Comments on: Citigroup and Dick Durbin rewrite bankruptcy law—but won't the investors be mad? http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/ Commentary on the economy, the markets, and business Sat, 28 Nov 2009 16:55:17 +0000 http://wordpress.com/ hourly 1 By: plukasiak http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12606 plukasiak Mon, 12 Jan 2009 17:58:34 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12606 <i> I've spent exactly zero days in law school, but I have talked to some lawyers about this, and it seems to me that servicers should be protected as long as they act in the interest of investors in the aggregate.</i> well, "in the interest of investors in the aggregate" sounds like the kind of term that invites lawsuits by those who get screwed ;) I've spent exactly zero days in law school, but I have talked to some lawyers about this, and it seems to me that servicers should be protected as long as they act in the interest of investors in the aggregate.

well, "in the interest of investors in the aggregate" sounds like the kind of term that invites lawsuits by those who get screwed ;)

]]> By: Barbara Kiviat http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12604 Barbara Kiviat Mon, 12 Jan 2009 15:39:31 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12604 @plukasiak: You have a good point about investors not being a homogenous group: holders of lower quality tranches get hit differently than holders of higher quality ones especially with certain sorts of modifications, like principal reduction. I'd just point out, though, that the servicer has a fiduciary duty to the securitization trust as whole. I've spent exactly zero days in law school, but I have talked to some lawyers about this, and it seems to me that servicers should be protected as long as they act in the interest of investors in the aggregate. - @tegwar: You're right that it's hard work to figure out which loans should be modified and how. But it's not impossible: http://www.time.com/time/magazine/article/0,9171,1869202,00.html - @dadfox: Thanks. @plukasiak: You have a good point about investors not being a homogenous group: holders of lower quality tranches get hit differently than holders of higher quality ones especially with certain sorts of modifications, like principal reduction. I'd just point out, though, that the servicer has a fiduciary duty to the securitization trust as whole. I've spent exactly zero days in law school, but I have talked to some lawyers about this, and it seems to me that servicers should be protected as long as they act in the interest of investors in the aggregate.
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@tegwar: You're right that it's hard work to figure out which loans should be modified and how. But it's not impossible: http://www.time.com/time/magazine/article/0,9171,1869202,00.html
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@dadfox: Thanks.

]]> By: tegwar http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12602 tegwar Sun, 11 Jan 2009 21:25:53 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12602 I'm kinda offended at the present state of bankruptcy law - primary residences can't be adjusted but second / vacation properties (and most other debts) can. Talk about a sop to the irresponsible well-off while punishing workaday families. I know bankruptcy protects primary residences in other ways, but this is quite the penalty (moreso now than previously). So fix that. But Barbara! strikes me as correct - fixing bankruptcy isn't enough. And not just for softhearted reasons. Every mortgage which is underwater is a foreclosure / bankruptcy threat. And so long as those threats remain, the value of the corresponding mortgage backed securities will remain depressed to account for that risk. And, at root, isn't it this risk which has turned these MBS into 'toxic sludge' thus seizing up balance sheets (oh yes, other factors and securities are involved... but this is just a blog comment). And so long as those threats linger out there, so too will the sludge. Families shouldn't be forced to send their financial footing to purgatory (7 years as a suspect creditor class; that's a window long enough to screw up a middle-class families college, retirement, etc plans) to avail themselves of loan modifications. Should the modification be 'free' or 'painless'? probably not - granting the servicer a modest 'equity stake' in the subsequent sale of the property doesn't strike me as controversial. Also, I doubt we want a wave of bankruptcies erupting - bankruptcy wipes slates clean, yes; but it also gums up the operation of the economy (i.e. harder to get credit, everyone else faces higher rates as a result, etc). Finally, the law is special for a reason, it is authority. The proliferation of voluntary programs neuters the authority power of the law and lets systematic problems linger rather than solving anything. There's a reason we look to government in trying times; and that reason is not government's ability to think up voluntary solutions. The difficulty, as alluded, is in determining which loans need or warrant modification (that answer should probably have more to do with the properties of the loan and less to do with the properties of the family). Hard work, indeed. But as I hear it, the financial services world is a well compensated one. Tough to sympathize with those types of complaints (other, of course, than the morale of it all). A too rough sketch: Order every firm to go through their books, analyze what they own and recommend loans for modification. Every loan tranche they own a share of which goes into foreclosure and is found to have been in need of a modification results in a meaninful penalty payment made by those who owned a tranche and failed to flag the need for a modification. I'm kinda offended at the present state of bankruptcy law - primary residences can't be adjusted but second / vacation properties (and most other debts) can. Talk about a sop to the irresponsible well-off while punishing workaday families. I know bankruptcy protects primary residences in other ways, but this is quite the penalty (moreso now than previously). So fix that.

But Barbara! strikes me as correct - fixing bankruptcy isn't enough. And not just for softhearted reasons. Every mortgage which is underwater is a foreclosure / bankruptcy threat. And so long as those threats remain, the value of the corresponding mortgage backed securities will remain depressed to account for that risk. And, at root, isn't it this risk which has turned these MBS into 'toxic sludge' thus seizing up balance sheets (oh yes, other factors and securities are involved... but this is just a blog comment). And so long as those threats linger out there, so too will the sludge.

Families shouldn't be forced to send their financial footing to purgatory (7 years as a suspect creditor class; that's a window long enough to screw up a middle-class families college, retirement, etc plans) to avail themselves of loan modifications. Should the modification be 'free' or 'painless'? probably not - granting the servicer a modest 'equity stake' in the subsequent sale of the property doesn't strike me as controversial. Also, I doubt we want a wave of bankruptcies erupting - bankruptcy wipes slates clean, yes; but it also gums up the operation of the economy (i.e. harder to get credit, everyone else faces higher rates as a result, etc).

Finally, the law is special for a reason, it is authority. The proliferation of voluntary programs neuters the authority power of the law and lets systematic problems linger rather than solving anything. There's a reason we look to government in trying times; and that reason is not government's ability to think up voluntary solutions.

The difficulty, as alluded, is in determining which loans need or warrant modification (that answer should probably have more to do with the properties of the loan and less to do with the properties of the family). Hard work, indeed. But as I hear it, the financial services world is a well compensated one. Tough to sympathize with those types of complaints (other, of course, than the morale of it all). A too rough sketch: Order every firm to go through their books, analyze what they own and recommend loans for modification. Every loan tranche they own a share of which goes into foreclosure and is found to have been in need of a modification results in a meaninful penalty payment made by those who owned a tranche and failed to flag the need for a modification.

]]> By: plukasiak http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12600 plukasiak Sat, 10 Jan 2009 22:46:58 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12600 <i>So everyone sits on their hands and waits. I asked him what he thought about Fannie and Freddie paying servicers $800 for each loan they modify, and Sheila Bair wanting to hand out $1,000, and he said he thought such efforts were directionally correct—but that to really spark modifications, the amount would have to be much more. He was just guessing, but after thinking a bit about typical servicing fees, he said probably at least $2,500.</i> _ The more I think about this, the more it bothers me. _ While I have no problem with the government paying whatever is necessary to determine the current market value of a property (which shouldn't cost $2500), that's the only thing we taxpayers should be on the hook for -- because that is really the only thing that has changed. Lenders already collected "origination" fees and "points" to assess the credit-worthiness of borrowers, and paying for that should be the responsibility of the lenders themselves. So everyone sits on their hands and waits. I asked him what he thought about Fannie and Freddie paying servicers $800 for each loan they modify, and Sheila Bair wanting to hand out $1,000, and he said he thought such efforts were directionally correct—but that to really spark modifications, the amount would have to be much more. He was just guessing, but after thinking a bit about typical servicing fees, he said probably at least $2,500.
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The more I think about this, the more it bothers me.
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While I have no problem with the government paying whatever is necessary to determine the current market value of a property (which shouldn't cost $2500), that's the only thing we taxpayers should be on the hook for -- because that is really the only thing that has changed. Lenders already collected "origination" fees and "points" to assess the credit-worthiness of borrowers, and paying for that should be the responsibility of the lenders themselves.

