The Great Mortgage Mystery

[nmap]

The following article is rated as one of the more popular recent pieces in and by the Wall Street Journal. It is, perhaps, worthy of reflection in terms of its broader implications.

Please note that I have merely offered the article. This posting does not constitute advice.

LINK

The big question from the mortgage meltdown isn't why so many distressed homeowners are defaulting on their loans.

It's why any of them are still making payments.

In the worst-hit areas millions have no equity left, and little hope of seeing any anytime soon. The market value of their homes is far below the size of the mortgage.

If they just stop paying, what is going to happen to them? In many cases they may get to live in the home rent-free for months, even years, until the bank gets around to seizing it.

If Frank Abagnale—the con man played by Leonardo DiCaprio in the film "Catch Me If You Can"—were operating today, he'd probably be living rent-free in a super-luxury high-rise in Miami.

Consider the latest revelations. The big banks are so backed up with foreclosures that some of them resorted to hustling through repossessions without the proper paperwork. Some of them—including Bank of America, J.P. Morgan Chase and Ally Financial's GMAC Home Mortgage—have announced a temporary freeze in some states on further foreclosures while they sort through the mess.

In one case, a bank employee said she was approving 8,000 foreclosures a month. By my math, that's roughly one for every minute and a half. No, she wasn't reading all the documents thoroughly. (As one wit observed, the banks paid about as much attention to foreclosing on the loans as they did to making them five years ago.)

In many cases, thanks to the fallout from securitization, it's not even clear who owns the mortgage. The payments may be due to different financial institutions around the world, some of which have gone the way of all flesh.

No wonder a fair number of borrowers have simply gone on strike. Nobody knows exactly how many are doing so deliberately—a so-called strategic default—though some estimates suggest these may account for nearly a third of recent defaults.

According to the Federal Reserve Bank of New York, one mortgage borrower in five in Florida and Nevada is more than 90 days' late on payments, and in Arizona and California it's about one in eight. It's a wonder it's not more.

A while back I received an email from a woman in Florida that illustrates the issue.

Her neighbor across the road had stopped paying his mortgage about a year and a half earlier, she wrote. He was still living in his "luxury condo," and the lender hadn't come after him yet. After all, he told her, they were so backed up with the housing collapse it might take them years.

My correspondent—a lawyer—was wondering whether she was being stupid for continuing to make her own payments. After all, she, too, was deeply underwater; her mortgage was far bigger than the value of the home.

So what happens to those who simply go on strike?

Even where the bank is coming after them to evict them, it is taking months, maybe years. During that time they are living rent-free.

When they are evicted, the bank then puts the home on the market. It may take months more to sell. Let's assume it sells, but for a lot less than the size of the mortgage. What can the bank do then?

In some states, the bank can do very little. In so-called nonrecourse states—which include California and Arizona, two of the worst-hit in the housing collapse—banks basically have to eat the loss.

In other states, the banks have some ability to come after the homeowners for the shortfall. But for most distressed homeowners, this threat is more theory than reality. Why? The banks have too many cases to handle. And distressed homeowners typically have so little in surplus capital that there may not be much point.

Imagine you're the bank executive. The loss on the home came to, say, $200,000. The borrower is unemployed, driving a 10-year-old Chevy and living on food stamps. In another state. Or he has a part-time job in gas station, maybe $2,000 in savings, and two kids. How much do you want to spend on lawyers and debt collectors to hunt him down? How much do you think you're going to get back, after costs? You've got 5,000 cases like this.

Indeed, there's a lot the banks can't touch anyway. Money held in a 401(k) account, pension plan or individual retirement account is beyond the reach of creditors. So is college money for the children or grandchildren if held in a 529 plan for more than two years. And so are other assets; it varies by state. Often life insurance is sheltered: That may include mutual funds held in a variable annuity account. Once the borrower files for bankruptcy, the lender ends up with nothing.

Assuming people have taken legal advice, and taken the smart steps, the rules give many of them strong economic incentives to stop paying. In some circumstances, there might be state-tax consequences. They may find it harder to get a mortgage in the future. And their credit score will get dinged, sure, but in the grand scheme of things, is this really a fate worse than death?

