They based their modelling on a unicorn, a race card from Churchill Downs and the Easter Bunny.
My understanding that the pool is supposed to be carved up into tranches based on the risk of the underlying instrument (ie mortgages). More senior tranches should contain mortgages that have a much lower risk of default. The problem is that the pools were simply carved up without regard to the risk of the mortgages.
And this is what what the “bad idea”. Debt, even debt packaged up and securitized is not necessarily a bad thing. It allows people and businesses to make investments for the future now instead of waiting years or decades.
But all debt depends on being able to accurately access risk. Risk from a financial perspective is different from uncertainty. Risk can be calculated with uncertainty cannot. It is the difference between playing Russian Roullette with a gun you know has 1 bullet in the chamber (1:6) vs being handed a gun (0:0? 1:6? 6:6? is it even a real gun?)
The problem was also in the compensation model. Not only do you have the rating agencies (Fitch, Moodys and S&P) being paid by the funds they rate, but you also have lenders being paid by the number of mortgages they sell. That would be ok, except they don’t take on any of the risk of default. Once they sell the mortgages they are sold off to be securitized. They have no incentive not to inflate loans, sell to undesirable candidates or issue “NINJA” loans (No Income, No Job or Assets).
The main issue with all of this though is that many of these banks and financial services companies were highly leveraged. They borrowed so heavily to buy up these assets that when their underlying value dropped, they became essentially worthless.
I got the same “hard sell” at about the same time frame. I insisted on only the amount I actually needed, and also insisted on a fixed rate instead of any bubble payment / variable / whatever it was called. I wanted to know the total amount (the payout), the interest rate, etc. I was not about to get roped into anything that was not firmly fixed, defined, and in writing.
I did most of my loan on line. I had several competing lenders and told them what I wanted. They kept trying to shove a variable on me ,but I insisted. on fixed. I knew they were getting more money for a variable. I told them to send me a fixed and they kept sending me a variable thinking I would give in. they were relentless. But I was determined. It was a battle . I wonder how many people just caved. They also lied.
I was mostly worried about the big balloon at the end. I had heard the horror stories and I was not about to spend the next 30 years paying into a house, only to not be able to make the final balloon/bubble/whatever and lose the house and all that money. I also did not want to be burned if the prime, the interest rates, or any other unpredictable thing went crazy. My attitude was, even if I ended up paying more in the long run, I would be a little safer from the “unknown quantities and variables”.
There’s a lot of ways to carve up a mortgage pool but I’ve never heard of mortgages being securitized like that, it kind of defeats the purpose to identify specific mortgages if you are securitizing a pool. Might as well just create a pool with the identified mortgages and sell one class of security.
I think you may be getting a very simple version from your girlfriend.
There were a lot of bad ideas. A lot of failures in the market and in regulation and oversight. But it was all driven by greed encouraged by free market fanaticism.
Fortunately, I can just go into the other room and ask her.
I mispoke. The mortgages are all pooled together. The risk associated with each tranche is reflected in the pricing and order of taking payments and losses.
I think saying it was driven by “greed” is a bit simplistic. I don’t think people are any more or less greedy now than they ever were. There certainly was a failure of regulation and enforcement that allowed these banks and bank-like entities to leverage themselves to the point of collapse.
I can’t remember where I read it, but my understanding is that in many cases the risk of the individual mortgages wasn’t determined by using sophisticated models, but determined retroactively once a mortgage actually defaulted. Thus, rather than having a senior tranche with only “safe” notes, they would just decide that the lowest tranche would take the first losses (say, the first 8%) before moving up through the more senior tranches. So, Joe Blow’s mortgage loan wasn’t evaluated and placed into the appropriate tranche; it was in all the tranches. To pull this off, the notes have to be “held” until they can be inserted into the proper tranche, which is probably not allowed for REMICs.
It almost sounds intentional from the top down with what was going on. I mean, a lot of these investment bankers in conjunction with our government were pushing this. These guys on Wall Street are supposed to be the best and brightest and top talent the world has to offer.
Even I knew prices were outrageous and that a bubble was going on, as did many others that were poo pooed and laughed at. I stayed clear of even thinking of buying a house based on the 2-3x rule based on your annual income.
What does that say about the “Top Talent” and the “Best and Brightest”?
Either they are not as smart as they think they are, and are paid way to much, or their greedy monsters that need to be thrown in jail for the destruction they have caused.
Heres a graph of median housing prices going back to 1970.
Exactly. The best and brightest psychopathic crooks you can find. Wall Street is full of these types, along with politicians that are in bed with them.
You had brought up a partial story I had read about awhile back.
I’d like to link to the full story on one mortgage fraudster in particular.
Confessions of a Mortgage Fraudster
http://foreclosureblues.wordpress.com/2010/08/25/expert-declaration-of-christopher-warren/
The link above ripped his story from his arrest warrant located at:
http://www.justice.gov/usao/cae/press_releases/docs/2009/02-20-09WarrenArrestWarrant.pdf
My name is Christopher Jared Warren, and in 2001 I was hired as a 19 year old to become a sales Account Executive for ACC Capital Holdings subsidiary, the now infamous “Ameriquest Mortgage Company”.
As a 19 then 20 year old boy, my managers and handlers taught me the ins and outs of mortgage fraud, drugs, sex, and money, money, and more money.
