired by Treasury must by law be “dedicated for the sole purpose of deficit reduction.”
Rather than freeing recapitalized GSEs from conservatorship with their flawed charters intact, we should pursue more comprehensive approaches to reform such as those that members of Congress have introduced over the past two years including mutualizing Fannie and Freddie, or build upon bipartisan agreements on the features of a future secondary market system that were hammered out in the Senate Banking Committee last year:
Preservation of the TBA market; an explicit, paid for government guarantee of catastrophic losses for investors in qualifying MBS; maintaining a clear separation of the primary and secondary markets; ensuring the flow of mortgage credit in both good times and bad; separating the securitization plumbing from private credit risk taking; ensuring that community lenders have the same access to the secondary market as big banks; and making the benefits of government guaranteed MBS available to all households — both those who choose to rent and those with the ability and desire to own.
Members in Congress also reached bipartisan consensus on a transparent way to serve those the private market cannot serve without subsidy, through an annual 10 basis point assessment on the outstanding balance of government-guaranteed MES—which once fully implemented, would generate about 15 times more resources a year for affordable housing than FHFA is expected to raise through the GSEs’ current affordable housing levy–though we were pleased to see the Director begin collections on the affordability fee and look forward to effectively implementing the dollars through the Housing Trust Fund and the Capital Magnet Fund that should become available for the first time in the early months of 2016.
But there is much more work to be done on ensuring a level playing field in the new system, including a robust role for community banks and credit unions who know how best to serve their customers, and ensuring that all communities are served fairly, which can be most effectively achieved through a statutory duty to serve. Regrettably, the Committee could not agree upon such a provision during last year’s negotiations, and we will continue to fight for it. (3-4)
Much of these remarks are eminently reasonable but I have to say that the Obama Administration has not deployed much political capital on reforming the housing finance system. This has left the whole system in limbo and the longer it stays in limbo, the more likely it is that special interests will make inroads into the reform of the system, inroads that will not be in the public interest.
While the likelihood of reform coming out of the current Congress is incredibly small, the Administration should take all of the administrative steps it can to sketch out an outline of a housing finance system that can work for a broad range of borrowers through the credit cycle without putting excessive risk on taxpayers.
The Administration has taken some steps in the right direction, like off-loadling some risk from Fannie and Freddie to private investors. But there is a lot more work to be done if we are to have a system that provides the optimal amount of credit through the 21st century.