The ruthless and the reckless have already walked. Meanwhile, the middle class continues to pay through the nose. It's that old "middle-class morality" that George Bernard Shaw mocked a century ago.

But is this really a case of morality anyway?

I'll confess this issue makes me uneasy. But my feelings are almost certainly awry. We live, alas, in a world, and an economy, which rewards ruthless self-interest and penalizes "morality." Just look at the big banks.

A mortgage isn't a blood oath, it's a business contract—a collateralized loan. It isn't simply a promise to repay the lender. It's a promise to repay the lender or to forfeit the home. Isn't someone simply fulfilling their contract by handing over the keys when asked?

The banks knew full well what the fine print said when they made the loan. And so they should: They wrote the fine print.

The economy will suffer if more homeowners default. But it will suffer if they don't. Those bad debts are doomed and need to be written off. Why should the homeowners eat them rather than the banks? Why is the reckless lender more at fault than the reckless borrower?

Japan struggled for 20 years with "zombie banks"—so called because their debts, if properly recognized, made them insolvent. Here in America, we have millions of zombie homeowners. Why is this any better?

Businesses make secured loans against property or collateral all the time. If the loan goes bad, the lender takes the collateral. Nobody expects executives to dip into their own pockets (a fortunate thing, as they never do). Bank executives pocketed tens of millions in the run-up to the financial crisis, directly as a result of the phony profits from reckless lending. Stockholders pocketed billions in dividends for the same reason. If the taxpayers hadn't stepped in, those banks would have collapsed and creditors would have lost a fortune. But they would have had no recourse—absent proof of fraud—against executives or those who owned equity.

Look through the financial statements of the big companies involved in the housing market, including major homebuilders and property developers, and you'll find frequent references to all the "nonrecourse financing" they've obtained. It's a boast. "Look," they're telling stockholders, "even if things go bad, the lenders can't touch us."

Apparently the only people who haven't gotten the memo are the middle class. For how much longer?

[rdret1]

We will be seeing the falloutfrom this for years. Banks and mortgage companies are already revising how they do business. It is much harder to get a refinance, not to mention a primary loan. MERS has been a significant contributor to the confusion of just who owns the note for a house. This may be one case where technology wasn't necessarily a good thing.

[GratefulCitizen]

Originally Posted by nmap

The big question from the mortgage meltdown isn't why so many distressed homeowners are defaulting on their loans.

It's why any of them are still making payments.

A few episodes of reality TV would have you believe that the USA is made up of ignorant, irresponsible narcissists.
(Watching a White House press conference or CSPAN can give the same impression...)

Parades of human debris tend to draw attention.
This does not mean that they are representative of the whole.

I suspect that the answer as to why any of them are still making payments is simple:
On average, Americans who have done what it takes to buy a home are honest, reliable people.

Americans are by far the most generous people on the face of the earth.
This is not a trait found in those who would dishonor such a significant agreement as a mortgage.

The problem people of this nation are not the majority.
It just seems that way because they're louder.

[nmap]

Originally Posted by GratefulCitizen

I suspect that the answer as to why any of them are still making payments is simple:
On average, Americans who have done what it takes to buy a home are honest, reliable people.

Certainly, that's a reasonable position. Now a rhetorical question - how do honest, reliable people react when they have been lied to?

I've included a link to another site - the author of the piece discusses the deep internal flaws within the mortgage system, and why it was destined to fail. Destined is a strong word, and I do not use it lightly.

LINK

[kgoerz]

I could of easily walked away from my last house and not paid the Mortgage. But I did the responsible thing and paid until it was legally out of my hands. In my brothers neighborhood in Florida. People walked away from not only their Houses. But even left their cars behind for the Bank to come and pick up. They literally walked away from their lives and all responsibility.
It took me about one hour to get my loan for my last house back in 1999. I don't think it will be that easy next time. Ill be renting for a few more years. There are good points to renting these days. Something breaks, they come and fix it. My biggest weekend project these days is usually changing a Light Bulb.
I don't think I stepped inside a Lowe's or Home Depot in over a year. Where before I was in those stores spending money every weekend.

