Friday, March 07, 2008
For mortgage geeks only
Why not offer homeowners stuck in underwater mortgages a simple exchange: they sign over the deed of the house in exchange for a two to five year lease at a payment level they can afford. They stay in the house for the time being, are forgiven the debt (now a tax free transaction if I understand things correctly) but forfeit the upside if and when the property value recovers. The mortgage holder has to write down the mortgage, but maintains a security interest in the lease income stream, avoides the huge carrying costs of eviction and foreclosure, and has at least a chance to recover some value if rents and/or property values increase.
Given the current situation in the mortgage and housing markets, what is wrong with this plan?
I don't expect a lot of commentary from our normal readership, which is mainstream enough not to spend unhealthy amounts of time thinking about this sort of thing (as I do). But I expect at least one and possibly all co-bloggers to be able to weigh in, should they be moved to do so.
14 Comments:
By 
joated, at
Fri Mar 07, 03:54:00 PM:
I can see a couple of problems for the lender:
(1) The mortgager (the new lease holder) would need to hire a caretaker to oversee its properties.
(2) The new renter of the property, with no reason to care for the property having given up any true stake in it, would not be ready or willing to perform necessary maintenance.
By 
, at
Fri Mar 07, 03:57:00 PM:
Fine, as creative an action (note, not "solution") as I've seen. Problems will result from changing "lenders" to "landlords," as status that they are ill prepared to adopt. Who'll fix the leaky toilet, pay the hail damage insurance and the real estate taxes? And, can you imagine the whining toward the end of the lease (or extensions) when the now renter decides he didn't really understand the deal. Finally, there will have to be a secondary market in these deeds to allow the lender/owners to monetize these assets.
This bubble is the same as the S&L scandal in the early '90sl the market allowed the concepts of risk and reward to be uncoupled. The lenders here, could profit mightily by selling the risks, disguised as solid assets, to institutions. We must not allow that to happen again.
BTW, how do we handle the investors who thought they were buying good assets with a solid dividend stream? If you know any CitiCorp share owners, you know what I mean.
The government simply should not be the financial risk insurer for every MBA with a semi-shifty idea.
By Charlottesvillain, at
Fri Mar 07, 04:14:00 PM:
Good thoughts. Did I say "solution?" You are correct to dispute.
Regarding maintainance, if the servicer is otherwise going to foreclose, won't they have even worse maintainance issues than if they were landlord? In both cases, I imagine they are outsourced for a fee, and I have to think it would cost less if there is a tenant in the home. Just a thought.
Investor consent is obviously the touch sell with this, and any other potential loan modification that is outside the contractual agreement. The one advantage I see with this over other proposals is that other plans are just asking the investors to suck it up and take the lumps, but with this they would at least get equity, and an albeit reduced cashflow stream. It would be interesting to model the NPV of alternative scenarios.
Regarding monetization, leases would be securitizable, although less efficiently than a good mortgage (with LTV < 90) was in the old days. In today's environment, nothing can be monetized, so if that's a prerequisite we are stuck with the status quo.
By Cardinalpark, at
Fri Mar 07, 04:20:00 PM:
I'm a "let the market sort it out" kind of guy. I've heard of some very creative transactions generated by some guys who were the initial mortage brokers in transactions. In some sense, they "own" the client relationship, and they have a sense as to where the mortgage resides. What some of them have done is bought back non performing mortgages on selected assets (Which they in some sense underwrote, so they have good information) at significant discounts to face. They then go back to the resident/equity owner and restructure the payment stream.
By crystallizing the loss for the current lender, the new mortgage holder in effect re-equitizes the property. IF the owner can handle a new proposed payment stream, everybody can win (the new lender and the old owner). The old lender lost, but they're out at least.
I think the market sorts these things out better because one single conforming solution can't possibly work. The market has to re-price and re- underwrite each non performer. I simply don't think that can be imposed from the top, but has to be worked from the bottom. And the losses must be crystallized -- that is either the lender or the owner has to give up and move on, eating crow in the process. That is always, always hard to do.
By Charlottesvillain, at
Fri Mar 07, 04:37:00 PM:
CP,
I'm in complete agreement with you.
By Georg Felis, at
Fri Mar 07, 04:44:00 PM:
One would think there would be a market in there somewhere. Heck, people buy junk bonds. So if Bob’s house is about to be foreclosed, he can call Ted, who makes a deal to buy the house at foreclosure and rents it back out to Bob, and eventually Bob buys it back from Ted in a year or so after he gets his finances straightened back up. The sticker in the weeds here is the possibility that this process can evolve around into a way to rip the bank off by forcing a foreclosure and simply picking the deed back up at a sale price.
I think that is kind of what CP said, only using smaller words :)
By Charlottesvillain, at
Fri Mar 07, 05:01:00 PM:
Back in the depression, Iowa farmers use to collude at foreclosure sales, which usually included auctioning off livestock, equipment, and the farm, and the auctions were binding. They would stand around with axe handles looking menacing, preventing buyers from coming in and bidding up prices. They would bid very low amounts, buy everything up, and then give it all back to the farmer.
