Have Banking Tactics Run Amok?

[The_Flying_Dutchman]

Anybody watch “60 minutes” on this issue?

Seems like a lot of people with sub prime loans managed to live in their new homes fully financed at 0 % for a specified term having taken cash incentives up front as well as equity loans. Now that the market is crashing their best bet is to just walk away having lived in a home for free for several years with extra cash to boot.

Did I hear that right?

If so, I don’t think Joe Shmoe who didn’t even put up a down payment is the big loser here. He really couldn’t afford a house before and he can walk away and go back to renting an apartment. But someone who probably has saving in a financial instutution for their retirement will get stung big time.

Hell, I hear that in some cases with these abandoned homes nobody knows who holds them.

[Voyager]

[QUOTE=Chief Pedant]
I am staggered at the notion that anyone but the borrower should be blamed for borrowing money the borrower borrowed. It boggles the mind.

I’m curious about what “power” and what “knowledge” it was that the lenders had.

[/quote]

I’m boggled by your ignorance about this subject. How do you think a bank decides whether to make a loan or not? Do you think they throw darts at a dartboard or something? They have tons of data that show the probability of people with various credit records, incomes, and levels of debt not being able to pay back a loan. If they decide to ignore income data or credit records, whose fault is that?

Lenders have money. They have no power to coerce anyone into taking out a loan.

True. But they also have the power to not make the loan. They made their loan decisions based on the ability to pay the teaser rate, not the rate that the loan would adjust to. Basically they were greedy. The difference between now and 20 years ago, say, is that they sell of their suspicious loans, and don’t have to eat their mistakes.

Borrowers, as someone pointed out upthread, have the most knowledge–or should be responsible for having the most knowledge–about their personal finances.

As someone so aptly mentioned, if borrowers were so dependable, why have credit checks at all? No doubt there was some fraudulent borrowing, no doubt there always is. But people are optimistic. They think they’ll get that raise, they think interest rates will go down so they can refinance, they think house values will go up. Remember the people covered by the program are current with their loans. Are you sure the bankers never told them not to worry about the adjustment, since it would never hurt them? Especially when the bankers got bonuses for selling these crap loans?

That people always make rational judgments about money matters has been disproved time and time again by behavioral economists. People have crazy discount rates, which vary wildly over time and amount of money. Making 401Ks the default for new employees greatly increases participation. People tend to hold on to assets they have long after the point where they should be sold. The value of something you possess in your mind is much greater than the value you assign the same thing that you don’t possess.

Painting lenders as having the most power and knowledge may make for effective rhetoric but it has no basis in fact.

Bullshit. Are you really claiming that a mortgage broker who writes loans every day has no more knowledge of the business than Joe Average who has never done this before? That a person who is emotionally invested in getting a house can make better decisions than a banker who is just thinking business and the numbers? The mind boggles.

It is true that whoever holds the paper stands to get “hurt” the most, along with taxpayers like me who are asked to pay for the folly and greed of overborrowing and the greed of overlending. However since that paper was bought by institutions whose expertise should be evaluating the paper they buy. I have no sympathy for them, nor do I feel any obligation to bail them out when they make bad decisions.

Guess what. The bailout plan doesn’t involve taxpayer money. It requires the lenders to maintain the current rates. So I don’t know what you’re complaining about.

[Voyager]

[QUOTE=Lochdale]

With the housing boom you had a massive number of people looking to get into the property market. The lenders responded to this. There is no real fault per se as the purchasers of the securities knew the risks as did the borrowers of the money. The banks who made the subprime loans (let’s not get into predatory lending) made a business decision to make the loan and will potentially suffer the consequences.

[/QUOTE]

Did they really know? From what I read a lot of paper that was partially crap loans was rated AAA. It appears that the lenders were not labeling the level of risk of some of these loans correctly, and not the predatory ones. If they had, the interest rates might have gone up enough to make them unattractive, or the lack of buyers would have cut the level of subprime lending. (A good thing at the top of a bubble.) And, as I mentioned, these instruments were so complicated that the investment houses don’t know their exposure, even today.

[Voyager]

[QUOTE=tomndebb]

However, this mess is much larger and it is due, in large part, to the banks playing with their/our money at levels they knew were irresponsible. When Joe Neverreads gets stuck with a foreclosure, that is a problem for Joe and his bank. When the banks (many of whose analysts noted that there was a limit to how far the subprime bubble could go) gleefully sold off their collected high risk mortgages to outfits who were not even as responsible as the borrowers and international financial institutions invested their/our money in what had to be recognizable from the top as really bad risks, then the banks are legitmately targeted for bad practices and the solution has to hurt someone, somewhere.

[/quote]

As I mentioned, these loans were rated as better than they were, so the financial institutions has some excuse. However I believe they also gave yields better than their rating would indicate, and so greedy investors snapped them up. At least one major bank figured out something was wrong, stayed away, and didn’t get burned.

And while I never quite figured how a subprime mortgage could ever be a good thing, there are a lot of people who read a lot of financial analysts in the papers who were proclaiming that borrowing twenty times your annual income was no big deal, so I have a bit of difficulty getting all contemptuous toward folks who simply believed the professionals–especialy when the professionals have demonstrated pretty well that we cannot trust them with our money, either.

I can understand you not getting this when you live in Ohio. In the Bay Area, you either paid an absurd amount for a house or commuted 2 hours each way. Before the bubble burst I saw statistics showing that a staggering number of people were paying 45 -50% of their income on housing. Faced with those kinds of numbers, you can see why they were willing to listen to the brokers. About every other ad on the radio was for ARMs, always giving interest rates for those with good credit, of course. (The ads now are for fixed - did we rip you off with an ARM? Now we can make it better.)

I suppose that if we were all saints with PhDs in economics, we’d know that living i a cramped apartment waiting for the bubble to burst (it was several years overdue) would be the rational thing to do, and I’m sure our friends who rant about the evil of the borrowers would do just that. But in the real world we expect banks to not make loans people clearly won’t be able to pay off, which is what didn’t happen.

[Cervaise]

[QUOTE=Chief Pedant]
I am staggered at the notion that anyone but the borrower should be blamed for borrowing money the borrower borrowed. It boggles the mind.
[/QUOTE]
If only it were that simple.

A couple of posts before that, you said:

@Chief Pedant

I am opposed to government bailouts. We ought to let institutions collapse when they make bad decisions, even when the effect of that collapse is widespread.

And that’s the part that isn’t going to happen.

The foolish borrowers are going to be (rightly) punished.

The foolish lenders are going to be bailed out, because while a few thousand homeless people may be unfortunate, the failure of our financial system would be disastrous. So now everybody’s running around trying to figure out how to stabilize things and minimize the impact and keep the gears turning.

And the big financial institutions, of course, knew that would happen.

“What’s the worst outcome?” they said. “If we look like we’re going to teeter and collapse, the feds will shovel money into the system and protect us. So gamble away!” Nobody on the lending side is going to feel the true impact of the situation. They’ll write down a few hundred million to a couple of billion dollars, maybe an executive or three will lose their jobs (until they get rehired in a few years once everybody’s forgotten the hangover), and the merry-go-round continues.

In a just world, the institutions would come begging for help with hats in hand, and the feds would say, “You rolled the dice, you suck on it.” Then a massive correction sets in, huge sections of the banking sector become temporarily insolvent, and shareholders sue the irresponsible managers into oblivion. It would hurt. A fucking lot. But it is exactly that pain that serves as warning against these kinds of shenanigans.

No pain = shenanigan city.

That is the fundamental unfairness at issue, and it’s why I think both sides of this debate are talking past one another.

[Voyager]

[QUOTE=Cervaise]

They’ll write down a few hundred million to a couple of billion dollars, maybe an executive or three will lose their jobs (until they get rehired in a few years once everybody’s forgotten the hangover), and the merry-go-round continues.

[/QUOTE]

You misspelled “a couple of weeks.” The two bozos from Merrill Lynch in charge of the division that lost tens of billions of bucks in this are now in hot demand, according to the Sunday Times business section. You’re not nearly cynical enough.