]]> By: dadfox http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12598 dadfox Sat, 10 Jan 2009 19:49:59 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12598 On the Charlie Rose show last week, Martin Feldstein said that the only way out of our present mess was to renegotiate mortgages. The housing marker has to be stabilized. The government should supply backup funds but the lenders will have to back off and take their share of the loss. I also saw a story in the SF Chronicle about a mortgage broker in CA who was renegotiating mortgages since it appeared him that he would lose less money that way. Maybe we have to go through bankruptcy court on the more complicated situations to force the issue but think of the losses and agony involved there! I certainly do approve of rewriting our bankruptcy laws to get back where we used to be. That goes for credit cards, too. I have much more sympathy for the guy who bought a house at the top of the market taking advantage of special credit terms than I have for the guy who pushed him into it. On the Charlie Rose show last week, Martin Feldstein said that the only way out of our present mess was to renegotiate mortgages. The housing marker has to be stabilized. The government should supply backup funds but the lenders will have to back off and take their share of the loss. I also saw a story in the SF Chronicle about a mortgage broker in CA who was renegotiating mortgages since it appeared him that he would lose less money that way.

Maybe we have to go through bankruptcy court on the more complicated situations to force the issue but think of the losses and agony involved there! I certainly do approve of rewriting our bankruptcy laws to get back where we used to be. That goes for credit cards, too.

I have much more sympathy for the guy who bought a house at the top of the market taking advantage of special credit terms than I have for the guy who pushed him into it.

]]> By: curmudgeon57 http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12597 curmudgeon57 Sat, 10 Jan 2009 19:19:36 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12597 @Paul: No argument here. The sales pitch was crazy. But call me old-fashioned - I just can't get around the fact that people signed up for hundreds of thousands of dollars in mortgage debt that they knew they couldn't pay back. @Paul: No argument here. The sales pitch was crazy. But call me old-fashioned - I just can't get around the fact that people signed up for hundreds of thousands of dollars in mortgage debt that they knew they couldn't pay back.

]]> By: plukasiak http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12594 plukasiak Sat, 10 Jan 2009 13:36:39 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12594 <i>But I'm also wondering if it might be an indication that we're finally past the point of blaming investors for the hang-up. The other day I was talking to one such investor at a big commercial bank...</i> _ while not every investor in a mortgage backed security (let alone those who invested in credit default swaps on MBSs) might object to mortgage modification, <i>each</i> of them has the right to sue if the issuer of the security <i>unilaterally</i> changes the terms (including the payout) on that security. _ The problem, of course, is the whole "trache" system -- and who loses out when a mortgage is revamped. If you bought the lest risky trache (that backed by the first 20% of equity, and providing the lowest return) you don't think that a restructuring should affect your investment. If you bought the riskiest trache, each mortgage modification is likely to result in your equity claim being zero. _ (my guess is that the person you spoke to works for an institution that has little exposure in the riskiest traches...) _ While I agree that bankrupty (especially under current law) is not the ideal way to achieve mortgage modification, absent legislation that authorizes modification of mortgages that have been securitized, the only mortgages that can be modified are those that are held by individual banks -- and IIRC, the percentage of non-securitized mortgages is quite small. _ <i> I just have trouble getting past the fact that many, many individuals signed on the dotted line for mortgages that they knew, or reasonably should have known, they had no chance of paying back. </i> _ Actually, the whole sales pitch was based on the borrowers ability to sell the home at an even higher price if they couldn't make the payments -- in other words, the realtors and mortgage brokers told home buyers that "the worst that could happen" is that they'd have to sell their home (at a substantial profit) to pay off their mortgage obligations. Real estate was presented not merely as "an investment", but as an investment that couldn't lose -- worst case scenario was having to move while pocketing a nice chunk of cash. _ So yeah, there are probably lots of people who had doubts about their ability to fulfill their obligations under the terms of the mortgage --- but the people whose income was dependent upon home sales assured them that it didn't matter. _ Justin's article about clawbacks in the finanacial sector is interesting, but if we're going to get serious about clawbacks, they should include clawbacks from realtors and mortgage brokers who made out like bandits during the housing bubble -- they were acting in their own self-interest, and so far have "walked away" from any responsibility for the crisis. But I'm also wondering if it might be an indication that we're finally past the point of blaming investors for the hang-up. The other day I was talking to one such investor at a big commercial bank...
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while not every investor in a mortgage backed security (let alone those who invested in credit default swaps on MBSs) might object to mortgage modification, each of them has the right to sue if the issuer of the security unilaterally changes the terms (including the payout) on that security.
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The problem, of course, is the whole "trache" system -- and who loses out when a mortgage is revamped. If you bought the lest risky trache (that backed by the first 20% of equity, and providing the lowest return) you don't think that a restructuring should affect your investment. If you bought the riskiest trache, each mortgage modification is likely to result in your equity claim being zero.
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(my guess is that the person you spoke to works for an institution that has little exposure in the riskiest traches...)
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While I agree that bankrupty (especially under current law) is not the ideal way to achieve mortgage modification, absent legislation that authorizes modification of mortgages that have been securitized, the only mortgages that can be modified are those that are held by individual banks -- and IIRC, the percentage of non-securitized mortgages is quite small.
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I just have trouble getting past the fact that many, many individuals signed on the dotted line for mortgages that they knew, or reasonably should have known, they had no chance of paying back.
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Actually, the whole sales pitch was based on the borrowers ability to sell the home at an even higher price if they couldn't make the payments -- in other words, the realtors and mortgage brokers told home buyers that "the worst that could happen" is that they'd have to sell their home (at a substantial profit) to pay off their mortgage obligations. Real estate was presented not merely as "an investment", but as an investment that couldn't lose -- worst case scenario was having to move while pocketing a nice chunk of cash.
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So yeah, there are probably lots of people who had doubts about their ability to fulfill their obligations under the terms of the mortgage --- but the people whose income was dependent upon home sales assured them that it didn't matter.
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Justin's article about clawbacks in the finanacial sector is interesting, but if we're going to get serious about clawbacks, they should include clawbacks from realtors and mortgage brokers who made out like bandits during the housing bubble -- they were acting in their own self-interest, and so far have "walked away" from any responsibility for the crisis.

]]> By: dadfox http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12593 dadfox Sat, 10 Jan 2009 03:19:51 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12593 I'm with you all the way, Barbara. I'm with you all the way, Barbara.

]]> By: curmudgeon57 http://curiouscapitalist.blogs.time.com/2009/01/09/citigroup-and-dick-durbin-rewrite-bankruptcy-law%e2%80%94but-wont-the-investors-be-mad/comment-page-1/#comment-12588 curmudgeon57 Fri, 09 Jan 2009 23:14:43 +0000 http://curiouscapitalist.blogs.time.com/?p=3900#comment-12588 Boy, Barbara, I really appreciate your argument in the aggregate, but I just have trouble getting past the fact that many, many individuals signed on the dotted line for mortgages that they knew, or reasonably should have known, they had no chance of paying back. You can point to easy loans, and less-than-honest mortgage brokers, but there's got to be a large measure of consumer fault here that I just don't think you're acknowledging. - There is no question that foreclosures are a problem that have to be fixed. But anything out of bankruptcy might give too many people the idea that it wasn't ultimately their fault, and they can do it again with impunity. We keep talking about unintended consequences in bailouts for banks, the auto industry, and so on, but I just see a big potential for unintended consequences here that you aren't even acknowledging. - I'm not blaming you in any sense. There is something here that is both sensible and compassionate. I'm just not sure that gets us where we want to go. Boy, Barbara, I really appreciate your argument in the aggregate, but I just have trouble getting past the fact that many, many individuals signed on the dotted line for mortgages that they knew, or reasonably should have known, they had no chance of paying back. You can point to easy loans, and less-than-honest mortgage brokers, but there's got to be a large measure of consumer fault here that I just don't think you're acknowledging.
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There is no question that foreclosures are a problem that have to be fixed. But anything out of bankruptcy might give too many people the idea that it wasn't ultimately their fault, and they can do it again with impunity. We keep talking about unintended consequences in bailouts for banks, the auto industry, and so on, but I just see a big potential for unintended consequences here that you aren't even acknowledging.
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I'm not blaming you in any sense. There is something here that is both sensible and compassionate. I'm just not sure that gets us where we want to go.

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