By , at
Fri Mar 07, 05:19:00 PM:
A cute solution, though I might be inclined to shorten the lease period (2-5 becomes 1-3?) and allow lenders to recoup their losses sooner. I have some problems with summarily rousting people from "their" domiciles, but fewer issues with an orderly and stable restructuring of tenancy and ownership. The usual disclaimers apply, (predatory lending is bad,) and your mileage may vary.
By , at
Fri Mar 07, 05:21:00 PM:
Isn't the real issue though that most of these mortgages have been sold into securities that are supposed to pay some coupon rate of return? The 'banks' don't really own them. I'd rather take the hit in the market, bankrupt the people who used to have money and ran this market up, or spent all their equity on bling, and let the market of eligible buyers relevel things. It'll be a long time before there's a building boom, and the responsible people who can capitalize today will make the profit. Slow and steady wins the race, rabbit beats hare.
JT
By , at
Fri Mar 07, 06:46:00 PM:
Why not just reduce the monthly payment to a level that the mortgage holder can afford and capitalize the rest. Given the certaintly of long term inflation, everyone will come out after prices stabilize at their new high levels in a few years.
By Escort81, at
Fri Mar 07, 10:01:00 PM:
Good discussion. I agree with CP. I am not sure, but I think the IRS might view the Bob/Ted example georgfelis describes as a "collapsible transaction," or not done at arm's length.
I also agree that there is not a one size fits all solution. In cases where the borrower misrepresented their income or balance sheet and overstated their ability to keep current on their P&I, I don't see anything wrong with foreclosure, whatever the consequence on that local housing market. In cases where the original lender used so-called predatory lending techniques (not fully disclosing in plain language what the escalation in monthly payments would be after the teaser rate was over with), particularly with first time home buyers, that lender has to take a serious haircut.
Somewhat OT, I would like to see a discussion of suggestions for structural (or rule) changes in the primary (and secondary) mortgage markets so that this kind of crisis doesn't happen again, at least not to this extent. How about strict enforcement of loan to value ratios, so that there is always a signifcant equity cushion? I think dampening the volatility is worth exploring, with apologies to the pure laissez-faire readers out there. This is much worse than Texas in the mid/late 1980s or Boston in 1990, when Bank of New England went under, or Baltimore/Washington in 1990/91, when MNC Financial tanked (except for the MBNA credit card part, which was spun off and was quite successful). How may boom and bust cycles is this since Salomon Brothers "invented" the securitzation of motgages in the late 1970s? And how much more esoteric can smart/dumb MBAs like us make mortgage dervatives (I thought CMO residuals were strange stuff when I wrote a B-School paper on them 19 years ago based in part on some literature the Goldman recruiter left behind; that stuff would be relatively plain vanilla now)? Sorry if this sounds like old time 3-6-3 local banker lending (borrow at 3%, lend at 6%, on the golf course by 3 o'clock), but the housing market may not be the best place to encourage speculation -- there are plenty of other arenas for that.
By , at
Sat Mar 08, 12:44:00 AM:
I had a similar concept in mind, if nothing else to prevent having to deal with an indeterminable amount of homeless people. Plus prevent the wholesale internal butchery on foreclosed homes. But hey, I am just a stupid girl. I wasn't thinking about it from the warm and fuzzy, merely a practical way to prevent an ever-growing potential for hysteria and chaos.
By , at
Sat Mar 08, 08:58:00 PM:
I've worked both as a banker analyzing odd cmos and as vulture - buying nj houses at foreclosure and then swinging a hammer to make them nice again.
I've never taken a deep look, but I suspect the true problem in foreclosure does not lie in deficient laws or securitization.
Assuming the borrower can't be chased for assets beyond the house, the rational solution is for banks to work out solutions with the borrower or a third party investor for a price between fair market and foreclosure recoverable - costs.
This rarely happens - maybe because of moral hazard. But the next step really galls me. Banks often bid the full value of the debt (including costs), regardless of market value after foreclosure. Then, they slowly hand the reins to a real estate company to place the property back on the market (and increase costs).
The rational move at this phase should be to bid foreclosure value - future extra costs (in hopes of being outbid). Why doesn't this happen? I suspect this keeps the mortgage servicer from maximizing revenues (and the MSR contract is sloppily designed). Fix the contract, remove the neighborhood blight.
Of course, the problem could have been avoided in the first place if the ratings agencies had monitored against shoddy income verification.
By , at
Sat Mar 08, 09:12:00 PM:
fuck that high minded nonsense. people can read the terms of their mortages. if they can't meet the terms they shouldn't have signed. american taxpayers are being hosed by their representatives who are not responsible enough to take care of the other financial issues this republic faces. fuck that to hell.
