Now that the Robo-Signing scandals have achieved full notoriety through the media, it is time to address the real issues facing investors in bank stocks. I also believe that the media is staring at the wrong target. Each major media outlet is copying what is popular or what the next outlet broke as a story versus where the true economic risks actually lie – which is essentially the real story and where the meat actually is. Here's what's truly at stake – the United States is now at risk of losing its hegemony as the financial capital of the world! Why? Because when we had the chance to put the injured banks to sleep and redirect resources to into new productivity, we instead allowed politics to shovel 100's of billions in tax payer capital into zombie institutions as they turned around and paid much of it right back out as bonuses. As a result, significant capital has been destroyed, the original problem has metastized, and the banks are still in zombie status, but with share prices that are multiples of the actual values of the entities that they allegedly represent – a perfect storm for a market crash that will make 2008 look like a bull rally! For those who feel I am being sensationalist, I refer you to my track record in making such claims.
The Japanese tried to hide massive NPAs in its banking system after a credit fueled bubble burst by sweeping them under a rug for political reasons. Here’s a newsflash – it didn’t work, it hasn’t worked for 20 years, and despite that Japan is embarking on QE v3.3 because it simply doesn’t believe that it is not working. Here are the steps the US is consciously taking it its bid to enter a 20 year deflationary spiral like Japan, and may I add that these steps were clearly delineated on BoomBustBlog ONE YEAR ago (Bad CRE, Rotten Home Loans, and the End of US Banking Prominence? Thursday, November 12th, 2009), so no one can say this is a surprise.
Step one: Hide the Truth!
Step two: Formulate intricate lies to placate the masses
In this case, the US bank stress tests: You’ve Been Bamboozled, Hoodwinked and Lied To! Here’s the Proof. What Are You Going to Do About It?. We have government complicity in the purposeful opacity of the values of the mortgage assets (see the FDIC “Prudent Commercial Real Estate Loan Workouts” guidance issued Oct 30th, as reported by the WSJ: Banks Hasten to Adopt New Loan Rules and the new FDIC guidance that states performing loans “made to creditworthy borrowers” will not require write downs “solely because the value of the underlying collateral declined”).
Step three: Being forced to face the music
This is where we are now, and I will go through this in more detail below
Step four: The eradication of US banks from global prominence
Not the floundering of the banks that I predicted in 2007 and 2008, but the outright collapse of many (and probably most) of the big ones, or at the very least significant shrinkage. Does this sound outrageous to you? For those of you who believe that the government’s “pretend and extend” policy has any chance in hell of working, or better yet, that we are not following in the footsteps of Japan, let’s take a pictorial trip through recent history. There are practically no Japanese banks in the top 20 bank category on global basis by 2003 – NONE (save potentially Nomura, which arguably survived in name, alone). As you can see, they literally dominated 90% of the space in 1990!
Click to enlarge…
Source: Cap Gemini Banking M&A
The European banks are not faring much better than the US banks,either – reference the Pan-European Sovergein Debt Crisis, as I see it. This is so much more serious than robo-signing scandals, and I have been shouting about this non-sense of 3 years straight. Well, are we following the Japanese “Lost Path”? Notwithstanding the damning evidence of hide the truth and hide amongst lies linked to above, ponder the following rather dated, but still quite poignant data…
Keep in mind that the US housing futures data above is based on the unrealistically optimistic Case Shiller index – reference Those Who Blindly Follow Housing Prices Without Taking Other Metrics Into Consideration Are Missing the Housing Depression of the New Millennium.
Robo-Signing: What is the real issue at hand?
The Robo-Signing issues have arisen because some mortgage servicers
have been signing off foreclosure documents without actually reading
them, or doing so without the presence of a notary. Thus, the Office of
the Comptroller of the Currency (OCC) has directed seven of the US’
biggest lenders — BAC, JPM, WFC, Citi, HSBC, PNC and UBS — to review
their foreclosure processes. Consequently, Bank of America, JP Morgan
Chase and GMAC Mortgage have suspended foreclosure cases in 23 states
after noting their employees may have mishandled foreclosure documents. Goldman Sachs is following suit via their Litton Loans arm.
It should also be noted that the document forgery issues penetrate much
farther than just distressed properties and foreclosures. Evidence has
surfaced that all types of forgeries and misrepresentations are abound
in all types of mortgage paperwork. 4closureFraud (a sight where I sourced a lot of the recent robo-signing scandal info from) has a post that actually shows President Obama’s mortgage paperwork as a “Victim to Chase Robo-Signer” This mess, in and of itself, will be difficult to untangle.
For those who didn’t notices, this is a regulatory “hold it” to the MERS system and an alert to its constituency, many of whom are subjects of extensive BoomBustBlog forensic analysis. Major MERS shareholders include:
- Bank of America
- Chase Home Mortgage Corporation of the Southeast
- CitiMortgage, Inc.
- Fannie Mae
- Freddie Mac
- GMAC Residential Funding Corporation
- HSBC Finance Corporation
- Merrill Lynch Credit Corporation
- MGIC Investor Services Corporation
- Mortgage Bankers Association
- Nationwide Advantage Mortgage Company
- PMI Mortgage Insurance Company
- Stewart Title Guaranty Company
- SunTrust Morgage, Inc.
- United Guaranty Corporation
- Washington Mutual Bank
- Wells Fargo Bank, N.A.
These companies will start infighting as their myriad interest start to conflict with each other. Title insurers will balk at insuring what could be defective title, banks will fight insurers who will try to renege on insurance and/or put back loans through the warranties and representations clause as losses to investors mount though either increased expenses to work out the paperwork mess or outright losses due to fraud.
Make no mistake, the amount of litigation that is being thrown at these banks and service companies is significant, and they are shining lights on aspects of the banking world that were most conveniently kept secret, as in this class action suit that outlines the contradictory wording in the MERS paperwork (reference pages 10, 11 and 15). Pages 15 on makes issue of fraudulent assignments, of Robo-Signing fame – see for yourself;
Here is a deposition of one of the “said” secretaries from another suit in New Jersey…
Does MERS have any salaried employees?
Q Does MERS have any employees?
A Did they ever have any? I couldn’t hear you.
Q Does MERS have any employees currently?
Q In the last five years has MERS had any
Q To whom do the officers of MERS report?
A The Board of Directors.
Q To your knowledge has Mr. Hallinan ever
reported to the Board?
A He would have reported through me if there was
something to report.
Q So if I understand your answer, at least the
MERS officers reflected on Hultman Exhibit 4, if they
had something to report would report to you even though
you’re not an employee of MERS, is that correct?
MR. BROCHIN: Object to the form of the
A That’s correct.
Q And in what capacity would they report to you?
A As a corporate officer. I’m the secretary.
Q As a corporate officer of what?
Q So you are the secretary of MERS, but are not
an employee of MERS?
A That’s correct.
How many assistant secretaries have you
appointed pursuant to the April 9, 1998 resolution; how
many assistant secretaries of MERS have you appointed?
A I don’t know that number.
A I wouldn’t even begin to be able to tell you
Q Is it in the thousands?
Q Have you been doing this all around the
country in every state in the country?
Q And all these officers I understand are unpaid
officers of MERS?
Q And there’s no live person who is an employee
of MERS that they report to, is that correct, who is an
MR. BROCHIN: Object to the form of the
A There are no employees of MERS.
And even more damning, this particular suit gets right to the heart of the matter from an economic AND legal perspective (something that the previous suits have not) and that is that the banks were complicit in overvaluing both the lender and the collateral at the point of underwriting, and doing so on a broad basis. This is the notion behind my premise that a wave of losses and litigation will be coming any minute now as investors and the insurers facing claims from those investors attempt to put back loans on a wide scale and near universal basis as the rampant fraud of the real estate bubble of the new millenium is exposed and litigated throughout the court system.Those entities that swallowed loan mills such as Wachovia, Countrywide, Nationwide, Lehman, Bear Sterns, Merrill Lynch and WaMu will be feeling their indigestion.