[ZonieDiver]

Excellent! Great post and link. There is a 'paper trail' here (even if it is on computers). The reason it is not being followed - and won't be followed - is that 'they' who would/could unleash the 'followers' already KNOW 'the usual suspects' at the end of the rainbow standing beside the pot of gold.

It goes beyond party politics, Republicans and Democrats, and goes to 'us and them' - 'ins and outs' - 'greasers' and 'socs' if you will. It is, and has been, the ultimate con game. We're the rube watching the pea go under the shell - not knowing the deck's been stacked long before we entered the game, if you'll pardon the mixed metaphor.

[nmap]

The following link discusses the fate of a couple described as:

"They’ve never missed a mortgage payment—Brian and Ilsa are the kind upright, not to say uptight 60-ish white semi-upper-middle-class couple who follow every rule, fill out every form, comply with every norm. In short, they are the backbone of America. "

While the piece is a bit long, and has several instances of salty language, it offers an interesting perspective on the secondary effects of the mortgage situation. From the article:

Right now, people are having a little hissy-fit over the robo-signing scandal, and the double-booking scandal (where the same mortgage was signed over to two different bonds), and the little fights between junior tranches and senior tranches and the servicer, in the MBS mess.

But none of that s--- is important.

What’s really important is Brian and Ilsa: What’s really important is that law-abiding middle-class citizens are deciding that playing by the rules is nothing but a sucker’s game.

I encourage those with an interest in the broad implications of the situation to view the piece at LINK

------------------------
If I may digress on a personal note - I am not advocating, nor do I advocate defaulting on mortgages or other contracts. There are consequences to such actions which require careful consideration and solid legal guidance by a capable attorney.

That said, the present situation exists. It is my opinion that it has broad economic, political, and social implications, and my posts seek to explore those possibilities.

Previously, GratefulCitizen suggested that Americans were honest, reliable people. Rhetorical question: What if that changes?

[The Reaper]

Say what you will, it occurs to me that the mortgage process, prior to political intervention, did what it was supposed to do and eliminated people who were unlikely to be paying back their loans. There was a reason that you had to make a 20% down payment, and have a job.

Once the standards were removed, and people could get home loans for hundreds of thousands of dollars with no income but welfare, and no job at all, a class of people were given trust who were bad risks, and had little sense of personal responsibility.

As I understand it, banks (along with Fannie Mae and Freddy Mac) were forced to loan money to unqualified people to increase the home ownership experience. Somewhere along the way, the mortgages were rolled into collateralized debt obligations and sold in packages of intermingled good and bad/high-risk loans to large institutionalized investors.

The housing rush created heat in the marketplace, and home prices soared based on demand, and many of the same people who should not have been offered loans discovered that they could refi and take out money to support their "beyond their means" lifestyle of immediate gratification without responsibility. "Flippers" glamorized on television shows bought up large numbers of properties and made large returns on their investments. Everyone rushed to get rich quick.

Some less than scrupulous appraisers and loan officers conspired to make these things happen in many cases, bending and stretching the truth in order to close the deals.

As I understand it, large financial institutions and investment firms not previously in the mortgage business bought the CDO packages, and made them significant parts of their portfolios, trading them repeatedly in short order, like they were stocks or bonds. When reality set in and the value of these packages dropped, companies found themselves in trouble, with some failing and others were bailed out by the government. It woulds appear that those bailed out did not necessarily learn their lessons, and have continued to engage in high-risk trading and rewarding managers who had made bad decisions. At the same time, do you really want a company with billions in assets being managed by a guy making entry level wages?

This has led to the bizarre situation where lenders lack the documentation to foreclose on properties they should own, homeowners buying a second house and defaulting on the first to take advantage of depressed market prices and to get out from being underneath on the first property, and people who could pay, just stopping making mortgage payments because they think that the bank cannot force them out, and the government trying to support them in those efforts. IMHO, we are increasingly no longer a nation of laws and doing the right thing, but a nation where political clout is the deciding factor.

All of that led us to where we are today, with the market attempting to sort itself out and the government trying to curry favor and save their jobs from the situtation that they helped create by throwing money of the American taxpayers at the problem in an attempt to stave off the wolf at the door.

I would say that there is ample blame to go around. At the same time, I consider it a matter of personal honor and responsibility to fulfill the promise I have made to repay my debts. Those who do not (and the government that allows it) are jeopardizing the system. I do not remember a guy with a gun at the closing forcing me to sign my name to the papers promising to repay my loan. Maybe others' experience was different. I may be upside down, but I will keep the faith, and not consider myself a sucker.

Just my .02, YMMV.

TR

[Don]

Originally Posted by The Reaper

Say what you will, it occurs to me that the mortgage process, prior to political intervention, did what it was supposed to do and eliminated people who were unlikely to be paying back their loans. There was a reason that you had to make a 20% down payment, and have a job.

Once the standards were removed, and people could get home loans for hundreds of thousands of dollars with no income but welfare, and no job at all, a class of people were given trust who were bad risks, and had little sense of personal responsibility.

I bought my first house in 1993 as a SSG, with a wife making close to minimum wage. I think I was offered four choices on mortages...VA, FHA, conventional, and adjustable rate. It was with great hand-wringing and angst at the thought of having to pay a whopping $740.00 a month for 30 years that I went with the VA.

Cut to 2003 and the purchase of my second home...I was given about 20 choices on mortages...interest only, 80/20 split, ARM, VA, FHA, etc... When my wifes cousin and her husband were qualified by a lender to buy a $200,000 house in 2004, while both were employed at BassPro as stockers, I knew there was a serious problem. There is much more with the story on the work history of those two...but the point is I wouldnt loan them $20.00 because I know I would never see it back, the bank was going to fork over $200,000. There was little due dilligence.

If there was less involvement by the government, the market would flush this out. Business is not in business to lose money...but when you create rules that allow institutions to make crappy loans because they can turn around and sell them back to the government, thus minimizing their risk...it is lunacy. Imposing socialist rules on a capitalist society is like making you play monopoly with candyland rules...just doesn't work too well.

[Sigaba]

Originally Posted by Broadsword2004

I don't know if all the banks were "forced" so much it was that they could sell the loans they were making, I believe to Fannie/Freddie and perhaps a few others, as Fannie/Freddie were believed to be as safe as treasuries. So the risk was lost. Banks just focused on making loan after loan after loan to make huge profits, ignoring the risks inherent, because they were being passed on.

BS2004--

FYI, a New York Times article from 1999 discussing pressure from the Clinton administration on Fannie and Freddie is available here.

HTH.

[The Reaper]

Originally Posted by Broadsword2004

I don't know if all the banks were "forced" so much it was that they could sell the loans they were making, I believe to Fannie/Freddie and perhaps a few others, as Fannie/Freddie were believed to be as safe as treasuries. So the risk was lost. Banks just focused on making loan after loan after loan to make huge profits, ignoring the risks inherent, because they were being passed on.

My understanding was that Federal authorities threatened audits and investigations of any banks holding the line. I could be wrong.

TR

[Pete]

Originally Posted by Broadsword2004

...........
My understanding was that Federal authorities threatened audits and investigations of any banks holding the line. I could be wrong.

TR

I would have to dig up what it was called but this mess started back with Carter - Yes, Carter.

It had to do with making loans, opening new offices (getting bigger) and getting good marks from the Feds.

Boiled down - it was that to expand into new areas you had to prove you were lending at the right % to the right race. It did not say you had to make loans to bad risks - just that the right % had to be made to the right race.

The banks at the time could write off a few bad loans as the cost of doing business.

Everything expanded from there.

You think the banks went bad? Just wait until Freddie & Frannie's ship hits the rocks.

Lots of FHA/USDA loans starting to show up where conventional and VA were the norm.