This post first appeared on Minyanville.
When Bank of America (BAC) agreed to buy Countrywide, it didn’t just take on a mountain of questionably valued mortgage-related assets. It also took on huge legal liability.
San Diego City Attorney Mike Aguirre, who has a penchant for punitive lawsuits that rarely result in much more than a media frenzy, is accusing Countrywide of defrauding thousands of San Diego homeowners. A lawsuit has already been brought at the state level by California Attorney General Jerry Brown, as well as in several other states, including Washington and Illinois.
San Diego's suit takes aim at Countrywide’s alleged practice of coercing borrowers into risky adjustable rate mortgages (ARMs). Aguirre hopes to make San Diego a “foreclosure sanctuary” by preventing foreclosure proceedings on any property secured by a subprime ARM where the borrower owes more than the home is worth. (For more on what the glut of upside-down homeowners means for the future of the housing market, please read Finding the Bottom in Housing.)
The litigious City Attorney isn’t satisfied with just taking aim at Countrywide (and, by extension, Bank of America). Aguirre said he’s planning similar suits against Washington Mutual (WM), Wells Fargo (WFC) and Wachovia (WB).
While Aguirre’s heart may be in the right place, foreclosure moratoriums aren’t part of the road to recovery for the housing market. Opportunistic mortgage market participants are buying delinquent mortgages on the cheap, forgiving some part of the debt and giving borrowers a fresh start. Government intervention in this process will simply scare off lenders, since they'll have limited recourse if the loan goes sour.
At best, such suits will simply drive up the cost of new mortgages. At worst, they'll bring the recovery process to a standstill.
Foreclosures are nasty, painful and tragic. They are, however, a necessary part of the mortgage process, enabling lenders to recoup losses on bad loans.
Mandating an end to foreclosures is like telling the IRS it can’t go after tax evaders or preventing cops from chasing down burglars. This is not to say victims of foreclosures are criminals or necessarily deserve to be thrown out on the street, but living in a law-abiding society means that contracts must be enforced.
The moment we waive one group’s obligation to honor their collective word, the floodgates are open.
This certainly isn't the last lawsuit we’ll see following the collapse of the mortgage market. In fact, it’s just the tip of the iceberg. A couple years from now, when Option ARMs begin to reset, class action lawsuits will bear down on lenders like a rumbling avalanche rolling down a steep slope.
Banks would be wise to get long some lawyers.
Showing posts with label wm. Show all posts
Showing posts with label wm. Show all posts
Friday, July 25, 2008
Tuesday, July 15, 2008
Mortgage Reform: Why Government Intelligence is Oxymoron
This post first appeared on Minyanville and our sister site Dawn Patrol.
After leading the banking sector to its largest ever one-day drop yesterday, Washington Mutual (WM), in an effort to assuage concerns that it's facing a cash crunch, released a statement claiming that the bank is "well-capitalized."
Though the stock bucked the trend this morning as the broader financial complex continued its unrelenting sell-off, shareholders aren’t likely to be comforted by the WaMu’s pleas for calm.
The largest savings-and-loan in the country has seen share prices fall below $4 following the seizure of IndyMac (IMB) by benevolent federal banking regulators; investors fear WaMu could be next.
IndyMac was reopened on Monday to handle endless lines of depositors hoping to recover their pennies from the bank’s coffers.
In a stark reminder of just how dicey bottom-picking can be, Bloomberg reminded us that private-equity firm TPG led a consortium of investors in providing the bank with $7 billion in much-needed cash in April, when the stock traded at $13. Those daring saviors have seen most of their investment wiped out.
TPG did, however, slip a protective clause into the deal: If the stock drops below $8.75 -- which it clearly has -- TPG is owed the difference, effectively putting the bank on the hook for its own equity losses. While protecting TPG's investment, this feature also makes it considerably more costly, if not impossible, for the bank to raise more capital, which would further dilute shares.