I read through portions of a couple of filings and there appears to be some technical errors and maybe even a slight misunderstanding of the banking business, but if these guys (the plaintiff’s attorneys) get their act together in terms of coordinating with each other and getting some real expertise on the subject matter to bolster their filings, I really don’t see how this will not – at the very least – materially drive the expense ratios of both the banks and the investment pools, and at worst hasten the inevitable demise of those entities that underwrote or bought the bad paper then paid the gift of US taxpayer capital (TARP,ZIRP, PPIP, etc. ) out as bonuses versus alleviating the matter at hand.
Impact on RMBS and CDOs
Most analysts believe that a break in foreclosures will not be an optimistic sign for Residential Mortgage Backed Securities (RMBS). This is because RMBS portfolios that contain the foreclosure loans will likely experience higher loss severities due to longer liquidation timelines. Additionally, the RMBS market is expected to witness a large number of repurchases as well as higher monetary losses and ratings downgrades if it is proved that loans were not serviced in accordance with regulatory guidelines. Of course, I believe that servicing is the minor issue. It is the faulty underwriting that is the canary in the goldmine here, and the servicing issues is simply the impetus that will shine the light on the premise that at least half of the high LTV loans written were done so on a fraudulent basis.
Oct 4, 2010 … GMAC Homeowners In Maine File Class Action Lawsuit Complaint Against GMAC Mortgage Over Alleged False Foreclosure Documents, Affidavits and.
Jan 15, 2010 … 13 Responses to “Wrongful Foreclosure Class Action” … I would like to be included in your class action lawsuit. I am a victim of predatory …
o According to Canadian rating agency DBRS “The recent findings could have far reaching implications throughout the industry with hundreds of thousands of homeowners contesting foreclosures that are in process or have been completed; ultimately causing servicers to face losses due to expensive litigation and class action lawsuits. The biggest uncertainty remains on how the courts will view the “legality” of foreclosures that have already taken place and what actions, if any, will be taken to remedy the situation.
DBRS believes that servicers will be able to quickly correct and refile any deficient affidavits in addition to implementing the appropriate controls to ensure there is not another breakdown in process. However, RMBS that contain these loans will likely experience higher loss severities due to longer liquidation timelines, negative rating actions and the potential for loans to be repurchased out of the transaction due to breaches of representation and warranties if it is proven that they were not serviced in accordance with applicable guidelines. DBRS will continue to monitor the impact of this situation on its rated transactions and take any rating actions as necessary” (Source: http://ftalphaville.ft.com/blog/2010/10/05/360811/from-robo-signing-to-rmbs/)
o Researchers at DBRS also highlighted that the robo-signing debacle will likely lead to a large number of residential mortgage-backed securities repurchases as well as higher monetary losses and continual ratings downgrades if it is proven that loans were not serviced in accordance with federal guidelines. (Source: http://foreclosureblues.wordpress.com/2010/10/04/rmbs-buybacks-expected-to-increase-due-to-robo-signing-dbrs/)
Every material development is impetus for the potential for putbacks due to breaches of representation and warranties Uncertainty in the RMBS market in terms of actual valuation is a result of rampant and provable inflation of appraisal prices during the underwriting of said mortgages and not so much falsification of documents since in many cases those documents can be cured, but misrepresentation cannot! You do not hear this in the media circuits, but it is a fact. Thus, the underwriting banks face the chance of systemic losses. I have warned of this about a year ago – Banks Swallow Another $30 billion or So in More Losses as Their Share Prices Surge (Again). You see, banks often allowed for the inflation of appraisal values and/or income/assets, but the broker channel did it as par for the course.
