Blame the Victims and Enrich the Perpetrators

Janet Tavakoli is the president of Tavakoli Structured Finance, and has more than 20 years of experience in senior investment banking positions, trading, structuring and marketing structured financial products. She is a former adjunct associate professor of derivatives at the University of Chicago’s Graduate School of Business.  Author of: Credit Derivatives & Synthetic Structures (1998, 2001), Collateralized Debt Obligations & Structured Finance (2003), Structured Finance & Collateralized Debt Obligations (2008), and Dear Mr. Buffett: What an Investor Learns 1,269 Miles from Wall Street (2009).

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It’s outrageous the way subprime borrowers swarmed and solicited unsuspecting lenders and camped out in the offices of investment banks to push them to find ways to finance their insatiable need for capital to purchase homes. It’s a scandal the way they got in bed with appraisers to get the home values stated at three to five times market value. It’s criminal the way they falsified income to push through the mortgage loans. Oh wait… they didn’t. [Hat tip to Nomi Prins, author of It Takes a Pillage.]

While there were instances of fraud by borrowers, the key drivers of our housing crisis were fraud perpetrated by mortgage lenders and securities fraud — by some of our most revered financial institutions — that provided money to fuel fraudulent mortgage lending.

After the largest bank bailout in world history, we have a national epidemic of foreclosure fraud. In cases where foreclosures are being delayed, banks are walking away from abandoned homes and sticking local taxpayers with the bill to clean up the mess they left behind.

Yet, as Arianna Huffington points out in her latest book, banks continue to find ways to get Americans to subsidize problems that the banks themselves were chiefly responsible for creating. Consumers struggle to keep up with payments as the unemployment rate rises along with food and energy prices, and loan resets kick in:

When they don’t, banks, trying to offset losses in other areas, turn around, hike interest rates, and impose all manner of fees and penalties–all of which makes it less likely consumers will be able to pay off mounting debts.
Third World America: How Our Politicians Are Abandoning the Middle Class and Betraying the American Dream Pp. 77 & 78.

GSAMP: Garbage Sold at Mythical Prices

In 2007, the state of Ohio kicked the California-based New Century mortgage lending carpetbaggers out of the state and barred New Century from doing business after despicable practices. A complaint of alleged fraud on the part of Goldman Sachs detailed its close relationships with Countrywide, New Century, and Fremont. The complaint showed Goldman knew of “an accelerating meltdown for subprime lenders such as New Century and Fremont.” Despite known serious loan problems, Goldman continued to securitize the loans and sell them in packages of residential mortgage backed securities.

Suspect deals like GSAMP-2006 S3; $494 million of securities bought by institutional investors in April 2006 were created and distributed by Goldman Sachs Alternative Mortgage Products (GSAMP).

Fortune’s Allan Sloan and Doris Burke followed the deal as its value slid ever downward as well as the fudgy way the deal’s deteriorating value seemed to be overstated by the trustee’s report:

More than a third of the loans were on homes in California, then a superhot market, now a frigid one. Defaults and rating downgrades began almost immediately. In July 2008, the last piece of the issue originally rated below AAA defaulted — it stopped making interest payments. Now every month’s report by the issue’s trustee, Deutsche Bank, shows that the old AAAs — now rated D by S&P and Ca by Moody’s [junk ratings] — continue to rot out.
As of Oct. 26, date of the most recent available trustee’s report, only $79.6 million of mortgages were left, supporting $159.9 million of bonds…But even worse, those mortgages aren’t worth anything like their $79.6 million of face value, according to ABSNet Loan HomeVal…As of Sept. 26 — a slightly different date from what we’re using above — ABSNet valued the remaining mortgages in our issue at a tad above 20% their face value. Now, watch this math. If the mortgages are worth 20% of their face value and each dollar of mortgages supports more than $2 of bonds, it means that the remaining bonds are worth maybe 10% of face value.

“Junk mortgages: It just gets worse, ” by Allan Sloan and Doris Burke, Fortune, December 1, 2009.

“Countrywide Broke the Law”

In above mentioned complaint against Goldman Sachs, allegations of suspect practices from mortgage lenders, including Countrywide, now owned by Bank of America, were revealed. According to a former Countrywide employee:

“approximately 90% of all reduced documentation loans [also known as “liars’ loans] sold out of a Chicago office had inflated incomes, and one of Countrywide’s [mortgage brokerage arms] routinely doubled the amount of the potential borrower’s income…so that borrowers could qualify for loans they could not afford.”

When Countrywide’s employees received documents verifying income that showed the borrower couldn’t afford the mortgage and didn’t qualify for a loan, they simply ignored it and “the loan was re-submitted as a stated income loan with an inflated income figure so as to facilitate the approval of the loan.” In other words, the former Countrywide employee said that brokers, not borrowers, engaged in massive fraud to push loans through the system and earn commissions.

Illinois Attorney General Lisa Madigan told First Business Morning News: “Countrywide broke the law, homeowners did not.”

Pump and Dump

The same banks that supplied money — and in some cases now own — suspect mortgage lenders also packaged up and sold those loans to investors. These banks also own or owned “servicers” that are supposed to act as stewards for investors. But if servicers cannot recover foreclosure costs combined with the costs of maintaining and reselling the house, they often abandon the property. After pumping up appraisals and falsifying borrowers’ income on applications, banks are walking away. Once again, American taxpayers will foot the bill:

In Chicago, the mortgage servicers and trustees most often associated with the [abandoned] properties are Bank of America, with 314 properties; Wells Fargo (234), U.S. Bank (185), Deutsche Bank (178), and JPMorgan Chase (165).
“More banks walking away from homes, adding to housing crisis,” by Mary Ellen Podmolik, Chicago Tribune, January 13, 2011. (Source of data on homes apparently abaondoned in the foreclosure process is a new local study by the Woodstock Instititue.)

Despite evidence of widespread interconnected mortgage lending, securitization, and foreclosure wrong-doing and fraud, there are no meaningful felony indictments. Arianna Huffington suggests a solution and a long and difficult road ahead:

The most effective way of fixing the multitude of problems facing America is through the democratic process, but the democratic process itself is badly broken. That is why the first step toward stopping our relentless transformation into Third World America has to be breaking the choke hold that special interest money has on our politicians.
Third World America P. 172