Thursday, November 8, 2007

From Boon to Crisis: The Truth about The Mortgage Crisis and H.R. 3915

There are five players that contributed to the mortgage crisis we are now in. Most people know three, and almost everyone only blames one. The truth is that all five worked in a symbiotic manner to create the mess we are in. We are each responsible and any solution must recognize everyone's role. Of course, that isn't what we have. Let's go through the players


Far too many people bought homes they simple couldn't afford during the crisis. That may not be politically correc to say, but it is the truth. I know two things from my experience in the mortgage industry. I know that anytime someone came to me to figure out how much they could afford to buy, they invariably bought a property that was more expensive than what we agreed upon. I also know that most people didn't even do it that way. More times than not, someone would call me, referred by someone else, telling me that they are about to put a bid on a house and they need a pre approval letter. That means that even though they were about to buy, they hadn't yet figured out if they could afford the property. They bought these homes because they loved the property so much that they convinced themselves that they could make the payments. Again, this isn't P.C. but it is the reality. Ultimately, if someone buys something they can't afford there has to be some personal responsibility.

There is a narrative that mortgage brokers put borrowers into loans they couldn't afford. While in some ways this is true. The reality is much more complicated. In reality, borrowers bought property they couldn't afford, and mortgage brokers found loans that they could qualify for, for that particular property. Ultimately, it wasn't the mortgage broker that presented them with property they had no business buying. That was a decision they came to on their own. They maybe crying victim, however in reality, they did it to themselves.


One of the reasons that there were so many borrowers getting in over their heads is because banks created loans that brought irresponsible people into the market place. It all started with the refinancing boom. When that happened it was prime banks (banks for people with good credit) that were doing ridiculous amounts of business. People like me were making money hand over fist doing loans for borrowers with good credit. Sub prime is already a minority in the industry. Now, they were being pushed out even further. They needed to get back in the game, and the way they did it was by loosening their restrictions. It worked. Brokers like me started doing more sub prime.

Now the lower rates not only created a refi boom but expanded the housing market and when sub prime expanded the housing market boomed. As that happened, mortgages became a hot industry and there were all sorts of minor players popping up everywhere. To deal with the competition, banks tried to one up each other with the sorts of guidelines they would have. At some point, the loans went from being aggressive to being stupid. It all climaxed with a loan that is 620, stated, stated, to 100%. This means someone with a 620 credit score (marginal at best) can state (meaning claim without proving) their income and state (again claim without proving) their liquid assets, and they can do all this while getting a property with no money down.

It was exactly these types of borrowers outfitted with this type of a loan that bought property they simply could not afford.


The mortgage broker was in the middle of all of it. The mortgage broker is ultimately the ultimate capitalist. All we care about is making money. Most of us aren't altogether concerned with our borrowers, and we go where the money takes us. Most brokers were making money hand over fist in prime loans from 2000-2003, and by 2004 we found new money in sub prime loans. Now, we were armed with irresponsible and naive borrowers and programs that allowed for just about everything we wanted. We took full advantage. Plenty of people were put into loans they shouldn't have been put in, and most of those brokers probably knew their borrower couldn't afford their loan, and so be it. Our role was exploiting the environment that was created for us, however we didn't create that environment.


The name Lew Ranieri probably means nothing to anyone, however his genius is the pre cursor to the mortgage mess we are in. (Please note he did nothing wrong and in fact he is a visionary and a genius. You can read more about Ranieri in the book Liar's Poker). In the late eighties, he created mortgage backed securities. It transformed the mortgage market from going to your local bank to the sophisticated system we have today. Mortgage backed securities were a hot item upon his creation of them, however after a while they fizzled out and for a long time they became yet another investment option. In other words there was always plenty of money to be made if you knew what you were doing however the investment wasn't what I would call "chic". (For instance in the late nineties internet stocks were chic. After mortgage bonds had their run, they stopped being chic and became yet another in a long line of investment vehicles)

That all changed when the housing boom hit. Once the housing boom hit, suddenly Wall Street couldn't get enough of mortgage bonds, and once they got a taste, they couldn't get enough. It became their crack. It was Wall Street that in fact created the market for most of these irresponsible loans. I know this because 620, stated, stated, to 100% became the industry standard. That means there was a market and only Wall Street had deep enough pockets to make a money. Banks didn't want to hold onto most of their loans. They wouldn't have money to give the next one then. Thus, if 620 was the industry standard, it was Wall Street that was asking for it. Wall Street began accepting just about any loan no matter how ridiculous the scenario (after a while just about everything was disregarded mortgage lates, bankruptcies even foreclosures at times) and creating a market for it.