This is the part that everybody seems to be overlooking…
All you really need to do is find the banks that accepted a lot of
broker business, factor in the expense of the class action suit
litigation that is popping up in nearly every state (try Googling it,
you will be amazed as big firms and store front lawyers alike are
throwing their hats in the ring), and you will see the easiest way out
of a potentially tough bind for investors is the put back. Where does
this land? Squarely on the balance sheet of the banks – who, BTW have
the money to attract even more predatory lawyers. A forensic review of
high LTV loans between 2003 and 2007 should find that at the very least
30% were aggressively valued, with a more realistic number coming in at
about 60%. Ask anyone who was in in the business at that time, I doubt
they will disagree.
When I warned of this LAST YEAR, it was not taken very seriously. I suggest all should think again – Reggie Middleton on JP Morgan’s “Blowout” Q4-09 Results. Let’s reminisce…
I pointed out an anomaly in JP Morgan’s “blowout” quarterly earnings release -
JP Morgan has increased its reserves with regards to repurchase of sold securities but the information surround these actions are very limited as the company does not separately report the repurchase reserves created to meet contingencies. However, the Company’s income from mortgage servicing was severely impacted by increase in repurchase reserves. Mortgage production revenue was negative $192 million against negative $70 million in 3Q09 and positive $62 million in 4Q08.
Counterparties who are accruing losses from bad loans, (ex. monoline insurers such as Ambac and MBIA, see A Super Scary Halloween Tale of 104 Basis Points Pt I & II, by Reggie Middleton circa November 2007,) are stepping up their aggression in pushing loans that appear to breach certain warranties or smack of fraud. I expect this activity to pick up significantly, and those banks that made significant use of brokers and third parties to place mortgages will be at material risk – much more so than the primarily direct writers. I’ll give you two guesses at which two banks are suspect. If you need a hint, take a look at who is increasing reserves for repurchases! JP Morgan and their not so profitable acquisition, WaMu!
As I said, losses should be ramping up on the mortgage sector. Notice the trend of housing prices after the onset of government bubble blowing: If Anybody Bothered to Take a Close Look at the Latest Housing Numbers…
PNC Bank and Wells Fargo are in very similar situations regarding acquiring stinky loan portfolios. I suggest subscribers review the latest forensic reports on each company to refresh as the companies report Q4 2009 earnings. Unlike JPM, these banks do not have the investment banking and trading fees of significance (albeit decreasing significance) to fall back on as a cushion to consumer and mortgage credit losses.
March 5 (Bloomberg) – Fannie Mae andFreddie Mac may force lenders includingBank of America Corp., JPMorgan Chase & Co., Wells Fargo & Co. and Citigroup Inc. to buy back $21 billion of home loans this year as part of a crackdown on faulty mortgages.
That’s the estimate of Oppenheimer & Co. analyst Chris Kotowski, who says U.S. banks could suffer losses of $7 billion this year when those loans are returned and get marked down to their true value. Fannie Mae and Freddie Mac, both controlled by the U.S. government, stuck the four biggest U.S. banks with losses of about $5 billion on buybacks in 2009, according to company filings made in the past two weeks.
The surge shows lenders are still paying the price for lax standards three years after mortgage markets collapsed under record defaults. Fannie Mae and Freddie Mac are looking for more faulty loans to return after suffering $202 billion of losses since 2007, and banks may have to go along, since the two U.S.- owned firms now buy at least 70 percent of new mortgages.
Freddie Mac forced lenders to buy back $4.1 billion of mortgages last year, almost triple the amount in 2008, according to a Feb. 26 filing. As of Dec. 31, Freddie Mac had another $4 billion outstanding loan-purchase demands that lenders hadn’t met, according to the filing. Fannie Mae didn’t disclose the amount of its loan-repurchase demands. Both firms were seized by the government in 2008 to stave off their collapse.
