The feds are now buying bad mortgage loans owned by banks, planning to split a portion of the costs with private investors. This brings $500 billion in toxic mortgages up for grabs, with investors taking roughly half the profits.
The bottom line question is this: Are these delinquent loans still collectible? Can the buyers get any money back from the consumers that got the loans in the first place, or sell the home for more than the mortgaged amount? This is the only way to profit on this deal, other than selling off the noncollectable loans at a higher price to other investors down the road (an unlikely notion).
I have yet to see an answer on the critical question of whether any of these now-labeled "toxic" loans are still collectible. If they're not, then it's a bad deal for everyone. If they are, then it's a great deal for investors -- since they'll pay only 6 percent of the past-due value of the mortgages for the option to potentially get half of the full mortgage amounts when the homes sell. (Note that you'll be able to buy these loans from investment fund managers who participate in the FDIC's new Legacy Securities Program; $25,000 minimum purchase required.)
Meanwhile, the FDIC will give loans to eligible investors to cover their cost, charging a loan origination fee and paying back the investor's loan as consumers make payments. Perhaps Credit Suisse Group had it right when it gave toxic loans in lieu of "bonuses" to its executives...
FYI: FDIC eligibility requirements rule out 1) anyone in default from buying their mortgage back at the cheaper rate; 2) anyone with bank judgments, a foreclosure or bankruptcy on an FDIC-insured account; 3) anyone convicted of crimes against banks; and 4) any officer or director of a failed institution.
RESOURCES
"A better means to soak up toxic assets," China Daily
NPR fact sheet on this Public-Private Investment Program
The text of Secretary Geithner's Financial Stability Plan
"Public seen more at risk in public-private toxic fund," MarketWatch.com
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Comments: 37
Tried a Google alert? News or web? That might provide an answer.
Marilyn, I think I'll call the FDIC tomorrow to see what I can get before then, if possible. Thanks for the comment.
elaine d.
The way to determine the actual value and projected collectable value would be to use cash flow analysis. Unfortunately, current account rules do not permit that.
I have never understood this because the standard method of determining the value of commercial real estate is cash flow analysis, so its no a big leap to apply this to residential mortgage holdings.
The securities are bundles of mortgages, some of which are in default, but some are not.
The problem is not just the default issue, it is the estimate of value.
Because the market for these securities no longer exists, they have no resale value.
Because of mark-to-market accounting rules, these securities must be valued at the prices they could be sold at which is effectively zero.
This mandated devaluing is one of the reasons banks do not want to divest of these securities. They believe they are worth more than they are allowed to value them at.
There is much debate about if and when banks will have 'write ups' when they can recover the excess write downs taken on these securities.
This is the reason the fed is pushing rates down and trying to make it possible for people to refinance. As loans are retired, they are removed from these undervalued securities.
Just heard a guy on CNBC (Jim Chanos) say the securities eligible for the public/private the partnership are the AAA rated only. Even though part of the cause of the problem was inflated ratings, this means only the best bundles of loans will be dealt with. This also means most of the loans contained in these bundles will be conventional not sub prime or liar loans.
Somebody's not coming clean here, and as a result, somebody's going to get filthy rich off this bailout package.
In the interim, here's what FDIC Board Chairman Sheila Bair has to say: "We're trying to reach a liquidity point right now," said Bair in a March 23 press conference call. "What's weighing on market prices right now is that people can't get financing to buy assets ... and then you've got to hold on to them forever because no one can buy them from you."
Note that Bair says the "distressed" mortgages will first need to run through the Obama administration's Loan Modification Program before being released to investors. Meanwhile, there will be a lag before the first paper is available for purchase by investors in this program, since the FDIC is still accepting public comments on the plan. FDIC officials hint that it will be more than two months before the first mortgage in this program hit the open market.
After the brouhaha over the AIG deal, no private company will touch this stuff unless they can make a big profit Expect low ball bids, and banks that don't want to sell.
