Novel Solution to Mortgage Problems for the Individual

Dear Senator Mikulski,

As per your request I have compiled a couple notes on the bill S. 1299 for Borrowers Protection. In general I support the bill and it’s intent. However it needs tweaked and it is important to note; the last thing you want to do is pass a law that is so rigid it stifles the mortgage industry, which after all is a free market based economic phenomenon with some quasi and direct government backed institutions to provide liquidity and set guidelines for a properly functioning market.

I have set out below, at the end of these notes, what I believe is a NOVEL approach to solving this problem for many Americans that has not been considered to this point. Please review after noting the comments below.

I would like to call on you and your colleges to alter the wording in the bill with respect to qualifying a customer on the highest interest rate attainable within the first 7 years of a loan. Your text under `(c) Assessment of Ability to Repay- reads:

`(2) VARIABLE MORTGAGE RATES- In the case of a home mortgage loan with respect to which the applicable rate of interest may vary, for purposes of paragraph (1), the ability to pay shall be determined based on the maximum possible monthly payment that could be due from the borrower during the first 7 years of the loan term, which amount shall be calculated by--

`(A) using the maximum interest rate allowable under the loan; and
`(B) assuming no default by the borrower, a repayment schedule which achieves full amortization over the life of the loan.

I understand the intent. Many if not most of the bad loans were made to people who could only qualify for the “teaser rate” or an exceptionally low rate of interest that often resulted in negative amortization and was drastically lower than the prevailing 30 year loan rate. However, this wording is weak and potentially stifling to the market. Most people with adjustable rate loans would not qualify if they had to based on the highest possible interest rate. For example, a normal adjustable rate loan (with no “teaser rate”) could start at say 5.5% with a maximum life of loan rate of say 11.5%. In addition, most loans adjust after a period of 1-5 years from the initial loan and adjustments are capped at say 2% per year to the maximum.

To make a lender qualify at 11.5% (the maximum rate could potentially be reached if after an initial 3 year term the rate adjusted to 7.5% then 9.5% then to 11.5% in year six given high inflation pushing discount rates high enough to result in such a rate) would be prohibitive to most borrowers. The real risk of such a rate rising so fast is minimal historically. However, with the Fed pushing discount rate to near zero after the recession in the early part of this decade resulting in adjustable rates dropping to a historical low of 3% for the initial term then boosting them at a record pace shortly thereafter it is not impossible for this kind of thing to happen. Having said this, these kinds of rapid macro swings in interest rates affect the markets in total. Trying to protect one segment of the overall economy from problems under this scenario is nearly impossible with legislation.

So, what should this bill be concentrating on? I say first you must put some language in the bill which forces adjustable mortgage rate products to 1) be based on an AMERICAN interest rate index of which you could either give choices or not. I don’t think basing American mortgage products on LIBOR (London Interbank Offer Rate) rates does the American borrower any good. If the Fed moves rates one expects US mortgage rates to move as well. Using LIBOR does not guarantee this correlation. 2) You should focus on the spread charged over base interest rates, how this is calculated and rules there should be to protect the borrower. What is happening now is people get a loan based on an index they do not understand with spreads up to several points above the base rate that cause some of the dramatic jumps in rates on the loan after the initial terms. For example, an adjustable loan with a “teaser rate” of 3% for 2 years when the prevailing 30 year mortgage rate is 6% could be based on LIBOR, which at say 4.25% plus 2.75% or 7% at the time of the loan. The customer would be receiving negative amortization of 4% if they paid interest only for the first 2 years adding substantially to the principal mortgage amount. The consumer should have this kind of product explained in plain English in clear terms with numbers they understand so they can SEE what they could be facing over the next 7 years in the worst circumstance and be able to make an educated decision on whether they should take the adjustable rate or not.

If the mortgage industry is stupid enough to create such a product and there are “investors” willing to purchase these products we have a real problem in general and once again legislation will not solve this problem because more creative products will evolve.

Basically force some selection of US based indexes, regulate the spreads allowable and force lenders to spell out in plain English exactly, in large font format, what the payment could be in each of the 7 years AFTER the initial loan term.

Under the section titled `(d) Rate Spread Mortgages-

`(1) ESCROW ACCOUNT REQUIRED- In the case of a rate spread mortgage transaction, the obligor shall be required to make monthly payments into an escrow account established by the mortgage originator for the purpose of paying taxes, hazard insurance premiums, and, if applicable, flood insurance premiums.

I suggest that Escrow Account payments as stated above should not be required under the terms of the loan. However, these amounts MUST be included in QUALIFING the borrower to receive the loan.

Otherwise I agree with the terms in this bill.

Thank you for your support.

Sincerely,


Patrick


Below is a short novel approach to solving this problem not yet addressed:

In a free market system, the kind of wreck-less activities seen in the mortgage market of late seem almost impossible. Very smart people made very poor decisions and created poorly designed products for short term profits and very smart people who manage large pools of money (much of this money in UNREGULATED markets I might add) were duped into borrowing short term money, often also creating high amounts of leverage (encouraged by the same banks Mr. Paulson so urgently requested self regulate months ago) to purchase these esoteric and poorly designed products which all depended on an unsustainable and extremely hyped market bubble in the underlying housing market and associated mortgages.

Given these realities it is important to understand that:

a) Government cannot stop the markets and should not try and “catch a falling knife” by “rescuing” markets. In this case “homeowner borrowers”, “lenders”, “purchasers of Structured Products”, “packagers of esoteric derivatives”, “financial institutions”, “hedge funds”, “off balance sheet Structured Investment Vehicles” amongst others are the “market” here.

b) There are Four General Categories of mortgage borrower I have identified and it is important to understand these categories in order to attempt a solution to our current problem.

1) The First Category is dominated by Investors who invested in one or many properties at once trying to capitalize on a rising housing price market and took whatever financing they could get their hands on to finance their speculation.
2) The Second Category is dominated by “homeowners” who over the past several years, with rising house prices and low interest rates initially (2002-4), decided to take Bush’s advise after 9/11 and go on a spending frenzy. They financed their spending addiction with their home equity by constantly refinancing their property (often not only their primary residence but a second home or investment property) even after rates rose substantially by taking risky loans with artificially low teaser rates.

Neither of these categories of borrower need or should be given any help. Those who made the loans and those who purchased the loans should all take their losses on the chin. However there are two more categories of people who should be assisted any way we can and I have figured out some ways to do this. They are:

3) Less than financially savvy people who actually “purchased” (not refinanced) their primary residence and were duped into taking more debt to purchase more expensive houses than they should have been able to (often they had no initial interest in the level of house they were “sold”) by unscrupulous lenders pushing teaser rates and telling them they could refinance later etc. They would have never qualified for the loan or the house they purchased under traditional circumstances, but the “industry” (and I know this industry from the real estate agent to the lender and appraiser were all in the game here driving people who had not a clue about the process of buying a home or the real estate markets) pushed them into a bigger house and loan obligations.

4) Finally the fourth category is people who once again purchased (not refinanced) their principal residence and could have qualified for a traditional loan under traditional loan terms close to what they purchased and the amount of debt they took on but where steered in the direction of sub-prime products for the benefit of the seller of the loan and the coffers of the parent company (increasingly Wall Street firms who purchased mortgage companies to gain access to the entire stream of revenues generated by mortgages) who could more profitably sell or package the loan for sale to investors.

Categories 3 & 4 need help.

Again, I will repeat, the Government CANNOT bail out any of these people or correct the markets that have already been created i.e.; loans made. This is not what I advocate in any way. This animal is too large and growing right now for direct government action to make a difference. Mr. Paulson and Mr. Bernanke have come up with more dramatic attempts to create liquidity and they fail more spectacularly each time.

However, the government MUST take one path: Make sure a market exists for the people who want to purchase a home TODAY!

America moves. American’s move more than people in any other industrialized nation. We have a very flexible and diverse labor market and people will go where the opportunities lie and a fully functioning mortgage market is essential to this economic fact. We must have a market for legitimate home purchases, first time buyers etc. It is the government’s obligation to make sure Fannie Mae, Freddie Mac, the Federal Home Loan Bank and FHA are all liquid and properly functioning institutions that are well capitalized for Today’s homebuyer. Their status must be monitored and actions taken to ensure their health.

My novel approach is to address the real problem the American Individual faces if they are forced in to foreclosure. Foreclosures often result in bankruptcies, which further disrupts the life and credit of the individual. At this time increasing bankruptcies may cause great strain on other credit institutions in the US. These are other types of financing i.e.; credit cards, auto loans, retail loans, health insurance etc. The list goes on. We don’t want a dramatic rise in foreclosures to result in a dramatic rise in bankruptcies.

We need to take Category 1 & 2 people and write them and the lending / financing institutions off. We need to take category 3 & 4 people and create a scheme to allow them to restructure or refinance their homes at the most favorable prevailing rates at a minimal cost out of pocket for them, say $500.00 Max. Bush’s plan is moving in this direction but did not dictate strong enough terms to allow this to happen. This should be mandated. As long as they are performing on their loan within the past 90 days they should be able to restructure and banks and lenders should be DIRECTED to allow them to do so.

If Category 3 & 4 people cannot be restructured or refinanced because their property value is to far under water and or they simply cannot make any prevailing mortgage payment because they were simply sold more money than they could reasonably pay back, then the Government should allow those foreclosures to happen but the individual citizen will immediately have the foreclosure expunged from their credit history.

That is what I said, have the foreclosure expunged from their credit history immediately so they do not have to declare bankruptcy and they can move back into a lifestyle fit for their income and move back to the housing market as soon as they are ready.

To qualify for this to happen, they will need to be qualified by a set of rules / tests set up by the Congress and implemented either by lenders or through an online site created specifically to process such requests. Credit bureaus would have to conform to the rules and play a part in making sure they are followed. Some of the rules would be the mortgage was for a principal residence, the consumer can show reasonable income at the time they obtained the loan i.e.; tax returns etc., the consumer can show they did not lie or inflate their income when obtaining the loan, the consumer can show they did not use the loan to refinance or otherwise borrow to meet other debt obligations with the mortgage loan etc.

Let Wall Street take the losses!! They drove the market to where would up. Let’s save the honest working American and allow them to get on with life after being unscrupulously taken advantage of by a very powerful and money hungry mortgage industry.

Patrik

Fed's Big Bail Out... Again!

Again and again the Fed has been trying to "provide liquidity" to the "credit markets" since August 2007. Again and again the institutions that function in these "markets" have failed to respond to these attempts. Interbank lending rates have risen, banks don't want to lend to each other and nobody wants to buy the esoteric garbage sold into these markets by Wall Street Banks over the past few years.

So what does the Fed do? They come in as the lender of last (and I mean LAST) resort. This time they are injecting $60 billion, $20+ billion to the European banks and $40 billion to the US banks. How is this different? Read the excerpt from this article:

"For the first time, it will accept bonds issued by sovereign nations rated Aa3/AA- or above; bonds by G10 government agencies guaranteed by national governments rated AAA; conventional AAA debt issued by the Federal Home Loan Mortgage Corporation, the Federal National Mortgage Corporation and the Federal Home Loan Banking system; and AAA-related U.K., U.S. or European asset-backed securities backed by credit cards and U.K. or European residential mortgage-backed securities."

Basically the Fed is doing what no other bank is willing to; Take collateral NO OTHER BANK OR INVESTOR WANTS!

Does this sound stupid to you? Well it should. This was what was written in the FT today:

"In an extremely bold departure from its previous policy, the Bank of England is increasing the size of its scheduled auction next Tuesday from £2.85bn to £11.35bn, with £10bn of these funds allocated for three months. It has also torn up its collateral rules and will accept mortgage backedsecurities, covered bonds and dollar denominated securities for the first time...
Unlike the auctions in September, when banks shunned its three-month money, the Bank is auctioning this cash without a minimum interest rate of one percentage point above its official rate of 5.5 per cent. Instead, the Bank is following the ECB’s method of expecting a penalty rate to come from the bids for the money rather than a centrally determined price. Even though senior officials have qualms about changing collateral requirements in a crisis, the Bank felt there was now sufficient general fear in banking circles which could not be offset by any one bank."

Why are they doing it? Check out this blurb from the FT on 4 December:

Last week, the US Federal Reserve announced long-term operations designed to maintain liquidity in the money markets during the year-end period.
"We are now in the sixth month of the credit crisis. Funding costs have gone up for everyone," Suki Mann, credit strategist at Société Générale, said. "Although the year-end is playing a big part in the lack of liquidity, there is a worry it could go on into the New Year and that means trouble." Bob Janjuah, chief credit strategist at RBS, said: "I have never seen things as bad in terms of trading credit. There are lots of people hoping it will get better in January - but we are not so sure."

Of course there is this blurb on 1 December 2007 from the FT:

"Emergency plans to avoid a year-end funding crisis were unveiled by the European Central Bank yesterday, highlighting economic uncertainties that will almost certainly keep its main interest rate unchanged next week - despite
soaring eurozone inflation.
The ECB will take the exceptional step of extending a regular money market operation by an extra week to cover the year end, when financial institutions will be under huge pressure to show strong liquidity on their books. The move, the latest in a series of increasingly aggressive pledges to ensure markets function normally, followed a fresh surge in one-month and three-month interest rates. The US Federal Reserve announced a similar move this week."

If it seems as if the ECB and Fed seem to be "one upping" themselves like every week, you are reading correctly. They are dealing with an unprecedented crunch and the markets are not working, PERIOD.

So why do I write today? This bank action is really screwing up the markets. All this "short term liquidity" by the Fed and ECB is not working. But, every time they take action, the stock markets get rocked. They either rise or fall in dramatic fashion with every word or hope this mess will get cleared up or every word that we are doomed.

No rational investor can make money in this environment. I am a rational investor and am completely fed up with the Hedge Fund manipulated movements of the stock markets almost daily. I feel like I am getting a kind of sea sickness and if others are like me they soon will be loosing their insides, completely unable to tell which way is up. This does not mean the ship sinks but it damn sure means allot more money is going to be lost. So you better get on dry land now cause the storm is getting worse.

Peace.

Hedge Fund Consolidation Alive & Well

The FT reported today this article about Hedge Fund Consolidation:

Now, I don't know if I am just a mad pessimist or instinctively cautious about $1.8 trillion in assets being dominated by the top 100 firms in the Hedge Fund Industry.

This industry is unlike others in that they do not produce anything except profits or losses for its investors by buying and selling paper. OK, so what right?

Well, as we know already, one serious misstep by any fund can force a liquidation of that fund and therefore roil markets IF that fund has substantial enough holdings to force an industry markdown of "paper" assets. With consolidation this risk rises exponentially.

Having as the FT article points out nearly 70% of the industry's assets in the hands of 100 firms it is safe to assume a collapse of one of these large firms could wipe out $20 plus billion of cash from one firm when if leveraged say 6 to 1 could be $120 billion hit in asset values in short order.

These kinds of shocks are not to be taken lightly. With this kind of consolidation taking hold in the Hedge Fund Industry it is time to look at forcing transparency or if not down right regulation. At a minimum the industry should be forced into industry / government meetings on a regular basis so that governments and central banks can maintain a handle on asset prices, leverage and daily potential risks of the major firms.

Latest Mortgage Crises Solution Update

I am pleased to have read today another contemplation initiated by the Treasury to create a fund with the purpose of providing additional liquidity to the mortgage markets.

My only fear is the amount being considered is less than 1/2 of what I believe is needed overall. The number mentioned in the article I read on Marketwatch.com today was $100 Billion. I estimate this is enough to bail out Wall Street but not "Main Street".

This fund must be focused in its objectives and monitored by the Feds, not the Wall Street firms. They should pony up the cash but not be responsible for what the fund buys and sells.

The article can be read here: Banks, Treasury Discuss

More words on Bank's multiple plays

Note to sent to my Senators:

Dear Senator,

I have written you a select few letters with respect to finance, the mortgage industry and the ineffective job being done by Mr. Paulson over at the Treasury.

This note is a follow up and a call to reform and or revise our current laws governing banks and brokerage activity. Much attention has been placed on the activities these firms are allowed to partake in with respect to the individual investor but even though our laws recognize other firms as “individuals” legally, the laws on the books are not being enforced with respect to how these firms deal with their corporate clients.

We now have a meltdown in various credit markets as a result of their recent activities, which I might add, were tacitly approved by our former Federal Reserve Chairman, Allen Greenspan even though many of their current activities were disallowed or stringently regulated in laws passed nearly ¾ a century ago.

This paragraph taken from a Bloomberg article today from a statement by Merrill Lynch about their upcoming earnings sums it up entirely with respect to the mortgage mess we now have.

“Merrill is at risk of losses from sub prime defaults because it participates as an investor, lender, counter party and guarantor in markets tied to mortgages. They include CDO underwriting, other structured credit products and leveraged finance, the firm said in the filing.”

You can apply the above paragraph to the leverage buyout frenzy that has taken Wall Street over the past few years as well. Thus not only have these banks have been participating in EVERY aspect of each transaction, they have taken equity stakes in their deals and follow up by creating various esoteric derivative products which they price and hawk to the same funds they are lending to buy them.

There is no doubt that the approximately $300 billion in loan obligations they have on their books right now to finance corporate buyouts are going to cause them headaches. More importantly, their highly leveraged clients no longer have the equity or wherewithal to buy the debt off their books. What they do over the next three months remains to be seen but I fear the collapse of one or more of these private equity buyout firms due to the weight of their debt loads and the inability to refinance them will lead to the same kind of collapse we have seen in the mortgage industry.