The government’s efforts might be counterproductive, since the Treasury and Federal Reserve are trying to help banks heal, FBR’s Miller said. The banks have to buy back the loans at par, and then take an impairment, because borrowers usually have stopped paying and the price of the underlying homehas plunged. JPMorgan said in a presentation last month that it loses about 50 cents on the dollar for every loan it has to buy back.
Striking a Balance
“It’s a fine line you’re walking, because the government’s trying to recapitalize the banks, not put them in bankruptcy, and then here’s Fannie and Freddie putting more pressure on the banks through these buybacks,” FBR’s Miller said. “If it becomes too big of an issue, the banks are going to complain to Congress, and they’re going to stop it.” [Of, course! Let the taxpayer eat the losses borne from our purposefully sloppy underwriting]
Bank of America recorded a $1.9 billion “warranties expense” for past and future buybacks of loans that weren’t properly written, seven times the 2008 amount, the bank said in a Feb. 26 filing. A spokesman for Charlotte, North Carolina- based Bank of America, Scott Silvestri, declined to comment.
JPMorgan, based in New York, recorded $1.6 billion of costs in 2009 from repurchases, including $500 million of losses on repurchased loans and $1 billion to increase reserves for future losses, according to a Feb. 24 filing.
“It’s become a very meaningful issue, and it will continue to be a meaningful issue for the next couple of years,” Charlie Scharf, JPMorgan’s head of retail banking, said at a Feb. 26 investor conference. He declined to say when the repurchase demands might peak.
“I can’t forecast the rates at which they’re going to continue,” she said. Her division lost $3.84 billion last year, as the bank overall posted a $6.28 billion profit. “The volume is increasing.”
Wells Fargo, ranked No. 1 among U.S. home lenders last year, bought back $1.3 billion of loans in 2009, triple the year-earlier amount, according to a Feb. 26 filing. The San Francisco-based bank recorded $927 million of costs last year associated with repurchases and estimated future losses.
Citigroup increased its repurchase reserve sixfold to $482 million, because of increased “trends in requests by investors for loan-documentation packages to be reviewed,” according to a Feb. 26 filing.
“The request for loan documentation packages is an early indicator of a potential claim,” New York-based Citigroup said.
According to a WSJ analysis, the RMBS market may have a balanced impact with the junior bondholders typically at the bottom of the credit structure could actually end up better off than expected. Senior bondholders, typically at the top, could end up worse off. This is because when houses that have been packaged into a mortgage bond are liquidated at a foreclosure sale—the very end of the foreclosure processes—the holders of the junior, or riskiest debt, would be the first investors to take losses. But if a foreclosure is delayed, the servicer must typically keep advancing payments that will go to all bondholders, including the junior debt holders, even though the home loan itself is producing no revenue stream. In addition, how the allocation of cost of re-processing the foreclosed loans, which could be significant also, remains a key concern. (Source: http://ftalphaville.ft.com/blog/2010/10/07/363876/updating-the-us-foreclosure-scandal/)
However, some analysts and bond traders have a contrarian view that the “Robo-signing” issues will not have a significant effect on the RMBS valuations, as most RMBS investments have been made after stringent performance modeling (Yeeeahhh, right! Just like the HPA (perpetual housing price appreciation assumptions utilized by Fitch during the boom to dole out AAA ratings on subprime trash! This is total and absolute BULLSHIT, but I am including it so as to be as balanced as possible). More so, they believe that the actual impact on RMBS valuations will depend on how long it takes for banks to tackle the problem.
- According to a RMBS manager at one capital market group, “the majority of investors currently involved in trading RMBS performed stringent performance modeling. Anyone who bought RMBS from 2006 and 2007, vintages from when presumably these robo-signed foreclosures were inked, would have run the collateral through extended resolution scenarios”. He also expects that bond rally will continue, and that problem would not emerge unless the robo-signing issue is not resolved in less than six months. As per the RMBS manager, “RMBS right now is trading like stocks. Besides, in the year-end, the book always goes up, it’s window dressing the portfolio.“
- Another bond trader, who is also has a bullish view for the market, believes that every single major servicer will face problems similar to Ally and JPMorgan, but still expects RMBS to remain well-valued considering overall loss severities are level and constant repayment rates remain healthy (source: http://www.housingwire.com/2010/10/01/robo-signers-dont-scare-the-mortgage-bond-market).
