Dinner Guest: How can we all have died at the same time? Grim Reaper: The Salmon Mousse! Host: Darling, you didn’t use canned salmon, did you? Wife: I am most dreadfully embarrased~!
-Monty Python’s The Meaning of Life Part VII: Death
>
In his column today, Floyd Norris asks “Can the world be made safe for the return of securitizations?”
To a degree, that is the wrong question.
While some people have become focused on securitization, what we should really be looking at is the step prior in the process — the actual underwriting standards of the mortgage loans that were bundled and resold. It was the abdication of lending standards by the “lend-to-sell-to securitizers” business model that caused so much of the trouble (yes, there were subsequent errors, but they came after the lending standard failures).
Were the the dinner guests in the Monty Python film killed by whipping ingredients in a food processor until they were creamy smooth? That is a similar question to the issue of securitization — the primary problem was not the process, but rather, the ingriedients that went into the process.
The securitization process simply amplified the poisonous underwriting, and fed it to the world. Canned Salmon — Garbage In, Garbage Out.
The way to fix securitization is to fix lending in general — develop standards, enforce them, educate borrowers, halt predatory lending.
Back to Norris:
“Can the world be made safe for the return of securitizations?
That is a question of great importance to those like John C. Dugan, the comptroller of the currency, who say they believe that the banking system on its own is unlikely to have the ability to provide enough credit to sustain an economic recovery in the United States.
"We need a vibrant, credible securitization market to help fund the real economy going forward," Mr. Dugan said this week. He was preaching to the choir "” a meeting of the American Securitization Forum "” but it is an opinion widely held in financial markets.
It is possible to question that thesis. Securitization grew as a way for banks to get around capital rules, not because of any profound desire by investors for such assets or any real unwillingness by banks to make the loans. But since it was more expensive to hold capital against the risk if the loans were not securitized, they were securitized. That also opened the market to new players, who neither wanted to, nor could amass, the capital to hold onto loans.”
It wasn’t that the non-bank lenders could not amass the capitasl — that wasn’t their business model. Instead, their inventory was cash, and the greater they turned over their inventory, the more profits they made.
That is, until they went bankrupt. As of the most recent count by mortgage imploder, ~ of these lenders have gone belly up
Norris concludes:
“There are several essential elements to any fix. The underlying loans have to be of better quality. The investors have to believe that is the case and that they are being compensated for risks that were much higher than they previously believed. Another 30 percent collapse in home prices is unlikely, but it will be a while before anyone's models deem such a thing impossible.”
That seems about right . . .
>
Previously: Paul Krugman is Wrong About Securitization (March 28th, 2009) http://www.ritholtz.com/blog/2009/03/krugman-is-wrong-about-securitization/
Source: Seeking a Safer Way to Securitization FLOYD NORRIS NYT, February 5, 2010http://www.nytimes.com/2010/02/06/business/06secure.html
40-50% down payments would eliminate much of the stupidity. Hell, make it 100%. It’s not like renting while saving to buy makes you a lesser human being. It might even eliminate a lot of the concomitant materialistic stupidity that went along for the ride during the bubble.
LOWER RESERVE RATIOS SO BANKS CAN ONLY LEND 10:1. OR LESS.
Since banks PRINT MONEY and do not “LEND” diddly-squat – there should be SEVERE RESTRICTIONS on any and all lending with incredibly stringent requirements for borrowing. And let’s stop calling it LENDING. It’s bs and everyone knows it.
Yes – it means boring and slow economic growth. But it will be REAL growth and if Americans learn to save – it will mean REAL prosperity and strength for the middle class. Instead we have speculatory credit-driven pretend-growth which ALWAYS collapses.
“amplified the poisonous underwriting, and fed it to the world”. While true, it was the ratings agencies that put it on the menu and labeled it as prime rib, making sure they got a nice kickback from the packagers. William Cohan’s “House of Cards” title is from an internal e-mail where even the ratings employees could smell the stench from the kitchen. So far nothing has been done to address any part of the chain of fraud. Japan’s “lost decade” was because those responsible were not punished and purged from the system, so no one trusted the system anymore. Those with political leverage secured their own getaway after the heist, at the expense of the country. The current solution so far seems to be the same – to continue as before, making mark-to-marker rule changes that make banks “profitable” so big bonuses can be justified (or did they suddenly become so much better manager-monkeys as to deserve such corporate generosity?). Predatory practices on their clients (and because of their privileged position, one could argue, the world) is used to make up the shortfalls.