[Cervaise]

What can I say, I’m a conservative.

[Caffeine.addict]

I think that the banks definitely contributed to this mess by not following their own policies. Things such as no docs loans contributed to the mess. I’ve run into at least two different people who qualified for ridiculously large loans with pretty low unsubstantiated income. I think that there should be investigations into how a lot of these people got loans to begin with.

One colleague was telling me that he had someone come in to his office looking to declare bankruptcy. She had at least two different loans on her properties which totaled up to $600,000.00. She had a series of no doc loans in which her income was claimed to be $175,000.00 per year. She was a cleaning lady. When he asked her about that, she said, “Thats what the mortgage broker told me to put down”.

One contractor I know is an illegal immigrant who was able to qualify for a loan of $450,000.00 despite not really having a bank account. This was about a year ago and I heard that the house is being foreclosed on now.

These people are at fault but the financial institutions are at fault for lending these people more money without following more stringent procedures to ensure that there was some hope of being paid back.

[Cheesesteak]

[QUOTE=Cervaise]
In a just world, the institutions would come begging for help with hats in hand, and the feds would say, “You rolled the dice, you suck on it.” Then a massive correction sets in, huge sections of the banking sector become temporarily insolvent, and shareholders sue the irresponsible managers into oblivion. It would hurt. A fucking lot. But it is exactly that pain that serves as warning against these kinds of shenanigans.

No pain = shenanigan city.
[/QUOTE]
Certainly we’d like to see irresponsible banks feel pain for their stupidity. The problem is when allowing that to happen results in 100x that amount of pain spread across the entire economy, hurting people who had nothing to do with any of these loans.

We can laugh at all the dumb homeowners who are kicked out on the street, and all the banks that lose tens of billions of dollars. What do you do when people who didn’t make bad loans get laid off, and businesses who didn’t loan money stupidly shut down? If the economy goes in the crapper as a result of this, you’ll see a lot of it.

You can’t just shrug your shoulders and say “suck on it, we need to keep banks in line.” What you do, as a government, is bail out the banks, and try to keep foreclosures to a minimum, try to keep the economy together. In return for this largess, the banks and borrowers get to have a bit of their freedom taken away, so that another big bailout isn’t going to be needed 20 years from now, when they forget what happened in 2008.

[Anne_Neville]

[QUOTE=Caffeine.addict]
One colleague was telling me that he had someone come in to his office looking to declare bankruptcy. She had at least two different loans on her properties which totaled up to $600,000.00. She had a series of no doc loans in which her income was claimed to be $175,000.00 per year. She was a cleaning lady. When he asked her about that, she said, “Thats what the mortgage broker told me to put down”.
[/QUOTE]

There should be penalties for brokers who do this kind of thing, or for lending companies that encourage their brokers to do stuff like this. OTOH, I’d also be in favor of a freeze on interest rates not applying in cases where the borrower can be shown to have lied to the lender (without the lender’s encouragement).

I’ve heard that bait and switch is not unheard of in mortgage lending- the lender says the customer is approved for a loan, but then at a later stage, when walking away means backing out of an already-negotiated deal to buy a house, that the interest rate is higher, or there are more fees, or something like that. That kind of thing should be illegal as well.

@tomndebb

while I never quite figured how a subprime mortgage could ever be a good thing

AIUI, the relaxed lending standards were quite useful for people who have a decent income, but have trouble documenting it (for example, if they are self-employed).

[Voyager]

[QUOTE=Anne Neville]
There should be penalties for brokers who do this kind of thing, or for lending companies that encourage their brokers to do stuff like this. OTOH, I’d also be in favor of a freeze on interest rates not applying in cases where the borrower can be shown to have lied to the lender (without the lender’s encouragement).

[/QUOTE]

But but but - don’t you understand that regulations are eeevil and that we can trust the free market to take care of everything with no more than five or ten million people suffering, tops. (It just struck me that General Buck Turgidson would have made a great conservative economist.)

