Wednesday, April 25, 2007

Mortgage Fraud Update: Wall Street Gets Fleeced By the Little Guy

by Tanta on 4/25/2007 07:30:00 AM

Good morning, Calculated Riskers. It's Wednesday, and you know what that means: Wall Street has discovered that there's fraud in them loans! Alert the media!

Well, actually the media is alerting us. Bloomberg is on the case already, in "Subprime `Liar Loans' Fuel Housing Bust With $1 Billion Fraud." Sure, you thought the liar loans fueled the housing boom, and that the "liar loan" problem was hardly confined to subprime, but that's because you're a permabear.

Read the thing if you must; I'm sure you'll enjoy the reference to the MARI report on exaggerations of stated income that has been reported on approximately one gajillion times since its original publication one year ago, and is apparently the last research on the question anyone is ever going to do until the archaeologists take over.

What I noticed is what isn't here: any recognition that Wall Street has known about the explosion in "stated income" lending since the git-go. You will note the reference to volume numbers provided by Credit Suisse. CS would be getting these numbers from LoanPerformance or some similar database of securitized loans. The reason the database has that information is that "doc type code" is a required field at the loan level. It is--sit down, this will shock you--used to price the loans that Wall Street is buying. That is where that additional quarter of a point cost to the borrower mentioned in the article comes from. These decisions about how to price risk do not come from random confluences of impersonal forces of nature that are invisible without a pair of Spectrespecs.

But Wall Street is paying attention:

Low documentation loans were established in the 1980s mainly for the self-employed and non-U.S. citizens whose pay was difficult to verify. They can be processed quicker than standard loans and typically cost the borrower an extra quarter point on his mortgage. They were made possible by relaxed lending guidelines, or what Bear Stearns Cos. analyst Gyan Sinha calls ``Hail Mary underwriting.'

OK. Stated income loans "were made possible by relaxed underwriting guidelines." Who made up those relaxed underwriting guidelines? At what point, exactly, did Bear Stearns notice this? Is Bear saying that its own underwriting guidelines were mere exercises in counting rosary beads, or that someone else's were? Does that mean Bear manages risk by delegating the formulation of credit policy for billions and billions of securitized loans to some pissant mortgage broker? Does it tell the SEC that? And what's with this "were" business, anyway? Nobody's doing stated income any longer? That is news.

Ladies and gentlemen of the press: we have, actually, established the culpability of borrowers and brokers on the bottom and foreign central banks and other nefarious sources of liquidity on the top. Could we, maybe, spend a minute looking at the middle of the chain? Unless I am sorely mistaken, the Street has been accepting a lot of fees lately for "underwriting" mortgage-backed securities. Perhaps we could ask them about their own "Hail Mary" problem for a change?