This would have far more serious repercussions than anything we have seen in the mortgage industry and bears close watching and preemptive action now to alter the practices of these firms in the future.

Sincerely,

PS; It is important you act right now to stop Wall Street firms form demanding mortgage companies that have had to cease lending operations from wrestling away their servicing business. This threatens homeowners escrow accounts and will cause unnecessary problems you will soon hear about if you have not already. One of the companies causing problems is Freddie Mac. They need to be stopped. See article with respect to this issue here: http://online.wsj.com/article/SB118955540976824460.html

The greedy pigs are in deep...

I have been harping for a few years now (since the latest merger mania on Wall Street) that the Wall Street banks are in to deep in their deals. All you have to do is read their quarterly earnings over the past 2-3 years and have some common sense to see that when they are Advising on deals, Brokering the deals, Financing the deals, Participating in taking Equity in the deals and Creating Derivatives based on the debt associated with the deals, they have found a way to profit in every aspect of the deals. They have also found a way to LOOSE in every aspect of the deals if they go bad.

Hence this blurb from Bloomberg today. Note the bold paragraph. These guys deserve to be hammered and the idiots on Capital Hill should enforce some of the laws on the books with respect to conflicts of interest and if they must, write more. The home owner is getting punished but any idiot can see Wall Street got damn greedy and F----- up what was just a few years ago a sound industry.

Merrill Says Fair Value Adjustments Made for Subprime (Update1)

By Erik Schatzker

Sept. 14 (Bloomberg) -- Merrill Lynch & Co., the biggest underwriter of collateralized debt obligations, said it made ``requisite fair value adjustments'' for the impact of rising defaults on subprime mortgages and they'll be reflected in the firm's third-quarter earnings.

The New York-based firm said in a regulatory filing today that credit-market conditions ``have continued to remain challenging in the third quarter.''

Merrill is at risk of losses from subprime defaults because it participates as an investor, lender, counterparty and guarantor in markets tied to mortgages. They include CDO underwriting, other structured credit products and leveraged finance, the firm said in the filing.

While Merrill reiterated previous disclosure that ``significant risk remains that could adversely impact these exposures and results of operations,'' the filing included no estimates for how the fair value adjustments may affect earnings.

Merrill fell $1.34, or 1.8 percent, to $73.80 in 9:59 a.m. composite trading on the New York Stock Exchange. The shares are down 21 percent for the year.

Analysts predict that Merrill will report a decline in third-quarter profit next month in part because the firm needs to mark down the value of certain investments and financing commitments.

``Investors will be looking for transparency with respect to the manner in which brokers approach the mark-down process and specific disclosures around the current exposures and write-downs related to key areas of concern such as LBO loan commitments, CDO holdings and other mortgage-related assets,'' Lehman Brothers Holdings Inc. analyst Roger Freeman wrote in an Aug. 30 report.

Last Updated: September 14, 2007 10:07 EDT

China Inflation?

I read an article published on Bloomberg.com today you can also read here:
http://www.bloomberg.com/apps/news?pid=
20601039&sid=aWHH.9qAjPf8&refer=home

This is my response to this article and the many other's like it after China published their latest inflation numbers.

Hello Mr. Pesek,

I am a little confused about your assertion that China needs desperate action to tame it's inflation. The confusion arises when I see China's inflation quoted including very volatile recent changes in food prices with no reference to energy.

The Fed and economist in the US have made the gross error over the past 5 years with respect to calculating our inflation by taking out food and energy when giving what they consider "core" inflation. Removing a "volatile" component from the index is OK when it is "volatile" but when it is consistently moving higher, tripling in fact, over the period as energy prices have, is disingenuous and dangerous to economic policy initiatives.

Now back to China. It is clear that lesser nations have paid heavy prices for pegging their currency while ignoring domestic price and market pressures and China may one day pay for their misguided policy, but for now I smell a rat. There seems to be an assertion that China's inflation should be quoted in total without stripping out volatile price components that are truly volatile in order to justify the need for dramatic increases in their interest rates and of course, added pressure to do the one thing Washington and Wall Street (with billions of dollars riding on the prospect) wants to see China do: Dramatically revalue their currency or let it float altogether.

So in the future, perhaps you may want to give the headline inflation number coming from China the same kind of scrutiny the headline number gets in the US regardless of the political will to do otherwise.

Sincerely,

What happens next in this market?

Nail biting time for markets. Selling not done in my opinion. The bounce after touching a 10% correction a couple weeks ago was simply the hedge funds all programmed to buy at a 10% correction. Amazing what a few hundred billion dollars in program trades can do to turn a market on a dime.

Smart shorts did not blink. I blinked 50% covered some shorts, sold some puts etc. However, with the quick rally to 13,400 I was back in short mode. This market must close in the 12,000 range on the Dow for me to even think we are finished with the selling. More like it would be a 1987 type of rout. If we see this happen then some scales will tip, some real money lost, some of these complete idiots leveraging 20 to 1 to buy debt instruments will go away and some normality can return.

However, I fear no quick recovery in real estate, continued attempts to bail out funds and credit markets and a slow painful spiral down over many months that will begin to erode the savings of many soon to be retired boomers. The bail out attempts of course will have the same effect as the attempt to bail out the Ruble in the 90's. Send a few billion here and a few billion there and it works through the system quickly covering the losses of the most well connected and the banks. The rest are left to fend for themselves. The only question is, how do you make money in this scenario?

And the FT chimes in on "Bailout" as I suggested...

The article published in the FT below suggests the same kind of solution I included as one of my solutions to the mortgage crises: (Note the use of the term "pyramid scheme" as I have suggested in the past with respect to "financial products" based on debt and highly leveraged.)


Banks should form a bail-out vehicle to ease the credit crisis
By Cambiz Alikhani, a partner at Arundel Iveagh Investment Management
Published: September 5 2007 18:50 Last updated: September 5 2007 18:50

Over the past few months, a modern day pyramid scheme of colossal proportions has begun to unwind. The sheer scale of it is clogging up the arteries of the financial system and has led to major disequilibrium within global credit markets.

Markets face a credit crunch that continues to manifest itself in the money markets and this can have pronounced effects on the real economy as the lending system becomes dysfunctional. This credit crunch could be alleviated by removing from the system the debt that created the problem in the first place.

In an ideal world, the process for such removal is one in which a new set of economic agents, unaffected by the problems that have beset the financial system and with access to long-term capital, step in to the buy the debt at attractive prices.

As that occurs, confidence and risk appetite should return to the system and markets return to a state of equilibrium.

However, the scale of debt involved in the current crisis is of such magnitude that demand from opportunistic investors alone may not be sufficient to remove the problem. In addition, much of this paper is difficult to price, further exacerbating the situation.

It may therefore be appropriate for a core group of leading financial institutions to consider the idea of a “bail-out” vehicle that would be capitalised with the purpose of providing both pricing for the market and a source of demand for paper that cannot find another home.

The fact that such a vehicle is funded by financial institutions rather than governments would not only shield regulators from the accusation of “moral hazard” but could actually involve them in a very pro-active way.

They could play an important role in providing transparency with regards to the scale of the problem and with regards to the different pricing mechanisms used by different banks for exactly the same type of paper.

Thus regulators such as the Securities and Exchange Commission in the US and the Financial Services Authority in the UK could play the pivotal role of referee, while central banks provide the appropriate level of liquidity that the system needs in the meantime.

History has shown that there are examples analogous to what is being proposed above that have proved to be a success.

The bail-out of Long Term Capital Management in 1998 by a consortium of investment banks (and brokered by the New York Fed) is an example. Prior to that, the early 1990s saw the creation of a “bad bank” in Sweden as part of measures to keep the banking system solvent when it became overburdened with bad debt.

The savings and loan bail-out of the late 1980s in the US is another example. In fact, one may also argue that the lack of such a measure in Japan in the 1990s exacerbated deflation in that country as the government instead chose continuously to recapitalise banks that still held bad debt on their balance sheets. This bad-debt overhang reduced their willingness to lend to anyone other than the government, leading to significant overvaluation of the government debt market.

Although the structure and details of a new bail-out vehicle to alleviate the current crisis would be extremely complex, this is exactly what banks should be good at.

They have a long history of successfully negotiating work-outs and restructurings. In this instance, they are all in it together as it is their balance sheets that are being put to work to act as lenders of last resort. Thus a common solution towards removing “bad” or “unwanted” debt from the system would be beneficial to all.

The measure being discussed above would not only play a critical role in finding an equilibrium price for “bad” or unwanted debt but would also create a vehicle which such paper could be sold into, thereby unclogging the arteries of the financial system.

The chimes to raise FNM loan caps continue

From an article today on Marketwatch.

"Similarly, a private economist said Wednesday that the Fed will have to do much more to help the troubled housing market.

"My suggestion is for the Fed to partner with the Treasury to lift the cap on jumbo mortgages so that they can be bought by Freddie and Fannie Mae. This would keep the prime mortgage market liquid," said Rajeev Dhawan, director of the Economic Forecasting Center at the J. Mack Robinson College of Business at Georgia State University. End of Story "

Senators chime in also...

This is a report on Dow Jones Newswires where the Senate is starting to wake up and request exactly what I noted in my letter: Raise the individual loan caps...

By Damian Paletta
Of DOW JONES NEWSWIRES
WASHINGTON (Dow Jones)--House Financial Services Committee Chairman Barney Frank, D-Mass., urged the Senate on Friday to pass legislation that would allow Fannie Mae (FNM) and Freddie Mac (FRE) to purchase even more expensive mortgages than a bill Frank steered through the House earlier this year permitted.

"It now is clear we underestimated in the House bill how far we should raise the conforming loan limit, and the current crises in the mortgage market demonstrate we should raise it to a higher level." Frank said in a press statement. "I urge the Senate to make this a priority as part of GSE reform, because we now have the opportunity to help homeowners get access to needed credit by allowing Fannie Mae and Freddie Mac to play a larger role."

Fannie Mae and Freddie Mac are only allowed to purchase mortgages on the secondary market known as "conforming loans," and these loans cannot be higher than the conforming loan limit, which is presently at $417,000. The House-passed bill would allow government-sponsored enterprises to purchase more expensive mortgages in states where the cost of housing is higher, but Frank and Rep. Gary Miller, R-Calif., said Friday that the companies should be able to buy even more expensive loans.

Many of the current problems in the housing and credit markets are with subprime mortgages and "jumbo" loans that the GSEs aren't permitted to buy.
If the Senate passed a bill raising the conforming loan limit, House and Senate negotiators could agree on compromise language before the bill is sent to the White House.

August 17, 2007 15:20 ET (19:20 GMT)

Now the Officials Chime in..

This note from a "real" researcher on how much money it will take to "stabilize" the mortgage markets. Not far from my proposal eh?

By Lingling Wei and Kevin Kingsbury
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--It may take a long time for investors to start bidding for mortgages again.

In recent months, companies from mortgage lenders, hedge funds and firms investing in structured products - such as asset-backed bonds - have been racing to dump mortgage assets to repay creditors, as the fallout from the credit squeeze continues to reverberate. The upshot: Businesses are earning even less from selling loans, more lenders are failing, and investors - except for those savvy specialists in distressed investing - are reluctant to dip their toes back.

In a report titled "De-Leveraging Destroying Value - New Capital Needed," analyst Paul Miller Jr. at Friedman Billings Ramsey estimated that it takes roughly $150 billion to $250 billion of new capital to "normalize pricing" in the mortgage market. But it's also a kind of Catch-22 situation: Without new capital, it could be difficult for asset prices to come back up; without pricing adjustment and better returns, new capital may be hard to come by.

Miller projected that it will take six to 12 months for the prices of mortgage assets to normalize and for capital to flow back into the space. "There is no quick fix here," he noted. And until then, lenders will continue to come under pressure with respect to earnings and book values.

Now Countrywide Bank Responds..

Interesting, as I was reading the nice posting from Dow Jones on Barney Frank's comments another interesting note popped up related to my letter to my beloved Senator Mikulski. Again from Dow Jones Newswires:

DOW JONES NEWSWIRES
Countrywide Financial Corp.'s (CFC) Countrywide Bank unit said current issues in the mortgage market do not affect the security of FDIC-insured deposits at Countrywide Bank FSB.

The bank has more than $107 billion in assets.
Countrywide Financial's shares were up 2.25, or 12%, at $21.20 in recent trading. [end]

Interesting eh?

What is little know or understood by many has to do with one major legacy of the ex-Fed. Chairman Greenspan; he tacitly destroyed many of the laws passed by our Congress after the abuses in the 1920's and subsequent depression in the 1930's to protect investors. He did this with a "wink and nod" to deals and structures throughout his tenure and never sought nor received approval for his actions. It will only take one major failure luring in the FDIC to wake our sleepy ignorant government up.

The Credit Fallout Continues...Letter to Senator

Below is another letter I have written to my beloved Senator from Maryland. I think the nice lady actually listens because as before, the day following my letter Dow Jones Newswire posted a note related to the subject:

By Damian Paletta Of DOW JONES NEWSWIRES

WASHINGTON (Dow Jones)--House Financial Services Committee Chairman Barney Frank, D-Mass., urged the Senate on Friday to pass legislation that would allow Fannie Mae (FNM) and Freddie Mac (FRE) to purchase even more expensive mortgages than a bill Frank steered through the House earlier this year permitted.

"It now is clear we underestimated in the House bill how far we should raise the conforming loan limit, and the current crises in the mortgage market demonstrate we should raise it to a higher level." Frank said in a press statement. "I urge the Senate to make this a priority as part of GSE reform, because we now have the opportunity to help homeowners get access to needed credit by allowing Fannie Mae and Freddie Mac to play a larger role."

Fannie Mae and Freddie Mac are only allowed to purchase mortgages on the secondary market known as "conforming loans," and these loans cannot be higher than the conforming loan limit, which is presently at $417,000. The House-passed bill would allow government-sponsored enterprises to purchase more expensive mortgages in states where the cost of housing is higher, but Frank and Rep. Gary Miller, R-Calif., said Friday that the companies should be able to buy even more expensive loans.

Many of the current problems in the housing and credit markets are with subprime mortgages and "jumbo" loans that the GSEs aren't permitted to buy.

If the Senate passed a bill raising the conforming loan limit, House and Senate negotiators could agree on compromise language before the bill is sent to the White House. [end]

Seems someone may be listening:-) Now to my letter...

Dear Senator Mikulski, 15 August 2007

I am writing to follow up on my urgent request that you engage the Fed and Treasury in sorting out a solution for the secondary mortgage market crises that is upon us.

I was pleased to see some recognition of the problem by Mr. Bernanke and Mr. Paulson however no action has been taken other than to calm bank interchange rates with short term cash infusions of various sorts.

This letter is to offer specific actions that need to be taken immediately.

1) Increase the cap on Fannie Mae conforming loans by no less than 50%.
There has been talk of raising their overall portfolio limit. This is not necessary. It is absolutely crucial that the cap be lifted dramatically. As you know there are states like Maryland, New York and California where average home prices exceed $417,000 (the current cap) by a large margin.
Fannie & Freddie will NOT buy any junk off the market or be given the authority to invest in any sub prime loans existing on the market.

2) Force the major Wall Street banks (i.e.; JP Morgan, Goldman, Bear Sterns etc.) to pony up enough cash to create a “Fund” that will have the purpose of providing liquidity to the secondary market for loans. This “Fund” will likely need $250 billion in hard cash to function.
Note: This fund is NOT to “rescue” the garbage loans Wall Street packaged and sold to “investors” over the past few years. These loans were garbage, the credit standards ignored and “investors” should loose, period. There should be no purchases of these loans by this fund.
However, this fund is to provide whatever liquidity is necessary for sound lenders currently operating in the market to continue making qualifying home loans. This means purchasing their loans to be securitized and sold when market conditions improve.
In addition, this fund should provide the liquidity lenders need to refinance the garbage loans made by mortgage brokers with Wall Street’s blessing ONLY where the borrower (i.e.; citizen homeowner) has QUALIFING INCOME & CREDIT for a new loan. These refinances should be done where the borrower’s total out of pocket refinance costs are capped at 1% of the new loan amount (including transfers, taxes etc.)
This fund will NOT act as a “bail out” for any individual lender.

3) The government should seriously consider using Social Security receipts to purchase high quality AAA rated home loans form the market immediately.

Thank you for considering my options. Action needs to be taken now.

As you know the latest potential victim is the largest home lender in the country, Countrywide Finance. This company also functions as a bank taking deposits from citizens. The failure of institutions that are also retail banks will be of grave consequence to the American Economy!

Sincerely,

Subprime Primetime

Copy of letter to Senator Mikulski on Subprime meltdown and one rescue by German Government, yes RESCUE!


Hello Senator Mikulski,

I called your office yesterday to alert you to the ongoing problems with the mortgage industry in the US. I urge you to call the Treasury and Fed and request they take action to halt the meltdown of the mortgage industry.

The problems at hand are not unlike the meltdown in 1998 of Long Term Capital. Tuesday American Home Mortgage reported they failed to fund $650 million in promised mortgages to Americans on Monday & Tuesday. This is likely to have continued with millions of promised mortgages not going to closing because of Wall Street’s refusal to further fund mortgage companies.

Basically, Wall Street firms, in their infamous greed, managed to shift 40% of the home mortgage business to themselves over the past 5 years. Unfortunately, these firms are not banks so they depend on investors to provide the capital to fund mortgages. In addition, mortgage companies were financially incentivised to put higher and higher interest loans up for sale to beef up the fees and interest rates on the products Wall Street then sold.

The entire cycle will be looked on in the future as a great travesty on the American public with fraud and greed of Wall Street preying on potential homeowners as a way for them to cash in on rising property values around the country. Wherever there is money being made in this country, Wall Street will find a way to securitize it and make money off of it. This is what free market capitalism is about, OK, but when unregulated investment pools creep into the regulated economy of the American homeowner with Wall Street firms acting as the middleman you get a foul stew to say the least.

To have several of the top 10 mortgage companies in the US facing bankruptcy because the firms that funded them until now have forced massive write downs on their mortgage portfolios held as collateral causing them to have to put up more cash then they have on their books is wrong and poses grave risk to the entire debt markets.

Our nation unfortunately is founded on debt, period. To have the debt markets collapse in any category is dangerous and requires immediate attention by those at the highest offices in the US.

You may recall the letter I sent to you echoing my concerns to Mr. Paulson to pay attention to the debt markets and not to pay attention to Sarbanes-Oxley. Now my words ring true and I urge you to force action on Wall Street to fund these companies and stop the dominoes from falling.

Sincerely,

Patrick Henry

Ps: Please find this piece from the FT today where the German Government has intervened to stop an investment firm from collapse in that country.

Germany rescues subprime lender

By Our International Staff

Published: August 1 2007 21:49 Last updated: August 2 2007 00:40

US mortgage turmoil hit investor confidence on the other side of the Atlantic on Wednesday as details emerged of a German government rescue of a domestic lender that suffered heavy losses on subprime investments.

The rescue of IKB, a specialist lender based in Düsseldorf, began on Sunday when Peer Steinbrück, German finance minister, called top banking executives to discuss a bail-out. According to people who took part in the conference call, Jochen Sanio, head of Germany’s financial regulator, is said to have warned of the worst banking crisis since 1931.

IKB surprised investors this week with a profits warning after a multi-billion euro fund it managed was hit by problems stemming from its US subprime exposure. The news sent its shares plunging and prompted KfW, the state-owned development bank, to step in with a pledge to guarantee obligations of more than €8bn ($10.9bn) – more than five times IKB’s stock-market value.

The further government intervention suggested that the problems at IKB were much worse than thought. Mr Steinbrück phoned several banking executives – including Josef Ackermann, chief executive of Deutsche Bank – on Sunday to bring them on board.

Deutsche Bank, Commerzbank and other German lenders are taking a 30 per cent stake in a rescue fund worth €3.5bn, FT Deutschland, the Financial Times’s sister paper has learnt, with the rest shouldered by KfW.

The report on the German intervention came as more bad news from hedge funds and the housing sector roiled markets.

[Article cut here]

More Big Deals

Leveraged buyout dealmakers have purchased $864 Billion in public companies in the past three years.

$250 Billion has been raised in the past year.

But wait. The number above, “$864 Billion in public companies in the past three years”, that was “public companies”. In the past ONE year there have been $856 Billion in buyouts including public and private companies.

Fidelity, America’s largest fund company with money from the average Joe controls about $1.4 Trillion in assets. The company has been around for decades.

The amount of money flowing into the private equity industry is staggering. Combine this with the amount of money going into Hedge Funds and it is truly mind boggling.

It is as if the US Mint is just printing money and giving it to these guys. Where do they get so much cash? Increasingly it is your pension. I read the other day that companies like Goldman Sachs take their client’s assets and borrow huge sums against these assets to fund their own private trading and investment activities. They are criminals.

They are just one company.

I cannot answer to where the money comes from to finance the private equity dealmakers. I have read it comes from high wealth individuals, companies, pension funds, the employees of the firms who plough money back in after each deal and banks. Now I also read that the last by Goldman Sachs raised $20 Billion. $12 Billion of this came from its own employees. Wow. Now that is the place to work.

What is the draw? Well, if you buy a public company and take it private you can then borrow huge sums of money using the company as your vehicle and pay those borrowed monies to yourself.

For example: “London-based Cinven Ltd. and BC Partners Ltd. borrowed against Madrid-based Amadeus Global Travel Distribution SA, the travel agency they acquired in 2005, to pay themselves a $2 billion dividend.” (Bloomberg) I only wonder how much real money they put into the deal to begin with.

In 2006 buyout firms funded 40 dividend payouts with a record 8.3 billion euros of debt last year, according to data compiled by Fitch Ratings. This is just Euro debt financed dividends. In fact the dividends last year enabled buyouts companies to recover 72 percent of their investment within 20 months, according to Fitch data.

72% of your original money back within 20 months. Remember, they still own the companies they took private using that money. So if I told you, “You give me $10 million dollars and I will give you back $7.2 million of it within 20 months while you maintain ownership of a chunk of a company that will be sent back to the public markets within a few years likely netting you three times your original investment wouldn’t you get in the business. I mean, you did not produce anything. You don’t work. In fact you could do this while continuing with your life uninterrupted, making money selling widgets or whatever it is that got you the $10 Million to begin with.

On top of all this, you would be told you were crazy if you did not borrow a whole bunch of money against your newly owned company because banks are banging on the door to do the deal. You may even get to refinance all of your debt at lower interest to boot. Yea, banks just want to lend you money. They don’t care if you do nothing productive with the money like pay it out to yourself as a big dividend. Hell, even public companies have been encouraged to take on debt to pay off the guys that just took a 5% stake so they will leave you alone. And this action is taken as having some kind of fiduciary responsibility or obligation to shareholders. Can you imagine?

Does all of this sound a bit strange? It is not I assure you. Strange that is. The only strange thing is wondering how much longer guys can continue to find people willing to give them billions of dollars so they may convince investors to sell companies to them and they can go about systematically stealing the company’s assets to do more deals.

This is all reflective of the 1980’s only this time there are many more products and schemes making it all possible in ways never dreamed of before.

