Most readers were not happy when I didn’t buy into the mainstream presentation of a the widespread news reports that a letter sent on behalf of a group of investors constituting approximately $16.5 billion (per the Wall Street Journal) of $47 billion (presumably face amount) of bonds was a Really Big Deal in terms of the damage it might do to Bank of America.
Let’s start with the obvious. I’m no fan of Countrywide, in fact I was a early to criticize Bank of America’s staged purchase. I think mods are a great thing, and anything to promote mods is a plus. There is plenty of evidence that servicers behave badly, so the idea that Countrywide has behaved in ways that would make people eager to sue them is entirely credible. So you would think I’d like this case.
While the letter that the investors sent to Countrywide is laying the groundwork for litigation, any litigation is going to be more of an uphill battle and less lucrative than the breathless reports would lead you to believe. Part of this overreaction is in keeping with the excitement over similar putback litigation by the monolines, who despite their better grounds for lawsuits, is similarly overhyped. But the presence of famous names, particularly that of the New York Fed, has led this case-in-the-making to be treated as more damaging than it is likely to be.
And with misreporting to boot, no wonder Mr. Market got excited. This is from The Street.com:
The news follows reports earlier Tuesday that institutional investors are pressuring Bank of America to repurchase $47 billion worth of mortgage-backed securities.
No, sports fans, the investors group is not seeking a repurchase, but a putback of bad loans, and that is a subset of the total value of the deal. Again, recall that the investor press release reports that they hold 25% of voting interest; the Wall Street Journal puts their holdings at $16.5 billion (which we are assuming is face amount) of the total.
The underlying beef, in simple form, is that Countrywide has not done right by the investors as a servicer and and really ought to have put a lot of loans back to the originator, which in this case happens to be Countywide, but almost certainly a different legal entity (we have Countrywide as Master Servicer, identified in the documents as Countrywide Home Loans Servicing LP ;note that the Bank of New York is also a recipient of the letter but per its own assessment it not presently a target). Here is the juicy part of the letter:
1. Section 2.03(c) of the PSAs states that “Upon discovery by any of the parties hereto of a breach of a representation or warranty with respect to a Mortgage Loan made pursuant to Section 2.03(a) … that materially and adversely affects the interests of the Certificateholders in that Mortgage Loan, the party discovering such breach shall give prompt notice thereof to the other parties.” The Master Servicer has failed to give notice to the other parties in the following respects:
a. Although it regularly modifies loans, and in the process of doing so has discovered that specific loans violated the required representations and warranties at the time the Seller sold them to the Trusts, the Master Servicer has not notified the other parties of this breach;
b. Although it has been specifically notified by MBIA, Ambac, FGIC, Assured Guaranty, and other mortgage and mono-line insurers of specific loans that violated the required representations and warranties, the Master Servicer has not notified any other parties of these breaches of representations and warranties;
c. Although aware of loans that specifically violate the required Seller representations and warranties, the Master Servicer has failed to enforce the Sellers’ repurchase obligations, as is required by Section 2.03; and,
d. Although there are tens of thousands of loans in the RMBS pools that secure the Certificates, the Trustee has advised the Holders that the Master Servicer has never notified it of the discovery of even one mortgage that violated applicable representations and warranties at the time it was purchased by the Trusts.
The real significance of this move is political. It is a new front in the battle between investors and banks. However, this measure isn’t as radical as it sounds; Freddie and Fannie have been putting back certain types of bad mortgages to major banks for some time, which has led to an ongoing drain to major bank earnings. But Freddie and Fannie deals provide for relatively straightforward putback provisions. The process here is procedurally far more difficult, and establishing damages is also more cumbersome and costly. That means the odds of success and the level of any payout are likely to be lower than most assume. Note that a secondary objective is for Countrywide to accelerate its handling of delinquent loans. From the first report on this story, by Jody Shenn of Bloomberg:
If Countrywide doesn’t correct the servicing problems within a few months, her clients could have the right to pursue legal action against Bank of America, Bank of New York or both, she said. “None of the bondholders are opposed to modifications for deserving borrowers, but you’ve got to get it done” in a timely fashion, she added.
