Tag: mortgages

  • “Quicken” the Development of the Law

    Posted by

    Katie Porter

    Over the last few years, the US Department of Justice has reached settlements with nearly every major lender with regard to the lending procedures for FHA (Federal Housing Administration) loans. The legal basis for the settlements were alleged violations of the False Claims Act. The total recovery is about $3 billion dollars.Sue me

    In the wake of lengthy and expensive investigations and negotiations, lenders have basically . . . whined.  Jamie Dimon said the company was "thoroughly confused" by the FHA's investigations and said he was going to "figure out what to do." That task might be a whole lot easier due to Chase's competitor, Quicken Loans. On Friday, Quicken sued the Department of Justice and the Department of Housing and Urban Development, asking the court for a declaratory judgment and injunction that would halt the government's efforts to bring Quicken to settle its alleged FHA liability. I love this lawsuit!!! 

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  • Congressmen Raise New Questions About FHFA Resistance to Principal Reduction

    Posted by

    Jean Braucher

    The heat is cranking up on the seat of Edward DeMarco, acting head of the Federal Housing Finance Agency and a holdover from the last administration who has been standing in the way of a meaningful response to the mortgage crisis. FHFA is conservator of FannieMae and FreddieMac, owners or guarantors of a large percentage of US home mortgages, and thus in a position to direct the mortgage giants to take steps that would save taxpayers money, provide relief to struggling underwater homeowners, and revive the US economy. Congressmen Elijah Cummings and John Tierney yesterday released a smoking letter to DeMarco explaining that his agency's own analysis shows that a principal reduction program could save taxpayers $28 billion. http://democrats.oversight.house.gov/images/stories/Cummings_Tierney_DeMarco.pdf Even more revealing, they say a FannieMae whistleblower has disclosed that FHFA was poised to implement a pilot program along these lines just before the November 2010 election but then pulled back for political reasons. Things seem to be getting more interesting. Could we finally see some movement on this critical issue?

  • People Are Not Corporations, and Financial Journalists Are Not Ordinary People

    Posted by

    Jean Braucher

    It is getting really old, the exasperation of entitled financial journalists that ordinary folks are not walking away from their underwater homes as much as they supposedly should. The latest to sound this tired refrain is James Surowiecki in The New Yorker (Living By Default, Dec. 19, 2011), who also makes the clichéd comparison to corporate decisions to shed debt using chapter 11 bankruptcy. He calls on underwater homeowners to do "the smart thing" by walking away.

    According to Mitt Romney, “Corporations are people.” Whether or not you agree with that proposition, what is empirically true when it comes to debt is that people are not corporations. People don’t view walking away from debts that they can afford as a no brainer if it improves the bottom line. They agonize. They feel bad. They care about their homes and neighborhoods. Walking away is extremely painful, not a simple financial calculation. And, oh by the way, the further down you are in the 99 percent, the more likely that the financial calculation is negative, given impact on credit reputation from defaulting on a mortgage when your income is low. (On the other hand, many people worry about their credit reputations way after they have hit bottom and bankruptcy could actually improve their access to credit, more evidence that people don't take bankruptcy or any other form of walking away lightly.)

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  • Faulty Foreclosures

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    Adam Levitin

    Here's a real disconnect in the faulty foreclosure story:

    Last week Bank of America announced that it was restarting foreclosures after conducting a thorough review of its foreclosure process in two weeks and found everything to be all right.

    Today the Wall Street Journal reports that Bank of America has found problems in 10-25 of the first "several hundred" loan files it has reviewed as it refiles foreclosures.  

    So what's going on?  I think the only way to read these two stories together is to conclude that Bank of America didn't actually conduct much of a review during its brief foreclosure freeze.   At best, they engaged in some sampling of loan files, and at worst, they merely reviewed procedures, not actual files.  

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  • Does Securitization Affect Loan Modifications?

