by Anonymous on 11/08/2007 09:46:00 AM

Via PJ at Housing Wire, I see that WaMu put a PR out yesterday on the matter of Mr. Cuomo's investigation into its appraisal practices. As PJ notes, this is the part that matters:

The contract with the vendor named by the NY AG requires that the vendor represent and warrant that appraisals are prepared in compliance with Uniform Standards of Professional Appraisal Practice and all guidelines issued by Fannie Mae and Freddie Mac. The contract also requires that the appraisals have been prepared without fraud or negligence on the part of the vendor, its employees or agents, including any appraiser.

Fewer than 5 percent of the appraisals performed under this contract were related to subprime loans.

WaMu has a very rigorous process regarding all repurchase requests and believes it is adequately reserved for such liabilities.

That last sentence is clearly a direct response to the last sentence of this part of Fannie Mae's PR from earlier yesterday:

It is against our interest to purchase or guarantee mortgages with inflated appraisals, and so it is in Fannie Mae's interest that these appraisal practices be investigated. The Attorney General has indicated that he also plans to subpoena Fannie Mae for documents and testimony related to the appraisal process. We intend to cooperate fully with the Attorney General. We also will appoint, with the Attorney General's approval, an independent examiner to review the appraisal practices cited in the complaint. If the examiner determines we own or guarantee mortgages with inflated appraisals, our guide states that the lender must buy back the loans that do not meet our standards and requirements.

In other words, Fannie Mae is saying that WaMu will take back any loans with dubious appraisals this "independent examiner" digs up. WaMu is saying that it will "rigorously" avoid doing so.

WaMu is also saying, in effect, that it signed a contract with eAppraiseIT that puts all liability for inflated appraisals on eAppraiseIT. Fannie Mae is saying, in effect, that it signed a contract with WaMu that puts all liability for inflated appraisals on WaMu. Cuomo, you note, is pursuing a civil complaint against eAppraiseIT and its parent First American, not against WaMu or Fannie Mae.

This is very interesting precisely because it isn't going to be about inflated appraisals. It's going to be about how far anyone can get away with two practices that are the lynch-pins of the mortgage industry: outsourcing regulatory liability to a third party bag-holder and doing business on a representation and warranty basis without pre-sale due diligence.

Neither Fannie Mae nor Freddie Mac nor most any other secondary market participant actually examines appraisals on individual loans prior to purchasing them. Some percentage of loans are chosen after purchase for a "Quality Control" review; if problems are found at that point, the investor demands that the seller repurchase (or indemnify) the loan.

This process works only to the extent that the representations made in the loan sale contract are clear, specific, and wide enough to capture all the serious problems an investor might have with a loan. In Fannie and Freddie's case, the loan seller represents that the loan meets every guideline currently published by the GSE or specified in the individual contract. The Fannie and Freddie guides themselves run to hundreds and hundreds of pages; in the case of something like appraisals, the GSE guidelines incorporate by reference things like USPAP (the standards promulgated by the Appraisal Foundation), which themselves run to a lot of pages.

Trust me; all of that stuff is detailed and specific enough that it isn't that hard to find contractual grounds to declare breach and demand repurchase of a loan. WaMu knows that perfectly well, as do all mortgage lenders: those loan sale contracts with all those warranties against all those representations add up to major potential repurchase liability. And the ugly thing is that it's repurchase liability. If your loans were all subject to 100% pre-purchase detailed QC review, your risk would be that the squirrelly ones get kicked out of the sale (you don't get to sell them). Post-purchase QC based on rep & warrant means you risk having to take them back in the future, at par, when they might be worth 90 cents on the dollar (or less), at exactly the wrong time to be owning nuclear waste. It's just like foreclosures: lenders don't make money on REO because they don't own much REO except in time periods when RE is worth a lot less, since they wouldn't be foreclosing so much if the RE market were hummin' along.

WaMu's statement is that it took all the "warranty" part of all of this off its own back and put it onto eAppraiseIT's. The plan all along was that if Fannie Mae (or anyone else) tried to force these loans back because of appraisal problems, WaMu would make eAppraiseIT take the losses. In essence, eAppraiseIT was writing an "appraisal default swap." Pity there's no public index for ADS like there is for CDS: I'm sure that would be some interesting cliff diving.

Anyway, this is why the whole flap is scaring the panties off everyone in the mortgage industry, far, far beyond any worry over stiffer appraisal regulation. The core issue here is a cornerstone of the whole "originate and sell" model that has created such a crisis. If Cuomo's suit makes any headway at all, it will put eAppraiseIT out of business one way or the other. That's because if appraisal management companies are no longer willing or able to write these liability swaps into their contracts, they won't be able to offer what the lenders really want from them. The advantage of doing business this way isn't really about saving a few dollars on outsourcing administrative work for the lenders, it's about getting out from under a huge expensive compliance and legal risk.

No wonder Cramer's head is exploding again. This thing really isn't about appraisals, it's about stopping the game of risk-layoff. The weakest (financially and politically) party in the chain, eAppraiseIT, appears to have taken on all the residual risks from WaMu and Fannie Mae, and now Cuomo is going to force those losses to materialize. You can bet that every General Counsel at every mortgage lender still operating is busy reviewing many, many contracts right now. The results will be very, very ugly.

by Calculated Risk on 11/07/2007 09:05:00 PM

From Reuters: Merrill reveals $6.3 billion more in subprime-CDO exposure

Merrill Lynch ... said its total exposure to risky collateralized debt obligations and subprime mortgages is $27.2 billion, or about $6.3 billion more than what the company disclosed late last month.

Merrill's larger figure is mostly because ... the world's largest brokerage disclosed $5.7 billion worth of exposure to U.S. subprime mortgages at Merrill Lynch Bank USA, a Utah-chartered industrial bank, and Merrill Lynch Bank & Trust Co., a full-service thrift.
...
Mike Mayo, an analyst at Deutsche Bank, has estimated that Merrill's additional write-down could top $10 billion.

Just a note: Mayo has been doing a great job.

by Calculated Risk on 11/07/2007 06:44:00 PM

From the WSJ: Morgan Stanley to Take $3.7 Billion Write-Down

Morgan Stanley will take a $3.7 billion write-down in the fourth quarter ... [from] its exposure to the U.S. subprime market.

The investment bank ... said it could lose up to $6 billion if all subprime mortgage-related investments go bad.

This is within the forecast range, from the WSJ yesterday: Morgan Stanley May Take Hit From Subprime

Two analysts are projecting the firm may take a fourth-quarter write-down of $3 billion to $6 billion. The estimates by analysts David Trone of Fox-Pitt, Kelton and Mike Mayo of Deutsche Bank AG ...
...
Another research firm, CreditSights, yesterday estimated potential fourth-quarter CDO hits at $9.4 billion for Merrill, $5.1 billion for Goldman, $3.9 billion for Lehman, $3.8 billion for Morgan Stanley and $3.2 billion for Bear Stearns.

by Calculated Risk on 11/07/2007 03:27:00 PM

From MarketWatch: Moody's cuts more SIV ratings (hat tip REBear, sr)

Moody's ... downgraded more ratings on structured investment vehicles on Wednesday and warned that the funds are in a more precarious position than they were in early September, previously considered the height of this year's credit crisis.

Moody's said it cut or may downgrade ratings on structured investment vehicles (SIVs) with roughly $33 billion in debt. ... More than 10% of all SIV debt was affected by the move. ...

"The situation has not yet stabilized and further rating actions could follow," Moody's said in a statement. "SIV senior note ratings continue to be vulnerable to the unprecedented large and sustained declines in portfolio value combined with a prolonged inability to refinance maturing debt."

From Bloomberg yesterday: Citigroup SIVs Draw $7.6 Billion of Emergency Funds

Citigroup Inc., the largest U.S. bank by assets, provided $7.6 billion of emergency financing to the seven structured investment vehicles it runs after they were unable to repay maturing debt.

The SIVs drew on the $10 billion of so-called committed liquidity provided by Citigroup ...

This is getting ugly. Also the MLEC SIV Superfund has apparently stalled as the SIV situation is deteriorating. (sorry for all the posts today - a lot of news and little analysis)

by Calculated Risk on 11/07/2007 01:29:00 PM

Here is the press release from NY AG Cuomo. A couple of excerpts:

“Our expanding investigation into the mortgage industry has uncovered that Washington Mutual improperly pressured appraisers to provide inflated values that best served the lender’s interest. Knowing this, Fannie Mae and Freddie Mac cannot afford to continue buying Washington Mutual mortgages unless they are sure these loans are based on reliable and independent appraisals.”
Attorney General Cuomo, Nov, 7, 2007

And from the Appraisal Institute:

“I wish I could say I am shocked by the discoveries made by the Attorney General and his staff. Sadly, what allegedly happened between First American and Washington Mutual is not an isolated incident. Rather, it is symbolic of a problem that has plagued the appraisal industry for years. As the allegations against First American show, the mortgage industry’s dirty secret has been that banks exert tremendous pressure to extort appraisers.”
Terry Dunkin, President of the Appraisal Institute Nov 7, 2007.

by Calculated Risk on 11/07/2007 01:10:00 PM

From Bloomberg: Banks Face $100 Billion of Writedowns on Level 3 Rule, RBS Says

U.S. banks and brokers face as much as $100 billion of writedowns because of Level 3 accounting rules, in addition to the losses caused by the subprime credit slump, according to Royal Bank of Scotland Group Plc.

And on total credit losses:

``This credit crisis, when all is out, will see $250 billion to $500 billion of losses,'' London-based Janjuah said. ``The heat is on and it is inevitable that more players will have to revalue at least a decent portion'' of assets they currently value using ``mark-to-make believe.''

Back in July, when Bernanke suggested the losses would be in the $50 Billion to $100 Billion range, I joked that he had dropped a zero.

"Some estimates are in the order of between $50 billion and $100 billion of losses associated with subprime credit problems," [Bernanke] said (July 19, 2007).

I thought I was exaggerating for effect - although $50 to $100 Billion seemed too low, I didn't really think the losses would reach $500 Billion to $1 Trillion. Based on this new estimate from RBS, maybe I wasn't far off.

Note: these losses don't include the coming $2+ Trillion in household net worth losses due to house prices falling over the next couple of years.

by Anonymous on 11/07/2007 01:08:00 PM

Because the color of someone's tie says a lot about appraisal quality. Also, I didn't make this up, and you can click the link to verify that:

"Not a golf or tennis player? Then go on a date!" said the ABS East brochure at its asset-backed securities conference in Orlando, Florida, which runs Sunday through Wednesday.

While not your traditional singles speed-dating event, the conference sponsor hoped to create some key matchups between issuers and investors seeking to form some true, long-lasting business partnerships.

"It just takes some of the guesswork out of trying to connect and makes a very large event more intimate for those people who may be new to the market or don't already have established connections," said Jade Friedensohn, IMN senior vice president and event producer.

Investors were offered the chance to meet one-on-one with issuers of mortgage asset-backed securities, collateralized debt obligations and non-mortgage ABS on Tuesday. Six investors and issuers spent 10 minutes in pairs of two hoping to make a connection before moving on to their next potential match.

"Ten minutes should be enough to determine if one investor's risk profile is in line with that issuer's platform. When you're first meeting, the goal is to even understand if there's compatibility there," said Friedensohn. "If there is, at that point, you've had face time, you've exchanged business cards and the follow-up can be done on-site or down the line."

(Thanks, scav (I think))

by Calculated Risk on 11/07/2007 12:25:00 PM

From Bloomberg: Cuomo Subpoenas Fannie Mae, Freddie Mac, on Washington Mutual

New York Attorney General Andrew Cuomo subpoenaed Fannie Mae and Freddie Mac ... seeking information on loans they bought from banks including Washington Mutual Inc.

Cuomo said he uncovered a ``pattern of collusion'' in appraisals on Washington Mutual loans. ...
...
The subpoenas also seek information on the due diligence practices of Fannie Mae and Freddie Mac and their valuations of appraisals.

by Calculated Risk on 11/07/2007 11:30:00 AM

From Reuters: Washington Mutual sees loan losses; shares tumble (hat tip barely)

Washington Mutual Inc ... said on Wednesday the U.S. housing slump will persist through 2008, causing loan losses to mount and mortgage lending to fall to an eight-year low.
...
It expects credit losses to remain "elevated" through 2008. ...

"The soft landing we were anticipating quickly transitioned to a severe downturn," Chief Executive Kerry Killinger said in a presentation to investors in New York. "This process is painful."

What expected soft landing? And further in the article:

[The CEO says] WaMu has "contained" its own lending risks.

Ahhh, more containment!

by Calculated Risk on 11/07/2007 11:09:00 AM

From BuilderOnline: Lennar Suspends Sales at Two Major Projects

... Lennar has decided to temporarily stop taking orders at one of its largest and highest-profile projects in southern California - Central Park West in Irvine. The Miami-based builder has also postponed construction of two high-rise projects in Anaheim, known as A-Town Metro and A-Town Stadium.

Central Park West ... sprawling over four city blocks, was supposed to start moving in its first buyers last month. But company officials concluded that too much of the village was still under construction for early buyers to be able to fully appreciate its amenities and living environment. ... The builder has refunded earnest money to buyers who had already purchased homes there. For the time being, Lennar is keeping open Central Park West's sale office, which is across the street from the massive construction site.
emphasis added

This is a massive project in Orange County just off Jamboree southwest of the 405 (for those that know the area). Returning earnest money is a bad sign, and I wouldn't be surprised if the project is halted soon.

by Anonymous on 11/07/2007 08:21:00 AM

An Associated Press reporter has apparently been living in a cave for a few months:

NEW YORK - The malaise in the mortgage market is starting to spread to credit card and auto loans in what one analyst has dubbed consumer credit "contagion." It's an ominous warning signal for the economy.

"One analyst"? "Contagion" in quotes? I checked the byline; this seems to have been published this morning.

No one is calling this problem the next debt-related land mine yet, but it is important to watch what happens, especially as the holiday shopping season gets under way.

OK. Let me rectify this inexplicable failure of cliche:

This problem is the next debt-related land mine. You read it here first, kids.

We also savor the perfume of the new trend, odiferous metaphoricity:

"Firms that are now adding to the portfolio might have had a few whiffs of trouble brewing earlier this year and dragged their feet in adding to reserves because they were hoping that interest rate cuts might bail them out and give borrowers breathing room," said Jack Ciesielski, who writes the industry newsletter, The Analyst's Accounting Observer.

"Now, the odor is getting stronger, and it looks like adding reserves is the only course of action they can follow without presenting misleading financials," Ciesielski said.

by Anonymous on 11/07/2007 07:37:00 AM

Percent of refis involving cash-out rises, but amount of cash taken out falls:

McLean, VA – In the third quarter of 2007, 87 percent of Freddie Mac-owned loans that were refinanced resulted in new mortgages with loan amounts that were at least five percent higher than the original mortgage balances, according to Freddie Mac's quarterly refinance review. The revised share for the second quarter of 2007 was 84 percent. . . .

In the third quarter of 2007, the median ratio of new-to-old interest rate was 1.11. In other words, one-half of those borrowers who paid off their original loan and took out a new one increased their mortgage coupon rate by 11 percent, or roughly five-eighths of a percentage point at today's level of 30-year fixed mortgage rates.

"This quarter we saw $60.1 billion cashed out, down from a revised $81.4 billion cashed out in the second quarter of 2007," said Amy Crews Cutts, Freddie Mac deputy chief economist. "Based on what we've been seeing in the share of mortgage applications for refinance, we are expecting the share of mortgage refinance originations to remain about the same in the fourth quarter as we saw in the third, at about 45 percent. . . .

The Cash-Out Refinance Report also revealed that properties refinanced during the third quarter of 2007 experienced a median house-price appreciation of 26 percent during the time since the original loan was made, up from a revised 24 percent in the second quarter 2007. For loans refinanced in the third quarter of 2007, the median age of the original loan was 3.9 years, 5 months older than the median age of loans refinanced during the second quarter of 2007.

by Calculated Risk on 11/07/2007 01:28:00 AM

Click on graph for larger image

This is a graph of the December U.S. Dollar Index from Barchart.com.

This reminds me of Dr. Krugman's "Will there be a Dollar Crisis?" from July. Krugman wrote:

"... there will at some point have to be a ‘Wile E. Coyote moment’ – a point at which expectations are revised, and the dollar drops sharply."

On topic, check out this funny post at Krugman's blog: Modeling the falling dollar

And from Bloomberg: Dollar Slumps to Record on China's Plans to Diversify Reserves

The dollar slumped to a record low against the euro after a Chinese official said the government will favor stronger currencies as it diversifies $1.43 trillion of foreign-exchange reserves.

... ``We will favor stronger currencies over weaker ones, and will readjust accordingly,'' Cheng Siwei, vice chairman of China's National People's Congress, told a conference in Beijing.

by Calculated Risk on 11/06/2007 09:36:00 PM

From Bloomberg: MBIA, Ambac Losses Will Be `Massive,' Egan Jones Says

Bond insurers ... face ``massive losses'' over the next few quarters that could test their ability to raise new capital, Egan-Jones Ratings Co. said.

MBIA may lose $20.2 billion on guarantees and securities holdings, Sean Egan, managing director of Egan-Jones, said on a conference call today. ACA Capital may take losses of at least $10 billion; New York-based Ambac may reach $4.3 billion; mortgage insurers MGIC Investment Corp. and Radian Group Inc. may see losses of $7.25 billion and $7.2 billion, respectively, Egan said.

``There is little doubt that the credit and bond insurers face massive losses over the next few quarters and many will be capital challenged,'' Egan said.

Egan-Jones (not included in article) also expressed concern about possible major writedowns coming at Lehman and Bear Stearns. They commented that ResCap probably isn't sustainable without a capital injection. And for the homebuilders:

"Watch for some failures over the next couple of quarters."

UPDATE: From the WSJ: Morgan Stanley May Take Hit From Subprime

Two analysts are projecting the firm may take a fourth-quarter write-down of $3 billion to $6 billion. The estimates by analysts David Trone of Fox-Pitt, Kelton and Mike Mayo of Deutsche Bank AG ...
...
Another research firm, CreditSights, yesterday estimated potential fourth-quarter CDO hits at $9.4 billion for Merrill, $5.1 billion for Goldman, $3.9 billion for Lehman, $3.8 billion for Morgan Stanley and $3.2 billion for Bear Stearns.

by Calculated Risk on 11/06/2007 06:06:00 PM

From MarketWatch: GM taking $39 bln non-cash charge in third quarter

General Motors Corp. said late Tuesday it will record a third-quarter non-cash charge of $39 billion because of accounting standards related to its deferred tax assets in the U.S., Canada and Germany. The company said the money is needed to establish a valuation allowance in part to compansate for unanticipated losses at GMAC Financial Services.

Here is the press release: GM to Record Non-Cash Charge for a Deferred Tax Valuation Allowance in its Third Quarter Financial Results

"SFAS No. 109 guidelines require that a valuation allowance should now be established due to more recent events and developments during the 2007 third quarter. A significant negative factor was the company's three-year historical cumulative loss in the third quarter of 2007 in the U.S., Canada and Germany on an adjusted basis. Another significant factor was the ongoing weakness at GMAC Financial Services related to its Residential Capital, LLC (ResCap) mortgage business, including substantial U.S. losses incurred in 2007. Finally, the company faces more challenging near-term automotive market conditions in the U.S. and Germany."

by Calculated Risk on 11/06/2007 05:24:00 PM

Quote of the day from Bloomberg: Citigroup Writedowns May Be as Much as $13.7 Billion

Rescuing the bank's subprime holdings may be a harder challenge than Long-Term Capital, said Lawrence White, professor of economics at New York University's Stern School of Business.

``The opaqueness as well as the stinkiness are greater,'' White said.

Perhaps "stinkiness" explains the short comment from CNBC's Erin Burnett (hat tip Nemo) in the video at the bottom of the posts.

by Calculated Risk on 11/06/2007 04:26:00 PM

Mathew Padilla at the O.C. Register posts this ResMae email: ResMae stops funding loans

“... the current unprecedented market conditions have forced us to change course. Effective immediately we are temporarily suspending new loan originations. ... Our National Operations Center in Brea, CA will continue to support existing loans in the ResMAE pipeline and will continue to fund loans through their commitment expiration dates. Commitment dates will not be extended.“

See Matt's blog for more.

by Anonymous on 11/06/2007 04:00:00 PM

That's "Republican in Home Prices Only."

Never underestimate the "values voters."

by Calculated Risk on 11/06/2007 03:36:00 PM

From Reuters: Hovnanian says net contracts and sales fall (hat tip Barley)

Orders and sales for new homes fell and cancellations rose at upscale U.S. home builder Hovnanian Enterprises Inc during the company's fiscal fourth quarter.

The ... October sales pace in most of its markets "significantly deteriorated" when compared with recent months ... Hovnanian ... was the first major builder to include October results in its preliminary accounts.

Another month, another down turn for housing.

by Calculated Risk on 11/06/2007 01:19:00 PM

From MarketWatch: Fitch cuts rating outlook of Wells Fargo, WaMu, Capital One

Fitch Ratings ... revised down Wells Fargo Co. and Capital One Financial Corp.'s outlook to stable from positive, and lowered Washington Mutual Inc.'s outlook to negative from stable. Fitch also removed Countrywide Financial Corp. from rating watch and assigned it a negative outlook.

Too many rating cuts, not enough time.