The FDIC's Other Friday Gambit

Marla Singer's picture

Fridays seem to have become the day to dump bad news as a consequence of the lazy tendency of some members of the Fourth Estate to head out early to start their weekends.  (There is a reason it isn't FDIC Failure Tuesday- part of it involves the ease of moving retail deposits to their new home, but reporting plays a role as well).  For those who are, instead, actually looking for the sort of things that might encourage concealment, Friday has become like a recurring birthday 52 times a year.  There are always a few presents bouncing around on the same day.  The FDIC is an especially active user of the Fourth Estate Friday gambit.  Today is no exception, even before the bank failure list hits the wire.  Witness the vaguely titled: Agencies Issue Final Rule for Mortgage Loans Modified Under the Home Affordable Mortgage Program.

To summarize, banks are generally allowed to risk-weight certain first-lien residential mortgages (and some additional second-liens) at 50%.  Loans not meeting the requirements get slapped with a 100% risk weighting requirement.  Reasonably, the Office of the Comptroller of the Currency (the "OCC") generally considers mortgage loans that have been modified to be "restructured" for the purposes of the rule.  The same applies to loans 90 days or more past due.  The Board of Governors of the Federal Reserve has a similar rule.  Obviously, if you've modified the terms substantially you are looking at a riskier bit of paper.  "Restructured" loans or loans 90 days or more overdue generally have to be held at 100% risk-weightings.  This would have the effect of doubling the loan's capital requirements for the holding bank.  Not anymore.

Since late June of this year, an interim rule has permitted modified loans to be held at their original risk weightings.  Today that rule has been made "final."  Perhaps the most interesting part of the release is this passage:

Consistent with the FDIC’s general risk-based capital rules, if a mortgage loan were to again be restructured after being modified under the Program, the loan could be assigned a risk weight of 50 percent provided the loan, as modified, is not 90 days or more past due or in nonaccrual status and meets the other applicable criteria for a 50 percent risk weight.

Perhaps we are just being befuddled by the FDIC's legalese, but this sounds to us like re-modifying a loan resets the 90 day clock, and so long as modification continues every 89th day, one could keep a troubled loan in the 50% bracket indefinitely.  You also seem to be able to get 100% weighted loans down to 50% via modification.

Astute readers will also want to look at footnote 44 which appears to expand the term "Prudent underwriting standards" to permit LTV to be calculated against the "most current appraisal."  Sounds great until you consider that these are almost certainly bubble-era appraisals.  (What bank is going to force new appraisals in this environment and post the attendant write-downs?)

Question: When a bank does the HAMP modification is it required to reflect the reduced principal amount as a loss 100% in that quarter?  What's the accounting treatment for making a $100K loan at 5% then reducing it to a $70K loan at 2%?  When and where does the bank have to show that $30K loss of principal?

Obviously, this all has the effect of making bank balance sheets even more opaque than they already were and significantly increasing loss risk.  (Been wondering why the loss ratios for recent bank failures have been so high?)  But, then, you expected that on a Friday.  Didn't you?

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digalert's picture

grrrrr restrain grrrrr calm grr, ok, I'm getting used to this stuff.

chumbawamba's picture

"Seems to have become"?  It's been like that for a while, Marla.

I am Chumbawamba.

ghostfaceinvestah's picture

Good catch.  Lots of regulatory forbearance all over the place.

How much credit for insurance coverage are the banks getting against the insurance they bought from now-single-B-rated mortgage insurers?

Our entire financial system is insolvent but is being given the opportunity to "earn out of it".  Worked so well during the early days of the S&L crisis, why not try it again?

economessed's picture

I'll say it again:  Finance and Accounting is on the verge of being an X-Games event.  In addition to 75 foot tall skateboard ramp tricks, 2,000 foot long snowboard tube acrobatics, and 145 mph dirt bike aerial loops through flaming hoops, CPA's will restructure balance sheets and repackage debt in America's newest extreme sport.

Cognitive Dissonance's picture

From the sublime to the ridiculous. The many different ways they can cook the books is not limited by their imagination but by our tolerance. Anyone had enough?

I didn't think so.

OK, bank failure Friday is here once again. Let the world continuously refresh the FDIC home page waiting on the magic number for tonight. I guess all that matters is who's taking book and what's the over/under for 11-13-2009?

RozzertheDropsky's picture

Let's set it at 8, just to start the bidding.

earnyermoney's picture

I'll take 9 failures and 2.5 Billion hit to DIF

geopol's picture

I'll take three hundred,, 36 billion to hit the DIF...Can we talk??? Thats conservative...Let's get fucking real here,,, the easier question is,,what banks are not insolvent?


FDIC, You need a loan??? Timmy has a smile on his face..

Don Smith's picture

I take the under, but just barely.  I'm guessing 6-7.  No more than 1 with assets over $1B.


Perhaps the over/under should be cumulative impact on DIF?  Shall we set the over/under at $1.5B in DIF losses?

Cognitive Dissonance's picture

As long as I get to hold the cash, I don't care where or what is set. Considering I'll run off with the money and you guys will get bailed out, what difference does it make? Did I mention I only take cash?

RozzertheDropsky's picture

Shocking, but you seem to be suggesting that banks would play games with mortgage values on their books in order to give the appearance of solvency where none exists. I'm trying to think if there's anything in recent history which is sort of like this. No, can't think of it. This is brand new.

kaptainkrunch's picture

ENRON is peanuts to what is now taking place.  damn shame..

ghostfaceinvestah's picture

yeah, what's going to be really interesting is the extent to which the auditors "play ball" this time on the annual statements.  unaudited quarterlies are easy for fudging numbers, but auditors haven't forgotten the lesson of Andersen.  i expect a few battle royals between CFOs and regulators on one side, and auditors on the other.

geopol's picture

Jeff Skilling, based on what is happening , should be home without monitoring on a $20.00 bond..

SDRII's picture

harry winston banner ad...a compliment to ZH readers?

Anonymous's picture

Well I'm sure this will all end well.

Anonymous's picture

The understanding that I got from this memo is that is a bank does a loan mod on a home they get to keep the original value of the asset on their books. Wow, that is an incentive to do a bunch of loan mods.

deadhead's picture

Thanks for this report Marla....well written and greatly appreciated!


Gwynplaine's picture
Gwynplaine (not verified) Nov 13, 2009 5:40 PM

Keep up the good work Marla.  I've learned a lot in the past few months.  Thanks.

torabora's picture

I can spin up a bank, give myself a fat salary, BK it, and retire happily ever after....right? That's OK?

Breaker's picture

The FDIC language quoted in the article does not say delinquent loans can be restructured every 90 days and stay at 50% valuation. The relevant provision is " . . . provided the loan, as modified, is not 90 days or more past due."

The language allows repeated restructurings of loans that are NOT delinquent without incurring the 100% valuation.