    Posted by

    Adam Levitin

    A few days ago I wrote a long and detailed critique of a Boston Federal Reserve staff study that argued, among other things, that securitization was not a factor in the paucity of loan modifications.  The study reached this conclusion based largely on the similar rate of modifications for portfolio and securitized loans.  Although the study controls for the effect of the modification in terms of monthly payment, it otherwise assumes all modifications are created equal.  But clearly they are not.  There is a significant difference in redefault rates for securitized and portfolio loans, and the securitized loan mods perform much worse.  This is something the Boston Fed's study cannot explain other than if there is (1) unobserved heterogeneity in the loans or (2) differences in the loan mods.  

    The nature of unobserved heterogeneity in data is that it can't be observed, so all that can be said of (1) is that it is a possibility.  But assuming that there isn't a heterogeneity problem about the unmodified loans, what about the mods?  Is there heterogeneity problem in mods that makes comparisons of mod rates a poor measure for evaluating the impact of securitization.  It appears that there is. 

    The Boston Fed study did not control for the effect of the loan modification on the homeowner's equity. It does have controls for LTV and negative equity, but those don't seem to have been applied to the serviced/portfolio distinction, at least in the paper.  I'm not sure whether there is sufficient data to do this, but what the study could have controlled for, but did not, was whether the modification involved a reduction in the unpaid principal balance.  In this aspect, there is a significant difference between portfolio and securitized loans.  

    OCC/OTS Mortgage Metrics Data for the first quarter of 2009 indicates that very few loan modifications have involved principal balance reductions.  In fact out of 185,186 loan modifications in Q1 2009, only 3,398 (1.8%) involved principal balance reductions.   All but 4 of those 3,398 principal balance reductions were on loans held in portfolio.  The other 4 are quite likely data recording errors.  This means that there is heterogeneity in loan mods between securitized and portfolio loans.   

    The difficulty in doing principal reduction mods for securitized loans is quite important because to the extent that negative equity is driving foreclosures (and there is significant evidence that it is), principal reduction modifications are the tool for eliminating negative equity (with an shared appreciation clawback or not).  The quality of loan modifications matters, and securitization affect the quality.  

    There is also a major difference in the ability of portfolio lenders and Fannie/Freddie/Ginnie servicers to extend the term of a mortgage that private-label servicers don't have.  Not all securitization is the same.   Private label servicers can usually stretch out the term of a loan by no more than a year or so because the servicing contracts prohibit the extension of the term beyond the last maturity date of any loan in the pool, and pools are usually of similar vintage and duration loans.  Fannie/Freddie/Ginnie loans can be bought out of a pool and modified, making them more like portfolio in this regard.  Thus 49.2% of portfolio loan mods, 50.8% of Fannie, 61.2% of Freddie, and 17.2% of Ginnie mods involved term extensions, but only 3.9% of private-label securitization mods.  

    Quite likely there is other heterogeneity that cannot be as easily discerned.  This makes sense–portfolio lenders are much less constrained in modifications than securitization servicers.  Attempts to quantify servicers' constraints by looking at contract language are inherently limited, as there are structural and functional constraints that are not apparent from an examination of the face of the servicing agreements. Moreover, securitization servicers are adverse to principal write-downs because that affects their compensation far more than an interest rate reduction.  The agency problem just doesn't exist for portfolio loans.  

    Finally, the study has a very strange observation that there is a moral hazard problem in principal balance reductions, but apparently not for interest rate reductions:  "Balance reductions are appealing to both borrowers in danger of default and those who are not."  Therefore, borrowers might default to get principal reductions.  Sure, that's right, but everyone would also like a lower interest rate too.  I don't see why a principal reduction presents a different level of moral hazard from an interest rate reduction.  In terms of net present value, principal and interest rate are interchangeable (yes, there's an interest deduction, and a principal reduction changes the ability to refinance, but that's not the distinction at issue).  The bigger factor pushing against principal reductions (other than servicer compensation) is an accounting issue.  A principal reduction shows up on the balance sheet immediately.  A reduction of interest just reduces future income.