- According to Brett Schaffer, the president of Phoenix Capital Inc. and Phoenix Analytics Services Inc, “it’s premature to determine how big of a hit the “robo-signing” scandal will have on servicing valuations. Much depends on how long it takes for servicers to address the problem. If this gets resolved in fairly short order within a month or six weeks and … there isn’t any critical flaw in the mortgage servicers’ practices in general, then I don’t think it has really any impact,” On the other hand, if it is determined that there is a material flaw and there is going to be long-term foreclosure halts, then it probably would have a material impact on those particular firms. It’s not just a blanket statement for the market.”
- According to Robert Lee, senior vice president at Mortgage Industry Advisory Corp. in New York, “Servicing costs are going to rise regardless of how long it takes for the issue to be resolved, as companies hire employees to work through the documents and the foreclosure process is delayed. But the impact of those higher costs on mortgage servicing asset values may be minimal because many servicers have been conservative in their estimates. Servicing rights themselves right now are weaker than where the cash flow values are.” He also estimated the hit to most portfolios’ value from the fallout of the documentation scandal will be less than 10 basis points. (Servicing values are expressed as a percentage of the unpaid principal balance of the loans in a portfolio).
Overall, we at the BoomBust believe that the uncertainty on the impact of robo-signing on RMBS valuation will remain until the banks give clarity on how long the foreclosures are expected to remain suspended. We also believe that the media is staring at the wrong target. Each major media outlet is copying what is popular or what the next outlet broke as a story versus where the true economic risks actually lie – which is essentially the real story and where the meat actually is. Watch the W&R number over the next two quarters for those banks that purchased cesspool portfolios such as Countrywide, National City, Wachovia and WaMu, and let me know if they start to skyrocket.
In the meantime, I will be updating my forensic valuations of the big banks that I have covered right about the time they report in the upcoming weeks. These updates will include Morgan Stanley, Goldman Sachs, PNC, Wells Fargo, and JP Morgan. I will put them through the realistic stress test scenarios that our government failed to and have the results available to paying subscribers. Of course, I will factor in the very real probability of a surge in W&R activity, just as I warned last year. This is something that is just not found in banking analysis that I see on the Street. Below is an example of what was done last year for PNC…
For those of you want to know what the stress tests results of the big banks were if they used the NY Fed/FDIC official loss data, I have run the numbers for you. It doesn’t look very pretty in some cases. This content is paid subscriber-only, except for the two links that have public-lite and public excerpt included! Let’s walk through the PNC free data, in light of how misleading their latest quarterly report was (see For those that didn’t notice – Reggie Middleton on PNCl Q3-09 Results and then be sure to read At What Point Does Accounting Gimmickery Become an Outright Lie? Let’s Ask PNC).
Click any of these graphics to enlarge…
Notice the amount of leverage that PNC is using if one were to use the NY Fed and FDIC data in lieu of what PNC has proffered through their take home test.
As you can see from above, there is a significant difference between what the government’s SCAP tests reveal PNC will lose and what the government’s NY Fed and FDIC call sheet data says PNC will lose – a very significant difference. Solely as a result of looking at this chart, one should be willing to demand a second round of considerably more stringent stress testing.
If one were to granularly break down the foreseen losses to PNC’s portfolio using the government data…
In an act of near unprecedented generosity, I have included the PNC valuation along with the Blackrock contribution in the free PNC lite public download below (in alphabetical order).
Subscriber content that reveals what the banks REALLY needed in terms of capital and cushions to whether the true rate of losses and unemployment to come. You may subscribe here to access this content.