Bill Gross from Pimco has been salivating over getting his hands on these assets for months. They expect to apply to buy assets as well as manage them. He is the kind of smart money that I would follow on this.
My bet is that it will be the hedge fund managers, with a ready stream of clients already, who will be the first on board. FDIC officials do say they're in talks with banks right now to roll out the mortgages, but it's unclear where that's on the sell or buy side of this equation. Meanwhile, if hedge fund managers are indeed the primary sellers here, the feds plan is a first step toward regulating the hedge fund industry. Fund managers in this program must, for the first time in hedge fund's largely unregulated history, report directly to the FDIC.
They are guys that have the resources to buy this stuff. But they are not going to do anyone any favors. The regulatory entanglement makes its a lousy trade for many of them. Jim Chanos is a hedge fund guy. If I understood him correctly, he said his fund is not interested, and he doesn't think this plan will work. Maybe he is right, maybe not.
Pimco trades bonds and sells a bunch of bond mutual funds. They know their way around this sort of complicated financial instruments. Pimco is already regulated, so its not such a big deal to them.
"At the time the loans were taken out, they were AAA," says Barr. Now, "out of a trillion dollars worth of loans, it's very possible that there are ones that are non-current or ones with higher debt-to-income ratios than they were... a hodge podge of potential problems. We don't know how many are delinquent; if someone has the figure they haven't passed it to us."
As to how many of those "trillions in loans" are still collectible, known in the industry as the ability to cure, Burr says "There probably are studies out there on that, but I'm not aware of one that says of those [mortgages] delinquent for so many days, X percent cure."
Meanwhile, he says that it "does depend on whether the person owning the loan is doing anything about it; the more investors work it, the more likely there is to be a return." He says that a servicing agreement between the fund manager and investing individuals will determine who follows up on collecting the mortgage.
Note that Burr says that each pool of loans, known as PPFs, will be put together with an analysis of the loans going in (no word of whether that will include the loans' curability), and where the leverage and revenue split will be as a result.
For January, 106,484 primary mortgage defaults were recorded by the Mortgage Insurance Companies of America. Of those defaults, the industry recorded 51,093 cures -- a 48 percent "cure rate" for January. January's results continue a string of months with cure rates at all time lows. "Before the nation’s housing crisis set in, the MI industry had rarely ever recorded a cure rate below 60 percent for any given month," reports Paul Jackson at HousingWire.com.
Cure When a borrower makes restitution for loan arrearages by repaying missing installments, refinancing the loan or paying off the mortgage by selling the collateral property.
Mortgage Insurance Insurance policy paid for by the borrower with the lender as beneficiary, in which a third party -- the insurer-- takes some of the loan-default risk. In the event of foreclosure, the insurer pays a set amount to the lender to cover some or all of the outstanding loan balance.
My questions: Do we know if the insurance has already been exercised on the loans being doled out through the toxic loan program? Does this change the equation?
I know the feeling Marsha. I'll try to keep my own exploration of this subject free of any more of that technical jargon.
As to your comment on owning a home, if you start now you could save enough by year end to get into one of the great real estate deals in your area, thanks to bargain prices and new government-run home ownership programs. If so, you also can take advantage of an $8,000 rebate from the federal government (you'll get it when you file your 2008 taxes). A well-earned bonus! ; )
Fund investing does minimize extreme highs or lows, given that it follows the Nobel Prize winning concept of not putting all of your eggs in one basket. (The prize was one for determining that investors lose less if their investments are divided among various types of stock market assets, from small cap stocks to emerging technologies.)
However, since profits hinge on the note actually being collected, it seems to me that it would pay off handsomely for those experienced in collection procedures to take on the servicing of their own individual loans or partner with a firm that will actively do that collection for them. Better that then buying into a fund where the servicing agreement is vague or non-existent.
My pleasure. Thank you so much Prima Donna for checking this coverage out (and for the heart-warming compliment).