As more details emerge about these and other onerous terms with which banks have been forced to agree in their efforts to raise capital, it's becoming clear just how misguidedly optimistic investors were when such deals were first announced. Banking expert Minyan Peter wrote of the WaMu deal:
“I think the problem for most market participants right now is the assumption [that] what we're experiencing looks something like 'their prior experiences in banking crises.' And to me, that's why we have seen such a big rally over the past two weeks -- because, based on prior experience, a rally feels very right, right about now.
But for all the reasons I shared before, this one is different.”
We’re now seeing just how different this one is.
Professor Depew explained Friday how the Fannie Mae (FNM) and Freddie Mac (FRE) crisis is different from the Long-Term Capital Management failure in 1998: In this case, massive losses by financial institutions around the world are a symptom, not the cause.
A few misplaced bets aren’t to blame for the market turmoil; neither is rumor-mongering. The financial system’s problems, and by extension the economy’s, are rooted in years of mispriced risk and excessive leverage. Markets are now witnessing the destruction of that debt at a rate that’s stomach-churning to the traditional buy-and-hold investor.
The process, though painful, is necessary. The debt will be destroyed, firms will go out of business and the economy will slow, if not contract. All this is healthy. Agonizing, to be sure, but healthy.
As Toddo wrote yesterday on the Buzz and Banter, “The big picture blues will lead to an unfortunate destination, but that’s necessary to rebuild the foundation for sustainable economic growth. Once we get there, those with capital will be in a fantastic position to prosper.”
After leading the banking sector to its largest ever one-day drop yesterday, Washington Mutual (WM), in an effort to assuage concerns that it's facing a cash crunch, released a statement claiming that the bank is "well-capitalized."
Though the stock bucked the trend this morning as the broader financial complex continued its unrelenting sell-off, shareholders aren’t likely to be comforted by the WaMu’s pleas for calm.
The largest savings-and-loan in the country has seen share prices fall below $4 following the seizure of IndyMac (IMB) by benevolent federal banking regulators; investors fear WaMu could be next.
IndyMac was reopened on Monday to handle endless lines of depositors hoping to recover their pennies from the bank’s coffers.
In a stark reminder of just how dicey bottom-picking can be, Bloomberg reminded us that private-equity firm TPG led a consortium of investors in providing the bank with $7 billion in much-needed cash in April, when the stock traded at $13. Those daring saviors have seen most of their investment wiped out.
TPG did, however, slip a protective clause into the deal: If the stock drops below $8.75 -- which it clearly has -- TPG is owed the difference, effectively putting the bank on the hook for its own equity losses. While protecting TPG's investment, this feature also makes it considerably more costly, if not impossible, for the bank to raise more capital, which would further dilute shares.
As more details emerge about these and other onerous terms with which banks have been forced to agree in their efforts to raise capital, it's becoming clear just how misguidedly optimistic investors were when such deals were first announced. Banking expert Minyan Peter wrote of the WaMu deal:
“I think the problem for most market participants right now is the assumption [that] what we're experiencing looks something like 'their prior experiences in banking crises.' And to me, that's why we have seen such a big rally over the past two weeks -- because, based on prior experience, a rally feels very right, right about now.
But for all the reasons I shared before, this one is different.”
We’re now seeing just how different this one is.
Professor Depew explained Friday how the Fannie Mae (FNM) and Freddie Mac (FRE) crisis is different from the Long-Term Capital Management failure in 1998: In this case, massive losses by financial institutions around the world are a symptom, not the cause.
A few misplaced bets aren’t to blame for the market turmoil; neither is rumor-mongering. The financial system’s problems, and by extension the economy’s, are rooted in years of mispriced risk and excessive leverage. Markets are now witnessing the destruction of that debt at a rate that’s stomach-churning to the traditional buy-and-hold investor.
The process, though painful, is necessary. The debt will be destroyed, firms will go out of business and the economy will slow, if not contract. All this is healthy. Agonizing, to be sure, but healthy.
As Toddo wrote yesterday on the Buzz and Banter, “The big picture blues will lead to an unfortunate destination, but that’s necessary to rebuild the foundation for sustainable economic growth. Once we get there, those with capital will be in a fantastic position to prosper.”
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