Let’s look at the major issues:
This is not going to play out quickly. The group has sent a “Notice of Non-Performance,” which is intended to start a 60 day period for Countrywide to remedy the alleged breaches. Countrywide is likely to adopt a posture of foot-dragging, for instance, by saying they need more time to conduct their review. And after that period is done, Countrywide is likely to reply that it found no (or perhaps very few) material breaches that would justify investor action. So this has to go at least a round, perhaps longer, before any litigation will be filed to declare Countrywide in default of its servicing obligations.
Any lawsuit has to pass procedural hurdles. The Bloomberg article mentioned that the investors may lack standing to sue and that is not a non-issue. The problem is that unlike Fannie and Freddie, the investors have to get to Countrywide-as-originator through Countrywide-as-servicer. Now that language from the letter seemed really strong, right? Surely there is a problem here……but wait! Consider this discussion from Subprime Shakeout:
Nevertheless, these efforts may well fail for an additional reason that was cited as a basis for Bank of New York’s refusal to comply with Patrick’s earlier request – the failure to provide evidence of a specific breach. Though Patrick’s letter is reported to identify several provisions of the relevant PSAs that it alleges were violated, it’s unclear what, if any, specific evidence Patrick has provided that would induce the trustee to act. A Bank of New York spokesman has already indicated that the trustee will not act in response to this letter, stating, “[The letter] appears to be directed to Countrywide and does not ask BNY Mellon to take any action. We will continue to perform our duties as trustee.”
Yves here. That comment was written without having had the benefit of reviewing the actual text of the letter. The problem in suing is a bit circular: you need to be able to argue specifically what sort of breaches occured, but the investors lack access to the loan information to enable them to refer to specific breaches in a lawsuit. The finesse appears to be that the investors are trying to piggyback on the actions of various monolines who are also suing Countrywide and argue that because they are suing for breaches, Countrywide failed in its duties to inform them (note the monoline contracts with the originators give them much easier access to the loan level information. But the problem is these monoline claims are mere allegations; Countrywide is disputing them. Even if it had an obligation to notify the certificate holders, it seems hard to believe it would extend to having to provide the loan information, which is what the investors really need.
Rep and warranty suits tend not to produce big settlements. Even if the investor group can get access to the loan files, it has to argue its breaches on a loan by loan basis. It needs to prove that the loan defaulted not for normal credit loss reasons, such as death, disability, job loss, but due to failure to adhere to the representations and warranties made. (see ScribD for an illustrative set of reps and warranties, pages 3-6). This is brutal for both sides to pursue, so the two sides tend to settle rather than get very far with pursuing the case. And Bank of America has indicated it is well aware of this issue and will fight hard:
“It’s loan by loan, and we have the resources to deploy in that kind of review,” said Brian T. Moynihan, Bank of America’s chief executive, on a conference call to discuss the bank’s results for the third quarter.
This gives Bank of America more than a bit of a home court advantage. It can deploy comparatively cheap bank employees to do this analysis; the investors will have to use more costly experts and law firm resources.
Although the sample of my sources is limited, their experience with rep and warrranty cases is that the plaintiff only recovers 10-20% of the amount of credit losses. Now these loans were really drecky; we might assume 25%, and Bank of America has been reserving 1/3 against other rep and warranty cases (but their language says this is all over the map, so the reserves may also vary a lot by deal. It’s also possible that BofA reserves generously for this sort of litigation). But let’s do some math, and readers are invited to chip in.
Normally, you can sue only based on actual losses, not expected losses. On subprime deals, these are only running at 10% thus far (the 28%+ loss estimates for all subprime RMBS are total expected losses, only a portion of which have been realized). I’d wonder if the reason Bank of America’s reserves are so high is that there are such firm forecasts of future subprime losses that they are also reserving for a portion of expected losses. So let’s do some rough math; you can use your own assumptions for damage percentages.
The key bit is subrime losses are only 10% of original par amount. Principal paydowns are about 50% on these deals. Of the remaining 40%, the expected losses are about 40-45%.
So if you take the $16.5 billion the investors own x 10% (losses) x 33% (losses due to rep and warranty breach) = $545 million
If you assume they get a lesser percentage on expected losses, say 15% (I’ll be generous and assume 20%), then the math is:
$16.5 billion x 40% (remaining value) x (45%) expected losses x 20% (amount deemed due to rep and warranty breaches) = $594 million.