[Lochdale]

[QUOTE=Voyager]
Did they really know? From what I read a lot of paper that was partially crap loans was rated AAA. It appears that the lenders were not labeling the level of risk of some of these loans correctly, and not the predatory ones. If they had, the interest rates might have gone up enough to make them unattractive, or the lack of buyers would have cut the level of subprime lending. (A good thing at the top of a bubble.) And, as I mentioned, these instruments were so complicated that the investment houses don’t know their exposure, even today.
[/QUOTE]

That goes more to the rating agencies and the purchasers of the securities doing their own diligence. Absent fraud, I fail to see the issue here.

[Icarus]

[QUOTE=Chief Pedant]
Lenders have money. They have no power to coerce anyone into taking out a loan.
[/QUOTE]

I’m going to disagree with you. Advertising and marketing are multi-trillion dollar industries. The entire internet is built on advertising dollars. Broadscast television, radio, professional sports, are primarily funded by advertising dollars. Our consumer economy is built on advertising.

If you are suggesting that repetative advertising is useless, I would suggest that the evidence is to the contrary. I get bombarded with e-mails and real mailings advertising loans and refinancing. I see ads on the TV and hear them on the radio all day.

You personally may be immune to the influence, if that is the case - good for you!

However, the general population if told over and over and over, many times a day, to have a hamburger and a coke, will tend to eventually decide, “You know what sounds good right about now, a hamburger and a coke!”

Substitute “flat-screen tv” or “iPod” or “0% down interest-only loan for a nicer house, all you have to do is sign” and that’s how we get to where we are now.

So, a small amount of forebearance is in order for our brothers and sisters.

[Cervaise]

[QUOTE=Cheesesteak]
In return for this largess, the banks and borrowers get to have a bit of their freedom taken away
[/QUOTE]
If by that you mean “jail,” then we’re in agreement.

Seriously, one of two things needs to happen: Either the financial institutions are allowed to melt down, leading to personal financial ruin for the high-rolling managers when they’re buried in lawsuits (and perhaps a frantic sprint for safety when the mobs crash the gates and firebomb their mansions); or prison terms are handed out for those who would knowingly gamble with what is effectively public money (taking into account the inevitable bailout) followed by a lifetime ban from the financial sector.

Pick one. The first means little government action; the bankers will rebuild their own industry without regulation but with integrity simply for the sake of their own survival, though there’ll be volatility while they figure out the balance. The second means new laws and regulation, but greater stability.

Right now, we’re doing neither. The little guys are being destroyed while the big dogs shovel cash into the Caymans. It’s an invitation for more of the same.

[Dag_Otto]

[QUOTE=Chief Pedant]

I’m curious about what “power” and what “knowledge” it was that the lenders had.
[/QUOTE]

Well, one bit of knowledge that they had was that many people did not have down payments and loans were structured as 80/20 loans to avoid paying PMI. They knew full well that the 20% down payment was borrowed and secured with a second mortgage. They allowed it and effectively wrote PMI out of the equation, which was there to protect the lender.

With all these loans being defaulted on, I would think that the PMI industry would be taking a hit, but I’ve seen nothing in the news to indicate this. Did they dodge a bullet?

[Cheesesteak]

[QUOTE=Cervaise]
or prison terms are handed out for those who would knowingly gamble with what is effectively public money (taking into account the inevitable bailout) followed by a lifetime ban from the financial sector.
[/QUOTE]
I’d have no problem with this, if bankers knew their irresponsibility was potentially a criminal offense. As it stands, they played fast and loose with private money, not public money, I don’t think it would be proper to jail them. Change the law, put some controls around what’s legal and what’s not, then you can bring the hammer down on lenders who break the rules.

There’s also no reason a bailout can’t help a lot of the little guys, along with the big dogs. If you help people keep their houses, it will prevent flooding the market with foreclosures, and the people who can’t really be helped won’t be selling in a destroyed market. If the market stays afloat, some of those folks might get away without being financially ruined, just not in that house anymore. The market tanks, and they’ll all be bankrupt.

[Cervaise]

[QUOTE=Cheesesteak]
As it stands, they played fast and loose with private money, not public money, I don’t think it would be proper to jail them.
[/QUOTE]
Knowing that if things got really bad, the government would have to step in with taxpayer cash, that to me = gambling implicitly with public money.

Granted, I don’t think the charges would stick under current law. But given how critical these institutions are to the country, and how invested we all are in them (literally and figuratively), to the degree that taxpayer funds should periodically be required to prop them up, I think it’s absolutely justified that misuse of these institutions should be regarded as criminal malfeasance. Hence, new laws.

It’ll never happen, of course. So get ready for a rough ride.

[Lochdale]

[QUOTE=Cervaise]
Knowing that if things got really bad, the government would have to step in with taxpayer cash, that to me = gambling implicitly with public money.

.
[/QUOTE]

That’s one massive gamble. Certainly didn’t work for Enron or World Com. Agian, blame the ratings agencies and the note/securities purchasers for not doing their diligence. Absent fraud under the securities laws I’m still not seeing where liability will attach.

[Voyager]

[QUOTE=Cervaise]
Knowing that if things got really bad, the government would have to step in with taxpayer cash, that to me = gambling implicitly with public money.

Granted, I don’t think the charges would stick under current law. But given how critical these institutions are to the country, and how invested we all are in them (literally and figuratively), to the degree that taxpayer funds should periodically be required to prop them up, I think it’s absolutely justified that misuse of these institutions should be regarded as criminal malfeasance. Hence, new laws.

[/QUOTE]

Do you have any cites for laws which were violated in the general case? (I’ve read of cases in the Bay Area where Spanish speaking customers were not given the translations the law required.) The Fed regulates this stuff, and despite some concern from members of the Fed that there should be some cracking down on this, Greenspan chose not to. This makes me think that there were no regulations broken.

The lenders being mostly to blame does not necessarily imply they are criminals. In any case, individual lenders cleaning up by sell subprime loans which they got bonuses for are not going to care too much about their company being bailed out or not. It isn’t their money.

[D_Odds]

I’m not going to side with either. Both groups, borrowers and lenders, share the blame. There are some points I would like to make, based on this thread:

1. The people selling the loans are not MBAs with great financial acumen. In another life, they would be trying to help you finance a car. They are being paid good commissions on risky loans, are likely given hellish quotas to meet, and like penny stock salesmen, they did not care who they sold to as long as they made a commission. These are the people who would falsify the documents.
2. The loaning organization didn’t care too much about who was getting the loan. All that mattered was that they could put together a package of loans with certain characteristics (some of them falsified) and sell them off. So while ABC Mortgage Co. may have cut the check for your home, the first thing they did was sell your loan to another person.
3. More selling and packaging of the loans would occur. The prevailing thought among many was that by spreading the risk across many borrowers, risk was lowered while keeping returns high. Returns were high, because the borrowers were sub-prime.
4. Low risk / high return? Wall Street started flocking. Traders never see a bubble they don’t like. If one company starts earning outsize returns, there is great pressure on every company to match. Suddenly money is flowing into this market segment.
5. There is a demand from Wall Street for sub-prime loans. Someone needs to supply these loans. Sharks smell blood and the feeding frenzy begins - as long as you can sign your name, some salesman will give you money.
6. Repeat this process for a few cycles until everyone involved in the feeding frenzy realizes that there is no more food in the water, just blood. Bubble bursts. The people left chairless are the homeowners, some innocent dupes who trusted a salesman they shouldn’t have, some sharks themselves who gamed the system - and the note holders, which due to the packaging and reselling of the loans, include large multinational banks and government entities.
7. Now the navel-gazing begins as the loan salesmen look for the next big thing to victimize another set of guileless dupes, and the mortgage companies start feeling the multinationals breathing down their backs for false documentation (which affects the ratings and thus the pricing of the loans they were sold).

I will come down on the side of “no more regulations”. What makes bubbles possible are herd mentality, greedy people, and corrupt salesmen. No amount of regulation will ever get rid of those.