Its funny… bc this isnt really a problem anymore.
Today Moody’s and S&P would put ratings on structures that were too conservative.
(Anyone notice that they downgrade everyone these day? “Berkshire Hathaway is AA+”, “US Govt is on negative watch”. THANKS CHAMPS! What a bunch of douches.)
Its easy to add… underwriting standards would also be too conservative today. The problem isnt “overall level of underwriting”, it isnt the level of leverage, it isnt that no-job, no-doc, no-income loans should never be done.
I do favor more incentive for higher downpayments (20-30% is plenty, lotsa loans were down 5-10% in the past cycle). Why cant I get a 3% mortgage if I have 50% down?
The main problem, is that everyone is so pro-cyclical. The same people screaming for safe guards now will be the loudest voices for de-regulation and capitalist “market forces” in the heat of the next bubble. Its a classic “mark-to-market” phenomenon. So silly.
We need to start thinking counter cyclically. Especially regulators.
There was a posting the past couple days where 5/3 Bank was doing 125% refis with no docs or credit score -actually worse than it was a few years ago when they were only doing 105%.
Does anybody know if the banks are putting recourse terms into their loans?
I can just imagine people who should be walking away from a killer underwater mortgage being conned into a refi with killer recourse terms. After initially being scammed by sleazy appraisers, brokers and bankers they now get stripped of all their assets when they rollover the original killer mortgage into a refi that completely fleeces them – while the MSM beats on the drum that walking away is immoral!
Barry,
I think your post misses the boat here a bit. Of course, I wholeheartedly agree with you on the notion that fundamentally, a return to decent underwriting standards is crucial to avoiding future credit bubbles and subsequent busts.
However, don’t you think that it was precisely securitization that enabled this plunge in loan quality? Underwriting standards would never have gotten remotely as poor in the first place if the lenders had to carry that loan on their books and eat the consequences of that loan themselves.
I am amazed that I don’t hear more talk of what strikes me as a profoundly simple idea that I think goes a long way towards remedying the problem: force the securitizer to retain on their books a certain % (my thoughts: at least 30-50%) of any loan that they seek to bundle. You want to securitize a package of loans that you aggregated? Well guess what, you’re keeping exposure to 50% of any loan you put in that bundle. You better damn well believe that any securitizer is going to do their due diligence in that scenario–they now have skin in the game and it’s 50% their money that’s on the line.
You might argue that this doesn’t get at the heart of the problem–i.e., origination of bad loans in the first place, but I would argue that it does exactly that. If there is no mid-chain demand (i.e., securitizers will not buy your crappy loans because they don’t want that exposure), then I think you’d be amazed at how quickly that type of dodgy origination would dry up–those originators, after all, would not want to run the risk of –gasp–having to keep that loan on their OWN books, now would they?
Please, poke holes in this line of thought–I never understand why I don’t hear it discussed more, particularly in the blogosophere.
I see more problems and easier solutions. One, “securitization” was picked up by every country, hey, you gotta do it, the jone’s are, that was not good. Please only one Ponze per world, guys. Two, a republican belief system, jk, that you can HEDGE ANY AND EVERYTHING, I can bet the house with the right hedge, a belief system, that has grown with computers to create, “spread sheet blindness”, ie, throwing away common sense because group think uses a spread sheet verses there eyes and ears and brains.
IMHO, you can’t securitize unless there is a demand, and who bought it, basically it all started with Pension Funds, hey, an extra % on a bazillion makes you a hero. And like all things it worked, at first quite well……………………….
Almost a problem of you get so rich you realize you can’t protect it all all the time, and getting nicked for 3% on a bazillion is shocking to the owner of the bazillion, more ssb, spread sheet blindness.
on a side note: there ain’t no crime like white collar crime, cause you rarely do time if you got half a mind
it ain’t the laws, it’s the dudes in handcuffs, handcuffs and hardtime scare put the fear of god in the 90% who sit on the fence, without that incentive, it would never get to a look the other way business as usual bs
anyone in the market see’s so many malfeseances it ain’t funny, look at charts of air products and air gas, you can’t tell me someone didn’t game that for major buckos
SOUND LENDING:
1. Joe puts $10K in the bank. Mike needs to borrow $9K to buy a car. Mike is a plumber with a city contract, decent credit and the car is at a good price. The loan is sound BECAUSE – both the collateral (car) AND the borrower are both sound. So…the bank “lends” Mike $9K of Joe’s money and receives an IOU in return.
Read Full Article »