So the two together take you to just over $1 billion.
The one factor that could make these numbers much larger is if the bond amounts reported in the media are market value, not face value, then I would need to apply much higher percentages to get the right loss and expected loss amounts.
But as you can see, the multi-billion claim looks to be a stretch. Given that the attorney made a big procedural misstep on her first effort, I would not take her estimates of recoveries as seriously as I might otherwise.
Posted: 20 Oct 2010 01:33 AM PDT
By Richard Alford, a former economist at the New York Fed. Since then, he has worked in the financial industry as a trading floor economist and strategist on both the sell side and the buy side.
Even prior to the financial crisis of 2007, economists and policymakers actively debated whether central banks should use interest rate policy to “lean” against possible asset price bubbles or “clean” up after an asset price bubble burst, reserving interest rate policy for inflation targeting. A consensus has started to emerge: there are instances in which it would be advantageous for central banks to use interest rate policy to lean against asset price bubbles. Some current and former Fed officials have reversed their position and now embrace the consensus view. This view is consistent with the position that the Fed kept the Fed funds rate “too low for too long,” but any admission of that by Fed officials remains implicit at best. It also appears that the Fed has not generalized any lessons it might have learned from the crisis. It has committed itself to both exceptionally low interest rates for an extended period of time and now to QE despite parallels between run up to the crisis of 2007 and current developments in the currency and international capital markets.
Speeches by Vice Chair Yellen and former Vice Chair Kohn and recent testimony by Bernanke reflect this somewhat reluctant acceptance of the idea that in some cases leaning against price bubbles is appropriate policy.
It is conceivable that accommodative monetary policy could provide tinder for a buildup of leverage and excessive risk-taking in the financial system.
By the same token, I would not want to argue that it is never appropriate for monetary policy to take into account its potential effect on financial stability. Regulation is imperfect. Financial imbalances may emerge even if we strengthen macroprudential oversight and control.
We should not categorically rule out using monetary policy to address financial imbalances, given the damage that they can cause; the FOMC is closely monitoring financial conditions for signs of such imbalances and will continue to do so.
For all these reasons, my strong preference would be to use regulation and supervision to strengthen the financial system and lean against developing problems. Given our current state of knowledge, monetary policy would be used only if imbalances were building and regulatory policies were either unavailable or had been shown to be ineffective.
All of the statements, as reluctant as they are, indicate a clear retreat from the position that interest rate policy should never reflect concerns about financial stability. The position that interest rates were too low for too long is most clearly reflected in the Kohn statement. Kohn lists two contingencies, which if both are met, warrant the Fed setting rates higher than inflation and the output would imply. They are 1) economic/financial imbalances must exist, and 2) regulatory policies must be absence or ineffective. (I would add that the imbalances must reflect unusually rapid credit growth.) Both of the contingencies were clearly satisfied in the period post-2001. There were numerous unsustainable economic and financial imbalances: the personal savings rate near zero, and an economy reliant on unsustainable levels of consumption and housing investment relative to income, both of which were driven by unsustainable asset prices. In addition, major financial institutions were over-leveraged and reliant on short-term funding. As we all know, regulatory policy was ineffective or nonexistent.
At the risk of putting words in Kohn’s mouth, he clearly suggests that interest rates were too low given the imbalances and the state of regulation. It is not a full confession, but perhaps a mea culpa.
Unfortunately, the Fed seems unable to generalize from the lesson that at times appropriate interest rate policy is a function of more than just inflation and the output gap. Currently, the large, unsustainable global financial and economic imbalances are parallels to the imbalances that existed in the US prior to the crisis. The international organizations charged with promoting and maintaining stability in the international markets are woefully inadequate to deal with a crisis involving the Dollar.
Nonetheless, the Fed seems bent on setting policy as if US prices and income were exclusively determined by domestic economic concerns and despite its status as the bank of issue of the world’s reserve currency. Bernanke’s recent speech made no mention whatsoever of any non-domestic policy concerns. Despite unsettled currency markets and the US’s status as a capital importer, the Fed has embraced QE and pledged to pursue a low interest rate policy for an extended period of time, presumably regardless of any international developments.
It is fair to say that the Fed is once again demonstrating its decided limitations as a risk manager. Given the current economic climate and recent developments (FX intervention and introduction of capital controls), the a risk of a Dollar crisis is much more than tail risk. The costs given a crisis are difficult to estimate as a Dollar crisis would be a currency crisis wherein the currency in crisis had been the reserve currency. Range and pattern of diffusion are anybody’s guess.
If a risk management discipline were applied to the decision to adopt QE, it would rule out the Fed’s position as stated by Bernanke. The costs to the US (and the world) economy that would be experienced should Fed policy precipitate a Dollar crisis would be much larger by orders of magnitude than any probable (or possible) benefits that might be realized if QE is able to raise inflationary expectations. In his recent speech, Bernanke alluded to a risk return analysis of QE, but he just seems to have ignored the existence of the rest of the world and any feedback on the US.
Hat tip reader Darby Shaw, via Detroit News:
GMAC Mortgage resumed foreclosures in 23 states Tuesday after it had halted practices earlier this month following an employee’s admission of approving thousands of foreclosure notices without reading the paperwork.
“As we review the affected files in the 23 judicial states and take any needed remediation, the foreclosure process continues,” said Gina Proia, a spokeswoman for GMAC Mortgage. The original freeze did not include Michigan.
Last week, the U.S. Treasury Department’s special inspector general confirmed it is looking into the practices of GMAC Mortgage, part of Detroit-based Ally Financial Inc., which is 56.3 percent owned by the federal government. The government has loaned $17.2 billion to Ally Financial.
GMAC said last week it has hired legal and accounting firms to review foreclosures in all 50 states. Bank of America Corp. also said Tuesday it has resumed foreclosures in all 50 states.
Lawyers who defend homeowners against foreclosures, even when their client has a good case, like servicing errors, often run into bank-friendly judges. The plaintiff’s argument typically boils down to, “We’re a bank, they are a deadbeat.”
It looks as if banks are increasingly hoist on their own petard. There has been so much coverage of what can most charitably be called “improprieties” that some judges are no longer accepting the bank case at face value.
We had linked to a Bloomberg story last week describing how Florida’s rocket docket had slowed down considerably. Although the main cause was banks delaying foreclosures to check documentation, the story also made clear that judges now felt compelled to take borrower allegations of fraud seriously, rather than zip through cases.
Some courts in formerly bank-friendly Florida are going further and demanding underlying documents, not just affidavits. From The Palm Beach Post:
Palm Beach County judges are going to be looking closer at foreclosure filings, asking for evidence to be attached to affidavits instead of taking them at face value.
The Florida Rules of Civil Procedure requires affidavits to not only include sworn knowledge as to the statements made in the affidavit, but also to have “sworn or certified copies of all papers or parts thereof referred to in an affidavit” attached.
Chief Judge Peter Blanc said with the volume of foreclosures judges were processing in the past, uncontested cases were not being questioned as to the attachment of documents.
But considering recent revelations that the affidavits were likely flawed, he thinks it’s a good idea to start requiring the supporting evidence.
“In the past, the judges weren’t requiring the attachments, now we’ve got something in the record saying there may be a problem, so now they should attach the documents,” Blanc said. “Dealing with the volume we are dealing with, we want to make sure all of our i’s are dotted and t’s crossed.”
So the bank overdoing on streamlining and cost cutting isn’t merely leading them to have to redo affidavits; if this court is a harbinger, other judges may starting to demand banks produce more documents. Small changes like that over thousands of cases will have an impact on servicer economics. I’m sure few readers will shed a tear.
Wow, this is getting wild. Admittedly, the Cook County sheriff has taken a firm stand in the past on foreclosure evictions, but this is a more sweeping action in the past. Telling the banks that admitted they used improper affidavits but now insist that everything is fine isn’t good enough is a bold more. At this point, this action an outlier. But if further doubts arise about the propriety of bank foreclosure proceedings, will other local law enforcement officials fall in line?
From CNBC (hat tip reader Darby Shaw):
Two of the largest U.S. mortgage servicers have said they will resume home foreclosures, but a big-city sheriff has news for them: he won’t enforce their foreclosure evictions.
The sheriff for Cook County, Illinois, which includes the city of Chicago, said on Tuesday he will not enforce foreclosure evictions for Bank of America Corp, JPMorgan Chase and Co. and GMAC Mortgage/Ally Financial until they prove those foreclosures were handled “properly and legally.”
Bank of America, the largest U.S. mortgage servicer, and GMAC, on Monday both announced rollbacks from their foreclosure moratoriums.
The announcement by Cook County Sheriff Thomas Dart comes after weeks of damaging accusations of shoddy paperwork that may have caused some people to be illegally evicted from their homes.
“I can’t possibly be expected to evict people from their homes when the banks themselves can’t say for sure everything was done properly,” Dart said in the statement.
“I need some kind of assurance that we aren’t evicting families based on fraudulent behavior by the banks. Until that happens, I can’t in good conscience keep carrying out evictions involving these banks,” he added.
Bank of America, GMAC and JPMorgan Chase along with their subsidiaries, make up around a third of the roughly 3,700 eviction orders filed at the Cook County sheriff’s office, the statement said.
At least some legislators are taking the foreclosure crisis seriously. Representative John Conyers, Marcy Kaptur, Raúl Grijalva, and Alan Grayson wrote to Neil Barofsky, Special Inspector General for the Troubled Asset Relief Program, to ask that he investigate foreclosure fraud and conduct an audit of GMAC, Fannie, and Freddie. SIGTARP is a full fledged prosecutor, and Barofsky has an established history of being a serious investigator.
In a parallel action, six senators (Sherrod Brown, Tom Harkin, Barbara Boxer, Debbie Stabenow, Sheldon Whitehouse and Mark Begich wrote Timothy Geithner and Ben Bernanke, demanding that they crack down on foreclosure abuses “in the best interest of homeowners and investors.”
In general (quelle surprise), the Congressional response is breaking along party lines, with Democrats at the liberal end of the spectrum taking interest, Republicans working with banks to try to make this go away quickly and the Obama Adminstration trying to befriend the banks as much as possible without riling progressives too much. From Politco:
How long will President Barack Obama and Congress be able to avoid wading into the foreclosure mess? …
Still, administration officials are wary of a backlash from liberal Democrats and progressive groups unhappy that the government hasn’t been more successful convincing banks to renegotiate mortgages for homeowners who can’t keep up with their payments. House Speaker Nancy Pelosi has asked the Justice Department and bank regulators to open investigations of foreclosure abuses but has not called for a nationwide moratorium.
Republican leaders have said little about the foreclosure problems, except for House GOP Whip Eric Cantor, who warned that a moratorium threatened to destabilize the housing recovery.
Behind the scenes, Republicans are consulting with the banks, which are hoping to reach a quick settlement with attorneys general from all 50 states who have announced a joint investigation into home foreclosures. The settlement would involve a sizable fine and some basic reforms to the foreclosure process.
By contrast, the official minders of banks seem to be doing their very best to look the other way.The Office of the Comptroller of the Currency is repeating bank talking points. From theHuffington Post:
The nation’s top bank regulator doesn’t believe homeowners are being harmed directly by an ongoing foreclosure fraud scandal, despite multiple reports of banks mistakenly evicting homeowners who aren’t even in foreclosure….
The Office of the Comptroller of the Currency does not view anecdotes like Jacobini’s as evidence of consumers being harmed by the unfolding foreclosure fraud scandal.
Yves here. This posture is curious on two levels. First, the remarks focus strictly on the robo signing issue, which as we have indicated, while a serious abuse of court processes, is a mere symptom of much deeper problems, most importantly, the failure to convey the promissory note to the securitization trust. But even on a more superficial level, the OCC is clearly adopting a “don’t ask, don’t tell” posture. Again from the Huffington Post:
Part of the purpose of having a human being actually look at a file and verify that a particular mortgage should be foreclosed is to prevent that kind of thing from happening,” said Alan White, a professor at the Valparaiso University Law School. “OCC assumes incorrectly that foreclosures are initiated (and the robosigning starts) ONLY after all efforts at modifications and short sales are exhausted. This is clearly incorrect. Servicers routinely file foreclosure (with robosigned affidavits) at the same time that their loss mitigation departments consider requests for modification and short sales.”