    The take-away here is that even if the Boston Fed staff is right that securitization doesn't affect the prevalence of loan modifications, it clearly affects the quality of those modifications, and that is every bit as important, not least because the performance of past modifications is the basis for servicers' calculation of the redefault risk that the Boston Fed staff emphasizes as constraining modifications.  If servicers do bad mods and have high redefaults, that will make them more adverse to doing mods in the future because they will think that the mods don't work. 

  • Is Redefault Risk Preventing Mortgage Loan Mods?

    Posted by

    Adam Levitin

    There's a very interesting new study on mortgage loan modifications out from the Boston Federal Reserve staff.  This sort of study is long-overdue and from an academic standpoint, there's a lot I really like about this study.  But the study is going to get a lot of policy attention, and I think it's important to point out some of the problems with the study that limit its ability to serve as a policy guide.  

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  • Credit Card Defaults–Piggybacked Underwriting

    Posted by

    Adam Levitin

    If you want to get a window on why credit card defaults are soaring, look at credit card underwriting.  There is virtually no income verification in the card industry–all loans are stated income loans (a/k/a liar loans), and we know how well that worked for mortgages (and there's more temptation to lie about a card as a default won't cost you the house). 

    The card industry does do some ersatz income verification, however, using credit reports,but this might only exacerbate underwriting problems.  Credit reports only list debts, not income, but card issuers are able to piggyback off the underwriting of lenders that do income verification.  Thus card lenders will look at mortgage debt on credit reports to gauge income levels.  If you have/had a large mortgage, that implies a large income. 

    The problem with this style of underwriting is that it relied on mortgages being thoroughly underwritten both in terms of income verification and in terms of mortgage-debt-to-income ratios.  As mortgage lending standards went out the door, so too did card lending standards.  Card issuers ceased to get the benefit of mortgage lenders' income verification and got squeezed as mortgage debt gobbled up an increasing share of borrowers' income. 

    To be sure, there are other factors now pushing up credit card defaults to historic levels, unemployment being chief among them and the inability to refinance credit card debt by using home equity, but what amazes me is that even now that we know that mortgages size is a completely unreliable indicator of repayment ability, leading card issuers are still piggybacking off of mortgage underwriting.

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  • BS Bankruptcy Numbers

    Posted by

    Adam Levitin

    We've already seen a lot of bs numbers in the cramdown debate. The Mortgage Bankers Association keeps pushing its ridiculous figures. And now Todd Zywicki has joined the fray with an op-ed in the Wall Street Journal a couple of weeks ago.

    Professor Zywicki that claimed that "A recent staff report by the Federal Reserve Bank of New York estimated a 265 basis-point reduction on average in auto loan terms as a result of the reform."

    One little problem. That's not what the Fed staff report found. Professor Zywicki was off by 250 basis points (a doozy of a mistake!), as well inserting a causal link not supported (and arguably contradicted) by the Fed staff's study. The study states that "The decline in the average auto loan spread was 15 basis points lower after BAR for unlimited exemption states, a 5.7 percent decline relative to the mean over all states (265 basis points)." In other words, the average rate spread is 265 bp. The decline in rates, to which Zywicki was referring was only 15bp, and that was only in states with an unlimited homestead exemption.  That it was not 265 bp was abundantly clear from the regression tables.

    But that's not all. It's not as if Professor Zywicki simply mistook a 15 bp drop for a 265 bp drop.  That 15 bp isn't what it appears to be.  The study used two statistical specifications and looked at states with limited and states with unlimited homestead exemption to see what impact there was on auto loan rates post-BAPCPA, which enacted an anti-auto cramdown provision (the infamous "hanging paragraph" that says that there's no bifurcation of claims for cars purchased primarily for personal use in the previous 910 days).