Thus, on the one hand, you could say banks created loans that were ridiculous. On the other hand, either banks make loans the rest of the market is making, even if they are ridiculous, or they lose business. If banks didn't follow along with the market, the mortgage broker would work with a bank that would. It wasn't banks creating the market. That is Wall Street's role.

The worst part was that as long as the housing market was booming these bonds did great. No matter how ridiculous a program they turned into a bond, that bond performed great as long as real estate performed great. That's because with every rise in real estate the portfolios became significantly less risky. (For instance if they hold a portfolio of no money down loans, and real estate went up ten percent, those loans were now ninety percent which is much safer. Of course, it is more complicated than that but you should get the idea.

It was only when real estate stopped going up that Wall Street realized they were holding onto a bundle of loans of people that couldn't pay their mortgage back. While real estate went up, the people in those portfolios would usually be able to sell or refinance before there were any real problems.

Here is the most insidious part. Once Wall Street realized the mess they had created, most of them washed their hands of mortgages and went on to other investments. They helped create the mess and conveniently walked away when it was time to clean it up. The reason most banks recently went under was because they were holding onto portfolios of loans that Wall Street wouldn't take unless they were willing to take seventy cents on the dollar.


Everyone says that mortgage brokers rip people off. No one asks why it is so easy to rip people off. Does anyone know why? Do you think it has anything to do with the mountain of paperwork everyone needs to sign? Isn't it easier to rip someone off when the important piece of information is buried in a pile of useless paperwork? Why is there so much paperwork? It is always a response to yet another piece of regulation. There is a document called the equal credit opportunity act disclosure. It says that the mortgage broker can't discriminate based on race, creed, etc. The funny thing is that is highly unlikely that the person getting the loan is being discriminated against. It is those that didn't get a loan that should be signing that, but instead it is a closing document. I can go on for hours listing the plethora of useless disclosures, however here is the bottom line. Almost every borrower merely signs everything without reading any of it. That means it is much easier for the unscrupulous to take advantage. This is not the doing of the mortgage broker, but the doing of Congress. It was Congress that created the mountain of regulations which banks covered with disclosures. ECOA was a response to one of many regulations handed down by Congress.

This is insidious because Congress wants to respond to this crisis with more regulations. Ultimately, that means YOU HAVEN'T SIGNED ENOUGH PAPERWORK YET.

Now, you have seen the players and how each contributed to the crisis. Now, let's go through why each is or isn't a target.


Banks are an easy target because most people hate banks. Banks are nasty, money hungry, and drunk on power. Most people don't have a high regard for banks. Banks do have something that makes them an uninviting target: a lot of power and a lot of money. Anytime anyone tries to push too much regulation banks employ their high powered lobbyists and make it go away. That is why most rules only apply to mortgage brokers. This insidious H.R. 3915 is a great example however there are plenty.


Borrowers have plenty of responsibility, however it isn't much a political move to say you got in over your head so too bad. That won't work so politicians are jumping over themselves to try and "save" the borrowers. Never mind that being in over your head isn't something that can be fixed by a politician. That isn't really the question. The question is what will get them the most votes. Being for the little guy, the borrower, will get them votes.


At this point, going after Wall Street is useless since they have taken themselves out of play. Congress can create all sorts of regulation for Wall Street securitization, however they aren't securitizing any of it anyway. Really, though, that would give politicians too much credit. Most of them have no idea what Wall Street's role was in the matter. Those that do don't see any political opportunity taking them on. The ones that do realize that Wall Street has even more lobbyists than banks. Thus, Wall Street skates without even a mention because the whole situation is too complicated, too messy, and not worth the trouble to investigate.