Yves again. We are also told there was a meeting yesterday among the OCC, the SEC, and others, in which the participants ‘fessed up that they were only coming to grips now some of the more serious legal questions. So how can the OCC then claim that there is not nothing to see here when it hasn’t even done its homework?
Similarly, a reader told us that the FDIC is also taking a bank friendly view. From an e-mail message:
I inadvertently got into a tussle with a senior Bair staff member.
It seems she is absolutely, positively convinced that the current foreclosure mess is just a paperwork issue. She claims that while allowances for litigation will have to increase, there really is nothing major to worry about. Her certainty made me more afraid, not less.
This is a variant of the strategy we saw employed in 2007 and much of 2008: a combination of lack of investigation, denial, and confidence building talk. Two beliefs seemed to be operative: first, that the financial system problems weren’t that bad, and second, siding with the bank was going to work out best for everyone. We know how valid those assumptions proved to be.
New fronts are opening in the foreclosure mess.
A lot of people have wondered why no one has gone to jail over what by commonsense standards is fraudulent activity. The possibility that the violations were indeed criminal is finally being investigated. From the Washington Post:
Federal law enforcement officials are investigating possible criminal violations in connection with the national foreclosure crisis, examining whether financial firms broke federal laws when they filed fraudulent court documents to seize people’s homes, according to people familiar with the matter.
The Obama administration’s Financial Fraud Enforcement Task Force is in the early stages of an investigation into whether banks and other companies that submitted flawed paperwork in state foreclosure proceedings may also have misled federal housing agencies, which now own or insure a majority of home loans, according to these sources.
The task force, which includes investigators from the Justice Department, Department of Housing and Urban Development and other agencies, is also looking into whether the submission of flawed paperwork during the foreclosure process violated mail or wire fraud laws. Financial fraud cases often involve these statutes.
Yves here. On the one hand, I would not underestimate the ability of Team Obama to give the banking industry a free pass when tough action is warranted. On the other hand, there is a proud tradition of the Federal government rousing itself when measure by the states run the risk of showing it to have been complacent to the point of negligence (one well known example is when state securities law suits force the generally lapdog SEC to take swing into gear). So if state or even private lawsuits expose enough damaging material, it will be hard for this task force to sit on its hands.
On another front, the ACLU is starting to obtain information to determine whether foreclosures in Florida (the so called rocket docket) violated Constitutional “due process” requirements:
The American Civil Liberties Union and the ACLU of Florida today filed public records requests with judicial officials in Florida to determine whether homeowners are having their constitutional rights violated during foreclosure proceedings and being unlawfully removed from their homes.
In Florida, where almost half a million foreclosure cases are pending, the state legislature recently spent over $9 million to create special foreclosure courts, staffed by retired judges, with the intent of speeding through the state’s backlog of such cases. But recent media reports in Florida and around the country, which reveal rampant error and fraud in the foreclosure process, have shown that courts should take particular care with foreclosure cases. Instead, in the rush to push foreclosure cases through the courts, Florida may be taking shortcuts and, in the process, forsaking constitutionally-required due process protections….
Filed with the Office of the State Court Administrator and the chief judges of all 20 of Florida’s circuit courts, the requests seek access to, among other things, all documents related to special court systems created to dispose of foreclosure cases and the rules and procedures in place that govern those systems…
Copies of the ACLU’s public records requests are available online at: www.aclu.org/racial-justice/aclu-seeks-information-about-constitutionality-florida-foreclosure-courts
Yves here. These initiatives are only in the early stages, but both show that the foreclosure crisis is moving from narrow legal issues to much bigger ones.
As dramatic as this headline sounds, there is much less here than meets the eye. In addition, either the article that discussed this development is confused, or the underlying legal pressure is not well framed.
First, let’s get to the report, which certainly sounds serious. BusinessWeek reports that PIMCO, BlackRock, and the New York Fed are pushing Bank of America to repurchase the delinquent mortgages underlying $47 billion of bonds:
Pacific Investment Management Co., BlackRock Inc. and the Federal Reserve Bank of New York are seeking to force Bank of America Corp. to repurchase soured mortgages packaged into $47 billion of bonds by its Countrywide Financial Corp. unit.
Note several things before we go any further: first, this is NOT litigation, it’s a mere nastygram. Second, this is almost certain to be a new strategy in a effort mounted by an investor group (presumably now identified to turn up the heat on BofA) which so far has gotten nowhere. An unidentified group tried pressuring the trustee of a similar amount of bonds to direct the repurchase of loans gone bad. The trustee said it wasn’t going to do anything. So now the same line is being tried on the servicer, Countrywiide, this time alleging that it is Countrywide’s responsibility to buy back the loans.
Also observe that the argument is that the Bank of America Countrywide unit violated its servicing obligations:
Countrywide also hasn’t met its contractual obligations as a servicer because it hasn’t asked for repurchases itself and is taking too long with foreclosures, either because of document or process mistakes or because it doesn’t have enough staff to evaluate borrowers for loan modifications, Patrick said. If the issues aren’t fixed within 60 days, BNY Mellon should declare Countrywide in default of its contracts, she said.
This part verges on comical. As much as we support the idea of having more servicers do loan mods (and having an investor group push for loan mods vitiates one of the servicer excuses, that investors will protest), this legal strategy looks barmy. First, Countrywide can demand repurchases only in the case of origination defects. Even though those arguably took place, given the recent revelation in FCIC testimony that pre-sale examination of many subprime pools revealed that the a significant portion of loans fell short of the stipulated standards, that fact set does not map into a neat or lucrative legal action. This is considered to be what is called a representation and warranty breach; they are costly to fight and don’t produce large settlements because the plaintiffs have to argue their case on a loan-by-loan basis and prove each default was the result of bad underwriting, not expected losses (remember these were risky loans) or bad luck (much higher than expected unemployment). The cost of loan-by-loan analysis means any litigation is very expensive and burdensome to win.
In addition, Countrywide did not make the reps and warranties about the loans, so its liability is going to be far less than the liability of the originator. However, the legal strategy appears to be to demand Countrywide put the breached loans (assuming a breach) back to the seller and, when they fail to do that, to sue them for breach of contract.
The odds are high that Countrywide was the seller of the loans – they issued many deals themselves.
The absurdity of this strategy is that they are asking Countrywide as servicer to put the loans back to Countrywide as seller.
And the second argument, that Countrywide has been slow to foreclose, may be true but would also be a slog to prove this is Countrywide’s fault, since court dockets are jammed and foreclosure times have slowed down across all servicers.
So the thrust here seems to be to threaten to fire Countrywide as servicer. How serious a threat is this? Answer: not at all. To fire Countrywide, the investor group would need to have a replacement. Servicing mortgage pools with meaningful delinquencies (meaning just about any pool, and ones with big losses like the ones at issue are even worse) are massively cash flow negative to a servicer. Why? The servicer has to advance principal and interest to the investors when the borrower quits paying. In theory, it does so until the loan is deemed “irrecoverable”; in practice, per Tom Adams, who has spent his career in securitizations, it is until the advances equal the original loan amount. The servicer’s only way to get itself reimbursed is through foreclosures (we also believe they are dipping into other principal repayments, like refis and sales, which is not kosher).
So with it a certainty that no one with an operating brain cell would take over Countrywide’s servicing obligations unless they were paid to do so. And any such payment is contrary to the aim of the threatened action, which is to recover money for the investors.
So just because there is a litigation threat floating around a deserving target like Countrywide, don’t assume it will necessarily draw blood.
Posted: 19 Oct 2010 07:19 AM PDT
Well, at least we are number one as of yesterday, when Richard Smith noticed our rating, and today among business blogs. Don’t know how long this will last. But look how we beat blogs with a lot more people as dedicated contributors!
And if you look at the Technorati ratings for business blogs + news sites together, we are number two, with the Guardian as number one (although the news category is a bit spotty, odd who is and isn’t included).
Thanks to all you loyal readers and linkers, as well as our regular guest posters and contributors, including Tom Adams, Marshall Auerback, Ed Harrison, Richard Smith, and George Washington