In the fall of 2010, there was no shortage of news regarding faulty foreclosure processes, aka "robo-signing." Bank stocks took a hit and the threat of a nationwide foreclosure moratorium appeared imminent. Then came the concept of put back risk to the big banks claiming violations of reps and warranty agreements or pooling and servicing agreements (PSAs). Since that time the media has gone rather quiet on the subject and the price action in the bank stocks would imply all is well. BAC settled for pennies on the dollar with one of the GSEs and the stock rocketed that very day as investors were no longer "worried about the uncertainty."
The story may have gone cold but the lawsuits, court rulings, class actions, investigations have only heated up and continue to grow. In fact they have grown to the point where keeping up with all of it was next to impossible. Banks have tried to downplay any of these threats in their most recent earning's releases and conference calls but suddenly things seem to have changed. Recent SEC filings by JPM, earnings restatements by BAC, a quick departure of Howard Atkins from WFC and regulators investigating CDO transactions by C have begun to turn the spotlight back to the banks and the balance sheet risk they face.
MERS was recently sued by a small county in Massachusetts for $22 million for failure to pay recording fees. This is just one small county in one state. The warning shot has been fired. States face hundreds of billions in budget gaps. States have been defrauded of legal recording fees by MERS who will argue their electronic system of registration was a more efficient process in a fast moving mortgage market. MERS was created by the real estate finance industry (per their website) and should these floodgates open, the banks who used MERS to transfer mortgages may ultimately be liable.
"Citigroup, the third-largest U.S. bank by assets, also said U.S. regulators are examining how it structured and sold collateralized debt obligations as part of an investigation into mortgage-related businesses." - Bloomberg
The Obama administration as part of the ongoing 50 attorneys general investigation of robo signing is proposing a $20 billion settlement whereas proceeds will be used for principal reductions for those underwater in their mortgages. The banks / servicers involved in the suit will not be able to push those writedowns to the holder of the RMBS and will also have to adjust their second tier liens. So this settlement has three strikes. Strike 1, homeowners will still default. Strike 2, banks will take an immediate $20 billion hit to their balance sheet. Strike 3, the second tier lien writedowns will force additional capital raises.
Bank of America is in the largest class action suit right now. It started at $46 billion when PIMCO, NY Fed, etc claimed reps and warranty violations. That has now grown to $84 billion as more investors have joined a clearing house to overcome the 25% threshold level required to initiate such a request. Months back when this first surfaced, CEO Brian Moynihan argued the process of resolving put backs would be long and litigious. He said BAC would fight loan by loan. He was wrong. A recent ruling has set precedence for put back requests to now use statistical sampling to simplify the process of declaring judgement.
Of all these headwinds two by far still stand out, not for their sheer size but for their outcome does not involve a government agency where a slap on the wrist, pennies on the dollar fine is awarded. The private label put back and falling home prices in the face of a rising interest rate environment and rising unemployment (that's if you include the growing list of those disgusted and leaving the work force) are as close to a free market as we have in our society today.