    In one specification it found nothing with statistical significance regardless of the homestead exemption level, which means that it couldn't rule out the possibility that the change in rates was random.

    In the other specification, post-BAPCPA there was a marginally statistically significant 15 bp drop in five-year auto loan rates in states with unlimited homestead exemptions. There was no statistical significance in the drop in other states. What's funny about this is that homestead exemptions have no bearing in Chapter 13–exemptions are only available in Chapter 7. So if the study had aggregated all states for its regression, it seems unlikely that it would have gotten stronger statistical significance.

    So we have at best very weak evidence of a 15bp drop in rates. But it doesn't follow that the drop was due to the anti-auto-cramdown provision. The study also found a significant decline in auto-loan delinquencies in the short period after BAPCPA. The most plausible story, I think, is that surge in bankruptcy filings before BAPCPA's effective date cleared out the pipeline of troubled loans so that post-BAPCPA auto loan default rates were lower. My guess is that they've climbed right back up.  Notice that this has nothing to do with cramdown. This has to do with moving forward some filings that would have happened later. So we have a 15bp drop that might not even be statistically significant and only in some specifications and only for states with unlimited homestead exemptions, and it probably isn't attributable (or at least most of it) to the anti-cramdown provision, but instead to BAPCPA causing a filing pile-up. So where did Professor Zywicki get this 265 basis point number from? That's the spread that exists between five year auto loans and five year Treasuries. It has nothing to do with bankruptcy.

    Sometimes a little common sense is needed when looking at numbers, too. In December 2005, auto loan rates were at around 6.63% (663 bp). If 265 bp was right, it would have been a 40% decrease in auto loan rates! Whatever impact bankruptcy has on credit costs, I don't think there's anyone who could honestly argue that 40% of the cost of auto loans is due to the ability to cram down loans on cars purchased primarily for personal use within the previous 910-days with a purchase money security interest. There just aren't that many folks filing for Chapter 13 bankruptcy, much less who fit into this particular set of circumstances, to have this kind of impact on pricing, regardless of the loss severities.

    Yet another case of baloney numbers shaping the bankruptcy debate. I hope the WSJ runs a correction on this.  Now there's some fact-checking for you. 

    [Update 3.6.09:
    Based on correspondence with Don Morgan, one of the NY Fed study's authors and Professor Zywicki, a few new points emerge:

    First, I misread the study too.  The 15bp finding is in a regression that measure the "difference-in-differences" in the spread between auto loans and Treasuries pre- and post-BAPCPA for states with and without unlimited homestead exemptions.  The study does not report the post-BAPCPA rate drop in auto loan rates.  The author, however, tells me that it turns out to be 46-56 bps, and to have strong statistical significance. So let the record stand corrected on this.  

    Second, regardless of whether the number is 15, 46, 56, or 265bps, the finding of a correlation does not mean there's causation.  But that's precisely what Professor Zywicki was pushing in the WSJ.   Unfortunately, it's just not a tenable claim.  

    It's possible that BAPCPA resulted in lower auto loan rates.  But in order to make a reasonable causation argument, one must first explain the similar or larger rate drops in 2000-2001 and in 2003 and in 2007 that have nothing to do with BAPCPA.  Otherwise, the causal argument is reduced to the fallacious post hoc ergo propter hoc variety.  

    The chart below, taken from the NY Fed study shows with the solid and dotted lines the spread between auto loan rates and Treasury's for states with and states without unlimited homestead exemptions.  They move in sync, and they clearly fall after BAPCPA.  But they also fall equally sharply before and after BAPCPA.  Auto loan rate spreads over Treasury jump around a lot, and the mere fact that they fell after BAPCPA doesn't prove anything.    

