Ally’s mortgage misery needs a clean ending

March 27, 2012

By Agnes T. Crane and Antony Currie
The authors are Reuters Breakingviews columnists. The opinions epxressed are their own.

Ally Financial finally seems to have woken up to the need to get rid of ResCap, its ailing mortgage unit. Once the jewel in the former GM finance unit’s crown, the home lending and servicing operation has been a prime candidate for the bankruptcy court for years. ResCap has been on U.S. taxpayer-funded life support since 2008 – sucking up most of the $17.2 billion in aid the U.S. Treasury funneled to Ally. Now a Chapter 11 restructuring may finally be on the cards. But Ally needs to ensure its mortgage misery comes to a clean ending.

Bankruptcy ought to allow that. Back in 2005, Ally – or GMAC, as it was then called – revamped ResCap’s corporate structure so that it became a fully independent subsidiary with its own board and funding strategy. The purpose was to insulate the mortgage lender from any problems at GM and the auto finance arm. At the time, ResCap’s bondholders seemed perfectly satisfied they were protected.

Now, though, activist hedge fund Elliott Capital Management, which owns 2.3 percent of Ally, is questioning how watertight that arrangement is. It’s concerned a bankrupt ResCap could still drag its arms-length parent into another protracted mess. If that happened, Elliott argues, Ally would be embroiled in a flood of mortgage-related claims the hedge fund reckons could swamp the court. What’s more, Ally would have to duke it out with other creditors – its home-lending arm relies on its parent for $1 billion of secured loans and a $1.6 billion credit line.

Ally appears to think that’s less of a risk. According to Reuters it is considering whether to sell ResCap to another hedge fund, Fortress, through the bankruptcy process. If successful, that would remove most of the problem assets that caused it to fail the recent Federal Reserve stress test and may even put its mooted common stock offering back on track.

Taxpayers should cheer that: the unencumbered core auto business may be worth as much as $23 billion, more than enough to repay the $14 billion still owed Uncle Sam. But Ally Chief Executive Michael Carpenter needs to show that the risk of Ally being laid low by a ResCap bankruptcy is minimal. The last thing the firm, and taxpayers, need is for a bad decision to prolong its own pain.

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