Well, if congress blamed itself, they couldn't come up with any new regulations now could they.

That leaves only one group. We are scummy. We have a terrible reputation, and we don't have that good a lobbyists. Thus, through a series of factors, the complicated mess that is the mortgage crisis is laid at the feet of one group. It isn't that we are the only ones responsible. It isn't that eliminating us actually resolves anything. It is that we are convenient, not powerful enough to fight back, and the politicians see the rest of the world cheerleading if they go after us.

I think they are wrong, and I hope everyone that reads this is moved to action. As you can see, what is happening here is a lot more complicated than the narrative, and H.R. 3915 doesn't actually resolve any of the problems that caused this. It is merely a political tool. Borrowers are the victims. Banks are given a pass. Wall Street is ignored and of course, Congress' role need not be mentioned. If you believe the politicians, the mortgage brokers created the loans, created the market, created all of the useless paperwork, and put borrowers into homes they couldn't afford with mortgages that were too expensive for them. Keep in mind. Only one of the five entities is dealt with in any sort of punitive way. Our Yield Spread Premium is taken away and our fees are cut. That basically means both ways of making money are limited. We have all sorts of new nebulous regulations to deal with. New licensing to deal with, and all sorts of new language.

The banks can no longer offer three year pre payment penalties on sub prime. That is something they rarely did at this point anyway. Wall Street isn't spoken for much at all. Obviously, Congress thinks more regulation not less is the answer. Thus, Congress will continue to contribute to making it easier for the unscrupulous to be unscrupulous. The borrower is given a parachute and most will be bailed out.

The only one falling on the sword is the mortgage broker. Think about that. We have a chain of events that worked in symbiosis. We have several different players that each contributed. Only one player is held to account in any meaningful way. Is that fair? Is that right? More importantly, is that sensible? Do you actually think that H.R. 3915 will do anything to avoid the next crisis, or will it merely be another tool for politicking? Are you all right with blatant politicking?

You may or may not care about this bill even though ultimately it affects everyone, but remember, that is because YOUR CAREER is not on the line like it is for every mortgage broker. Mortgage brokers will cease to exist if this is passed in its current form. Frankly, mortgage brokers will cease to exist if the same people leading this effort continue to lead. If mortgage brokers take the fall for a whole complicated chain of events, what's to stop Congress for going after used car salesman, insurance agents, and contractors next. Every industry with a less than stellar reputation will be a target. If everyone sits by while this happens, then Congress will be emboldened and even more heavy handed. This must stop. This bill is a non starter. What is a starter is examining the crisis fully and fairly. Does anyone actually believe anyone in Congress can explain the crisis the way I just did? Why are they allowed to pass laws without knowing what the f$%k is going on?

If you let them get away with this, they WILL go after your industry next when it is convenient.


Anonymous said...

Mike -

Been following this from your post on Power Line, and thanks for that.

Government always makes the rules that cause the problems, then tout government as the solution to the problems they created.

You've outlined this pretty well, and, as you've said, everybody shares a little fault.


Consumers, borrowers, PEOPLE have been educated out of their common sense.

My husband and I would NEVER have found ourselves in the position of many of these borrowers because we know, and did, the following:

- There is no such thing as a free lunch.

- We went through a realtor to use a mortgage broker. Every paper they needed we had at our fingertips and THEY had within 24 hours.

- We instructed the realtor that we had no intention of buying 'what we could afford'. We went 20k lower so we wouldn't EVER be house poor or at risk of missing a payment or losing the house because of financial difficulties.

- Nobody like it - not the bank, the broker, or the realtor, but we said "tough nougies".

- When we had the closing, I cried (it pissed off the attorney). I cried because, as I read every, single document, I realized how one sided the deal was (for ex., the bank reserved the right to come inspect my house's interior at any time, (seemed....unnecessarily intrusive), and I did read every document before signing.

Keep up the good work.


mike volpe said...

All great points. Unfortunately you are the exception not the rule. You are a role model for the proper way to buy a home.