Larry Loheit, the venerable Chapter 13 Trustee in the Eastern District of California, forwarded reports of trouble brewing on Capitol Hill over the proposed “CramDown” legislation, with reports by Janet Morrissey and Bloomberg. The Mortgage Bankers Association of Washington and other banking trade groups came out swinging last week, saying that the House Bill, HR 200, and its Senate companion, S 61 — dubbed the “cramdown” legislation — would be a disaster for consumers in the long run and push the battered mortgage market into an even deeper downward spiral. Methinks the Banks doth protest too much.
Here‘s the real problem: Home values are going to keep going down until they hit bottom; the bottom is the realistic value of the collateral, not what it was at the peak of the real estate boom.. It also has nothing to do with the amount of the indebtedness securing the collateral. The reality of the situation is that the mortgage boom was fueled by greed, rampant speculation, and rapid false appreciation of value of homes because of the fraudulent, irresponsible lending policies by innovative products such as 100% loan to value, income stated, negative-am, or the ticking time bomb, the fixed variable loan. Of course, there was plenty of greed on the part of amateur speculators, but the Banks get most of the blame in my view because they are supposedly in possession of superior knowledge, and aware of the cyclical nature of the real estate industry. They obviously forgot about the early 1990s and what happened when interest rates jumped to 21% when Jimmy Carter was president. Alfred E. Newman must have at the helm, with the “What, me Worry? Attitude.
The underlying problem with the mortgage lending industry is that they treated loans as products or commodities to be bought and sold on the open market, not as a professional service. This led to lenders approving people for loans who would never qualify otherwise, had the lender taken the trouble to realistically evaluate the borrowers strength. If you‘ll recall, historically, banking was a local service where lenders got to know the borrower and realistically evaluate the collateral. Until fairly recent times, forty years ago, interstate banking was not allowed. Then banking was allowed to become a regional practice. Remember First Interstate Bank? There is history lesson and a reason behind the name. As banking deregulation increased, banks became national conglomerates, and instead of providing personal service to individual consumers, loans became “commodities” sold and traded on the open market the second they were funded. This led to CDOs, CDS etc which were sold to investors on the secondary money market. This was an exciting product for bankers and investors, because it was a good way to monetize the borrower, and investors saw great potential with limited risk. The loans were bundled and sold with the premise that because they were in a portfolio, the return was practically guaranteed, and even if a number of borrowers defaulted, the portfolio would remain strong. Unfortunately, the entire premise was false, because the underlying loans were no good in the first place, because the Banks were selling a product, not a service. This eventually led to the demise of New Century, Option One, Lehman Brothers, Bear Stearns and Meryll Lynch and many others, because they overvalued the collateral and the strength of the borrowers in the first place.
The banks stopped being in the business or providing a service; they never intended to service the loans long term and instead as loans were sold on the secondary money market, this practice gave rise to the “Loan Servicing Agent.” This is another misnomer, because they were not providing a service at all to the borrower, they were just collecting payments to the borrowers. Anyone who has tried to call a “Loan Servicing Agent” knows that they can‘t help you with your loan, because their business is collecting money, not solving problems. The nature of the banking industry changed from being a personal service to a commodities exchange. The core issue behind all of the mortgage meltdown is lack of personal service to the borrower.
Clients with overvalued homes and oversecured loans have no incentive to keep making the existing payments. From a purely financial analysis, most borrowers in California should walk away from their homes, because if your paying on a loan thats $100,000 to $200,000 beyond the value of the house, you‘re wasting your time. Your better of walking away from the house or filing bankruptcy, because the cost of the loan over time simply doesn‘t justify the purchase price. Even if you have a foreclosure or bankruptcy on your credit record, if you run the numbers on what you‘re paying for compared to the value of what you‘re getting, you‘re better off going through the pain short term and then buying an REO or getting back into a house on a lease option or some other sort of creative financing, that actually allows you to benefit from real appreciation at a realistic loan rate.
The banking industry‘s objections to the proposed cram down provisions are not surprising. They want to get as much money out of the loan as they can. All a cram down does is force them to value the collateral at a realistic price and its also measured by the borrower‘s ability to pay. The cram down legislation will force the Banks to face reality, which is what they should have done in the first place.
Is it unfair to other homeowners who aren‘t in default and paying their loans? Of course it is. Well, maybe. Maybe not. On the other hand, if people don‘t stay in their homes and the foreclosure rate proceeds at the current rates, (there are estimates of 8-10 million foreclosures in the coming year) non-defaulting borrowers are going to continue to see the values of their homes go down. So another possible piece of legislation that Congress should consider is forcing the Banks to do loan modifications on loans that were made during the bubble period.. Right now, doing a loan modification outside the Bankruptcy court is very difficult, if not impossible. The Banks of course, will categorically reject this, but the reality is that they need people to stay in their houses just as much as the borrowers do.
The TARP thus farm has proved to be nothing but a welfare program for the banks. That‘s because instead of freeing capital to lend to borrowers and small businesses, the Banks are saving their own sorry “assets,” and sitting on the money. Just talk to any real estate broker, the Retailers Association or the Building Industry, which stated that 50% of their members were going to go out of business in the next year, not because of lack of work, but because banks are yanking their members line of credit.
Its just a continuation of the pattern of self interest, greed, and lack of service to the consuming public. Congress needs to stop listening to the Banks crying “poor me” when they were the responsible financial parties who created the problem in the first place. The cramdown provisions are needed to stabilize the devaluation of homes and the astronomical loss of wealth in America that is destroying this country.
If Obama wants transparency and the Rule of Law, he should reject the pork in the current bailout package and tell Congress to forget about their partisan political agenda. Any legislation must include accountability on behalf of the banks on where their money is going in order to implement the greater purpose of restoring the health of the economy and confidence in the banking system.
Paul Bartleson
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