Friday, October 26, 2007

Barney Frank Thinks You Don't Sign Enough Documents When You Close on Your Mortgage

The way that the politicians are trying to tinker with the mortgage market in response to the crisis, gives me visions of me, a mortgage broker, going to my friend's lab and mixing chemicals. It is stunning how people who know so little about the actualy business can be in a position to affect the business so much. I want to give a lukewarm hat tip to the New York Sun for bringing this to my attention. The reason the hat tip is lukewarm is that while the author goes on to excoriate Barney Frank throughout the piece they show an astounding lack of knowledge of the issues themself. Now, the author correctly points out that Frank's policy idea is vague and full of holes. Here is the idea.

Take Mr. Frank's bill. Section 103 prohibits "mortgage originators from steering, counseling, or directing a consumer into any residential mortgage loan that is not in the consumer's interest." And Section 104 requires originators "to act solely in the best interest of the consumer, including finding the residential mortgage loan that best meets the needs of the borrower…"

Now, everyone must keep in mind that whenever policy makers create a law that is vague the practical effect is another useless piece of paper for everyone to sign when they close. The reason is simple. That is the way banks cover themselves against any said law. If Frank's policy idea is implemented there will be another disclosure vaguely mentioning the best interest of the client. Thus, what Frank is really saying is that the borrower hasn't signed enough paperwork yet when they close their loans. The irony is there is already such a disclosure at least here in Illinois. It is called the Net Tangible Benefits Disclosure and it basically provides the reason for taking on the loan (reasons include paying off debt, lowering rate, getting a fixed rate, shortening term, lowering payment, etc.) Now, to deal with this new law, there will be yet another document created that covers the bank in case someone wants to sue on these grounds.

The second irony is that it is really not possible to act in the BEST interest of the borrower. The lower the rate the borrower gets the less the mortgage broker makes. Thus, in order to act in the BEST interest of the borrower, the mortgage broker would need to never make any money and hypothetically lose as much money as possible (yes it is theoretically possible for the mortgage broker to lose money on a given loan though none would for obvious reasons ever actually do it). Thus, how does such a law get enforced. There are already maximums in many states that mortgage brokers can charge. Would these maximums get lowered? None of these issues are addressed by the article.

The article goes on to reference another so called expert,

Desmond Lachman, resident fellow at the American Enterprise Institute and a former strategist at Salomon Smith Barney, argues that what is needed is a framework that harnesses markets. He proposes requiring originators to be capitalized and to hold a percentage of the mortgages that they originate. This would induce them to exercise greater due diligence in originating loans since they would now have a direct stake in those loans' long-run performance. This elegant proposal, by aligning the interests of the different players, succeeds in minimizing invasive regulation while protecting consumers and investors.

This is all good and well in theory however the practical effect is to put almost all mortgage originators out of business. Most mortgage brokers don't have the capital to hold onto the mortgages themselves that is why they are brokers not bankers. I dont' know if this so called expert is really just not much of an expert or worse if this expert is trying to put mortgage brokers out of business and is finding a politically correct way to do it.

The problem is this. My industry, the mortgage brokers, has a terrible, fairly given, reputation. Thus, we are not sympathetic. In fact, as I have analyzed, we have taken the most amount of blame for the crisis. In my analysis, I had no love loss for the overwhelmingly sociopathic industry that I am in, however I pointed out that we are the same now as five and ten years ago when there was no crisis. By putting the blame on us, what politicians are really doing is finding a good villain and attacking them. That of course will probably work politically however it isn't necessarily good policy.

None of the policy that policy makers have proposed makes any sense, and there is a perfectly good reason for it. The first reason is that the market has long ago fixed whatever defficiencies were in it. Markets are very pure that way. Politicians want to go in and eliminate and restrict certain problematic loans when in reality the market on its own long ago did that for them.

The second reason is that there isn't anything the policy makers can do. A lot of irresponsible people got loans they shouldn't have and now they owe so much that it is more than their homes are worth. Now, policy makers can pretend that they can fix this problem but they can't.

The reality is that the market fixed whatever loop holes the irrational exuberance caused, and as for the immediate, problem even politicians can't actually turn the irresponsible into responsible, and if someone is in a house they can't afford, that is not something a politician can fix.

No comments: