Sure, but incentives (misaligned) result in moral hazard and/or corruption, simply put. And to an outsider the entire system looks corrupt if it succumbs to this sort of event. Which it did!

Btw, when you say the asset managers were the “root cause of the crisis” I think that you’re going too far. What makes them especially culpable, more so than the originators of the assets who evidently were selective in their disclosure of info? I take your point that the asset managers are culpable. I think misaligned incentives really means that *anyone* with an incentive to perpetuate this kind of nonsense is also culpable.

The incentives are the same for all servicers. In a falling market they LOSE money on foreclosures and they are out of pocket for up to three years before they see a dime. The article you quoted is confusing servicers with lawyers, who most certainly ARE making money out of this – and with the current “scandal” seem certain to make more.

PS as a buysider why are you scrutinzing CDO reference collateral now? As opposed to say three years ago?

There is much insight to be taken in knowing exactly how servicers are rated.

“Speed is also rewarded by the nation’s credit-rating agencies, which give higher grades to mortgage service firms that accelerate the foreclosure process and generally hand out lower grades to those who hold onto delinquent loans. A Fitch Ratings manual calls the speed of foreclosures “the key driver in the servicer rating,” according to a report by the National Consumer Law Center.”
For Foreclosure Processors Hired by Mortgage Lenders, Speed Equaled Money
http://www.washingtonpost.com/wp-dyn/con tent/article/2010/10/15/AR2010101506541. html

In scrutinizing CDO reference collateral and ABX reference entities, it is boldly apparent that certain tranches were targeted for mortgage servicing fraud, knowing that it takes a relatively small percentage of defaults to tank a security. Sure there were many tranches in which complicit servicers did not exact servicing fraud. They didn’t need to. Given the now vast volume of case law, depositions, decisions and settlements, clearly there are few servicers who did not participate in the scheme. When lenders or credit unions portfolio and service loans in house, chances are you are fairly safe from predatory servicing.

The banks manufactured these products because the asset managers wanted them. One of the things that got missed somehow is that during the boom, that there was so much demand from asset managers that the originating banks simply couldn’t issue enough debt to service that demand. I think the simple answer to Felix’s question about the due diligence is that most investors simply didn’t care. They cared about yield, they wanted a stamp saying it was “safe” and possibly some relative value input. It still amazes me that these people have somehow become the “victims” when they frankly are the root cause of the crisis and to again to reiterate they are the ones who most certainly DO have a fiduciary responsibility.

If I might add to the used car salesman analogy. You can argue about whether the salesman had a requirement to disclose everything or not but if you hire a guy to go out and get you the best deal based on his claim of expertise in this exact field then I think he DOES have a responsibility for what you buy.

Certainly a whiff of a (loosely organized) conspiracy there!

I’d sure love to see Felix, or perhaps Steve Waldman, weigh in again in comments.

2010 – Countrywide Home Loans Servicing – now owned by BoA – http://www.ftc.gov:80/opa/2010/06/countr ywide.shtm
2008 – EMC Mortgage Corp. – formerly Bear Stearns subsidiary, now JPMC – http://www.ftc.gov/opa/2008/09/emc.shtm
2003 & 2007 – Select Portfolio Servicing – Credit Suisse subsidiary http://www.ftc.gov/fairbanks
2004 – Ocwen Federal Bank – http://files.ots.treas.gov/93606.pdf

It is no accident that time after time CDO prospectuses read “Credit risk arises from losses due to defaults by the borrowers in the underlying collateral or the issuer’s or SERVICER’S FAILURE TO PERFORM.” At the same time ratings agencies persisted in giving servicers sterling ratings without so much as a glance to relevant, readily available legal decisions and settlements. Despite these facts being in public view for years now, MSM has perpetrated the myth of deadbeat borrowers being the cause of this debacle. Only recently are some beginning to see the light and report the truth, acknowledging that servicers loaded the dice so investment banks and “speculators” could reap the benefit of their “sure bets”. When it all comes out, this will become known as the largest, most damaging insider trading scheme in all history.

L. Randall Wray, Professor of Economics at the University of Missouri-Kansas City puts it more strongly:
“This is the biggest scandal in human history. Indeed, all previous scandals from around the globe combined cannot even touch this one in terms of scale and scope and stench. This is the mother of all frauds and it will be etched into the history books for all time.”

http://www.creditwritedowns.com/2010/10/ bank-holiday-is-best-solution-for-epidem ic-of-mortgage-fraud.html#ixzz12YWiGlt6

DUE Diligence: know the structural features of securitization 101 for private label MBS. AAA investors are at the front of the class, both in regards to interest and ultimate principal. AAA investors, by their nature, are supposedly gonna be risk-averse than a typical A/BBB investor. The credit enhancement structure on most private label MBS are fairly straight-forward. Excess spread, starting OC balances, and then the credit structure.

AAA classes are not ‘guaranteed’ of anything; but a starting CE % of 18-25% previously provided a better level of comfort, as opposed to the BBB class facing high losses with a CE% of 2-5%. AAA classes are the last class of investors to face potential loss of principal.

Rating migration: what the hell is this, now? It’s a long run study, performed on structured finance ABS, that proved over a 15-18 year period how stable AA/AAA ratings had performed over that time frame. Those results had maintained some historical signifance until late 2006/2007 & onward. Moving downward in the capital structure, it’s intuitive that classes rated “A” and lower experience greater “noise” in downgrade activity.

Default scenario assumptions: prior to the housing / mortgage finance implosion, it was commonly understood that a homeowner would choose to default on the mortgage loan as the last option. Credit cards, and automobile obligations, were typically presumed to be first out the door in terms of borrower default; easier to dismiss those, and/or settle, through a personal bankruptcy filing.

Credit curing: another previously held conceit, that an average “640 borrower” could improve one’s credit status after meeting contracted mortgage payments 18-24 months in a row. A fully documented loan also aided greatly in this regards.

I can probably add more as they derive into my noggin

{[changes channels to Sally Jesse Raphael]}
Woman: {[weeping] I don’t know Homer Simpson, I — I never met Homer
Simpson or had any contact with him, but — [cries
uncontrollably] — I’m sorry, I can’t go on.}
Sally: {That’s OK: your tears say more than real evidence _ever_
could.}

Again, I would love someone to post a prospectus where the sell-side is asserting that every single loan is compliant and where there were loans that were not compliant and the sell-side knew it.

have a nice weekend, folks. I hope it’s not too cold up in Saskatchewan, Kitty.

I started in the business in late 90s; to imply that fiduciary duty is a stretch (as it regards to institutional sales), okay. But these folks, on BOTH the buy / sell side, are generally well-comped for their efforts. Being well-comped does not mean getting a free ride to just sell whatever the hell it is your Street firm is lately pushing, and then dump all over those suckers on the buy-side. THAT should be a going-concern problem, and noted by any future business “relations”.

Perhaps a better description is a commercial trust, in this counterparty relation. As a buy-sider, I’ll trust whatever price you list on the MBS inventory sheet. And for the sell-side, they don’t bitch / moan if I throw a 4/32 back-bid (since I doubt 100% the sell firm’s trading desk paid full freight on an offering). Oh, but they will.

Final thought: many comments belabor the fact that investors failed in their homework. True enough. To be fully clear, MBS investments have sucked wind for the last 3+ years; and any institutional portfolio will have to work a few years to remove that stink off the trailing return / peer comparisons.

Customers wanted yield that was approved by the ratings agencies. That’s what they got.

The real story of foreclosuregate is about violation of the Rule of Law in the foreclosure process. Guess what – there’s also a rule of law when proving illegal activity – you can’t just say ” FRAUDDDDDDDDDDDDDD!” and be done. Show me where in what prospectus stuff was misrepresented – and guess what – I’ll agree with you!

People who actually KNOW the law and this business tell me that Felix’s wild goose chase is a load of nonsense – at least what he’s written so far.