    (fwiw, Chart 5 appears to be incorrectly labelled in the study.  The study says that the "Left axis measures interest rate on new automobile loan (5 year) minus rate on government bond (5 year)."  If so, then 15bps would appear to be roughly the right measure.  Instead, the rate spread must be the right axis in bps, and the left axis must be measuring the difference in the auto-loan-treasury spread between limited and unlimited homestead exemption states.)  

    The problems with Professor Zywicki's causality argument don't end there.  Any causality argument must also distinguish between general impacts of BAPCPA (e.g, delinquency pipeline cleared out) and the auto-cramdown provision.  This type of event study cannot provide support for that.  The rate drop could be due to the hanging paragraph, but there's no responsible way to make that claim without addressing these other factors, and the NY Fed study doesn't attempt to do that. The fact that Professor Zywicki was off by 209-219 bps, rather than by a full 250 bps (something he couldn't have known from the study) doesn't absolve him of making an untenable causal claim. 

    The  bankruptcy policy debate should happen on the basis of the best possible evidence.  If more restrictive bankruptcy laws result in cheaper credit, that's a very important policy consideration, and for the integrity of the policy debate, we need to be working off the best numbers available. I've updated this post to make sure that the correct numbers are clear.  I'm still hopeful that Professor Zywicki will make clear that he doesn't stand by either his 265 bp claim or his untenable claim of causality.]

    [Updated 3.7.09

    Professor Zywicki has corrected on the 265 bp claim.  He still seems to be making causal assertions, however, such as that the study finds "the impact of eliminating cramdown was a reduction in
    interest rates of 56 or 46 basis points."  That's not quite right.  The study can't test the elimination of cramdown; it can only test the impact of BAPCPA as a whole.  In fairness, Zywicki later refers to the study finding the impact of BAPCPA, rather than the specific cramdown provision.  Regardless, Professor Zywicki still has no response to all of the equally large jumps up and down in the auto loan rate to Treasuries before and after BAPCPA, which casts serious doubt on any causal story.]

  • Bankruptcy Modification and the Emperor’s New Clothes

    Posted by

    Adam Levitin

    A new argument being advanced against bankruptcy modification is that it will result in trillions of dollars of losses and the collapse of the financial system.  This is the "the sky will fall" argument.  

    Leaving aside the grossly inflated numbers, let's be really clear that these are not losses that would be caused by bankruptcy modification.  These losses exist with or without bankruptcy modification.  All bankruptcy modification does is force these losses to be recognized now, rather than at some point down the road.  Bankruptcy modification doesn't change the underlying insolvency of many financial institutions.  One way or another, there are a lot of financial institutions that have to be recapitalized. 

    Financial institutions want to delay loss recognition as long as possible.  Maybe they're hoping that the market will magically rebound.  Maybe they think that 2006 prices are the "real" prices and "2009" prices are a very short-lived aberration.  But here's the crucial point:  homeowners bear the cost of delayed loss recognition by financial institutions.  Delayed loss recognition means homeowners floundering in unrealistic repayment plans and then losing their homes in foreclosure.  Delayed loss recognition means frozen credit markets because no one trusts financial institutions' balance sheets.  Delayed loss recognition means magnifying, shifting, and socializing losses.  We only make matters worse when we try to pretend that these losses don't exist.  

    We all know the story of the Emperor's New Clothes, and how everybody plays along with the emperor's conceit until a little boy points out that the emperor is stark naked.  To suggest that widespread financial institution insolvency would be caused by bankruptcy modification is akin to blaming the little boy for the emperor's nudity. 

  • Why the McCain Mortgage Refinancing Plan Won’t Fly

    Posted by

    Adam Levitin

    Last night John McCain presented a “new” plan to deal with the financial crisis. Unlike the bailout rescue bill, it is a bottom-up plan, not a top-down plan, meaning that it focuses on helping homeowners, not financial institutions.

    It’s commendable that now in October 2008, over a year into this foreclosure crisis, John McCain has recognized that homeowners need some help and is proposing to do something for them. The trouble is that his proposal won’t help.

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