However, near the end of my employment there, I had hacked the computer systems run by EMPOWER for Ameriquest and was clearing my own funding conditions with no documentation, literally waiving file conditions as if I were an underwriter. The day I left I left with the entire customer database. I had made over $700,000 I was 22 had beat their system, had gotten paid and ripped off one of the largest private companies in the worlds entire customer database.
Anyways, it is quite a long read, and goes pretty deep.
One thing that stands out from all this, is how we need more regulations, not less, to protect the system from greedy scum bags such as this.
Of course, this would also require a non corrupt SEC as well as non corrupt government that is not in bed with the corporations and wall street.
That’s sort of the point. You pool all the mortgages together and distribute the risk among the tranches. The more senior tranches are lower risk because they pay out first and take losses last, but they more expensive. The tranches don’t tie back to specific mortgages.
You still need to determine the risk of the individual mortgages before you pool them so you can calculate the total risk. Aside from the fact that the mortgage data was suspect, the models were based on an assumption that real estate prices only go up.
I think what happened is that the mortgage notes were only being pooled on paper; they weren’t actually being conveyed to the individual trusts. REMICs are meant to be a conduit for mortgage payments to flow to investors. So long as they’re set up correctly the flows aren’t taxed (though the individual investors are taxed). A REMIC isn’t allowed to accept notes 90 days after it was formed, nor can it accept defaulted notes. So what we have is a bunch of REMIC investors with no standing to sue, and a bunch of REMIC trustees facing tax liability.
I came across an article on Daily Finance this morning that’s pretty good: The Foreclosure Crisis: Eroding Trust – and Ending the Recovery?
One tidbit that never really sunk in for me before concerned tranches:
Now, I worked for a company that did due diligence on MBS back in the '90s. I may be lacking the proper terms, but we dealt with entire portfolios of whole loans; the use of tranches wasn’t yet common (if they existed at all). After reading the above, a key piece of the recent troubles fell into place for me – if (mortgage) payments are being made, of course it’s possible to further divvy up individual payments. And, if a profit can be made doing so, of course financial people are going to do it.
No single owner/entity, no clear line of ownership, lots of places in which to hide shenanigans. What a friggin’ mess.
That’s part of the problem. The note (mortgage loan document) is what gives you the ability to foreclose, but I think it is the mortgage document which gives you the right. I may not understand this correctly, but I think you need both in order to actually foreclose.
Another part of the problem is MERS. Unlike public records (e.g., titles to real estate), MERS is completely opaque to the outside world. While you could never have 20 different titles filed for an individual piece of property, having 20 “owners” in MERS most likely isn’t a problem.
The note is the IOU; it establishes the terms of the loan. The mortgage is the lien against the property (some states use deeds of trust instead, which are functionally similar); it allows the lender to foreclose and sell the property to pay off the loan. If you have a note but no mortgage, then you have no ability to foreclose and are left with an unsecured debt. If you have a mortgage but no note, then you have no proof that you are owed any debt so you have no right to foreclose.
MERS is essentially the mortgage industry trying to change how the land title system works in 50 different states without asking anyone if it was okay. Putting aside all the problems with standing, they seemed to think that everyone (courts, homeowners) should just take them at their word that they owned a particular mortgage because it said so in MERS, even though the official title records did not. It was pure chutzpah.
I don’t think that tranching is ever used to segregate a mortgage pool into differnt individual mortgages, it kinda defeats teh purpose of mortgage pools.
Yeah, I can agree with that.
The mortgages are supposed to be conveyed. They have 90 days to fiddle around with the mortgage pools but I think that the mortgages are there for the msot part. I don’t think that empty REMICS are a real problem, the problem is taht teh mortgages are no longer worth what they once were.
I don’t think so. The entities creating the MBSs and the investors were only interested in the money involved; properly transferring the notes and the mortgages was a secondary concern. There were originators not conveying the notes at all. If they screwed up the process, then the only record that exists that shows a note being transferred from an originator through all the intervening parties to a REMIC trust is MERS, and MERS’ word isn’t going to fly. Why else would the banks halt foreclosures if they otherwise had no legal obstacle to do so?
I don’t think this point can be over-emphasized. Formal land-title systems not only serve as an obvious protection of property rights–an essential element of democracy–but as a means of formally protecting capital; if there is even a slight uncertainty about ownership of an asset or a class of assets, it is extremely unlikely that asset can be used to generate capital.
If you’ve ever closed on a property, you know that the formal closing can be a long process of signing and affirming documents–some of which seem incredibly obscure or ridiculous (e.g. you must swear in document form that the name you sign at the closing is your true legal name). It’s even more amazing when you consider that this is an agreement where all parties are willing to make the transfer of property–imagine how much more is required when one of the participants is unwilling, like in a foreclosure.
Nevertheless, it is this very process–with it’s multiple safeguards, redundancies, and the generation of legal, public documents–which guarantees the integrity of the asset (not it’s value–which is often decided by market forces–but the mere fact that it is a transferrable good). A trip to the county hall of records is usually all that’s required to prove ownership, and in those rare instances where something does go wrong, the legal system even mandates the purchase of title insurance–yet another safeguard of asset ownership on a system that has already been designed to be foolproof (have you ever heard–before the latest mortgage meltdown–of anyone collecting on title insurance?)
Whether or not the system could be reformed or streamlined is irrelevant. No one disputes (at least until now) that some robust form of legal land-title is an invaluable necessity, so any attempt to “fix” it should be transparent and publically discussed. The fact that MERS exists at all is, quite simply, proof positive the designers and promoters of mortgaged-backed securities were perpetrating a fraud.