Letter to Paulson, Sec. of Treasury, US

25 January 2007


Henry M. Paulson Jr.
Secretary of the Treasury
Department of the Treasury
1500 Pennsylvania Ave. NW
Washington, DC 20220

Re: Consistent calls by Mr. Paulson to dumb down or do away with the 2002 Sarbanes-Oxley Act

Dear Mr. Paulson,

In yet another Wall Street Journal article published today titled “In Call to Deregulate Business, a Global Twist”, your endless efforts to undue the rules enacted by the United States Congress in 2002 under the Sarbanes-Oxley Act are once again put on display.

It is completely clear and without doubt you should not be in a position to represent the interests of American Citizens in public service in any capacity. Your appointment as Secretary of Treasury was obviously and without mistake an attempt by President Bush to make a direct assault on the rules governing the conduct of large American corporate entities and to shield the burgeoning Hedge Fund and Private Equity industries from scrutiny. I have no doubt you have experience that would be lauded by any person obtaining such a position only that your allegiances are completely misplaced. You should be removed from office immediately.

Let me give you a short background on myself. I was born in Washington, DC and raised in Maryland. After high school and 2 years of community college I entered the USAF. Following my time there I finished my degree in Economics at the University of Maryland and started my own business. I successfully sold the business in late 2004. I currently manage my personal portfolio and am renovating a house in DC with which I plan to live.

While at community college a lousy Economics professor who bragged about using the same notes to teach his class for 20 years suggested we read the Wall Street Journal. I took him up on his suggestion and although I could not comprehend exactly what I was reading at the time I soon realized where my future would be. As soon as I exited basic training in the USAF and had saved $750 I anxiously found a way to invest it. I opened a brokerage account shortly thereafter and proceeded to save every dollar I could to buy stocks. By 1986 I had accumulated about $20,000 in equity, followed about 400 British and American companies and spent several hours per week researching and keeping charts.

During this time I was serving in the UK so I focused most of my time on the market there, following the Thatcher Government sell offs etc. At the same time I watched from a distance the US undergo a Reagan economic boom. That was a boom in the merger and acquisition business (along with commercial and to some extant residential real estate) financed by increasingly worthless “junk” bonds that by the end of the day were being sold to pensioners by unscrupulous bankers. Eventually the house of cards created by the “junk” had expanded to the S&L and banking industry and a variety of factors I am sure you are keenly aware of led to the collapse of the stock market, S&L industry and nearly the entire banking system.

This was my first direct experience with economic collapse and as a student of Economics at the time I was fascinated to watch it unfold. The US Government ended up assuming about half a trillion in debt from the balance sheets of failed financial instructions (40 year debt if I remember correctly), the Fed orchestrated mergers and Citibank was bailed out by Saudi Prince Alwaleed bin Talal amongst other amusements. Essentially,1989 was 1929 all over again only the banks doors were kept open by the actions of the government. What citizens got was no locked bank doors and the Resolution Trust Corporation.

Well, I lost about 90% of my hard earned investments during this fiasco and immediately began to accumulate money to start over again. I started my business and experienced the early 90’s recession in the booming telecommunications industry. I did not feel the pain. I kept a keen eye on the world of finance and vowed never to use an American stock broker for the rest of my life, Period.

Strange things started happening by the mid 90’s. The death of the Evil Empire and shrinking of the Corporate Welfare Industry (defense industry for you insiders), left lots of smart people to do something useful. Technology was exploding and the PC was becoming a household item. Many people had great ideas about what to do with this technology and the networks that were connecting it and that enthusiasm quickly led to an insane rush by anyone with a business plan to bring in millions of dollars. Once again we soon had merger mania only this time it was company stock that fueled the deals and promises of more stock and more deals made Wall Street ever so greedy with many resorting to criminal tactics to keep the money rolling.

Eventually the reality that this paper was essentially “junk” stock caused the house of cards to come crashing down again along with a variety of other factors you are surely aware of. In the end the schemes were not so complex and a couple Senators, instead of having to raise half a trillion dollars (that loss would be born by the investors in the worthless paper this time who happened not to be S&L’s), saw the need to ensure this kind of scam would not happen again. Their actions, not unlike the bail out of the financial industry in the late 80’s and early 90’s, were aimed to protect the American citizen and unsuspecting investors of fraud, by tightening the regulation of the companies and the people who make up their fabric. Thus the creation of the Sarbanes-Oxley Act.

Now there was a time in the early 20th century when a crash of unheard of proportions took place amongst a landscape of very concentrated corporate entities who wielded tremendous power and influence over the American landscape. The laws (Glass-Steagle Act, Securities Exchange Act) passed after the 1929 crash were despised by all of the corporate executives affected and they vowed to undo them. These vows were passed down to their successors and in recent years they have largely managed to undo the Glass-Steagle Act and during the last decade propagate a toothless inept SEC.

Sarbanes-Oxley is like a thorn in their side. Just when they had managed to water down all regulations against them, a new law forcing responsibility for their actions is thrust upon them. The point here is you, Mr. Paulson are nothing more than a mouthpiece of the elite banking industry you come from. You, of all people, being in the position you are, have taken it upon yourself to remove the “thorn” that was created to reign in your corporate buddies who were directly responsible for the worthless paper bubble of the late 1990’s so they may go about repeating themselves.

You have no right to hold your position.

Right now, as I write this letter, this decade’s paper trail is being laid. While you expend your efforts trying to undo a very important piece of legislation, your buddies are running away with more cash than did they in the 1980’s or the 1990’s. There are currently about half a dozen private equity companies on their way to creating $100 billion a year conglomerates. This will grow. There is somewhere near $1.5 trillion in real cash working in an completely unregulated investment industry that your buddy’s growth and success is increasingly dependent on. I made this point clear in a letter to our beloved new Fed Chairman when he suggested those same banks should be more diligent and responsible in their practices while the Government lays off. Now we are about to see the first for Way of this industry into the investment accounts of the average small investor with the public offering of the Hedge Fund Fortress Investment Group.

The way in which the private equity firms operate, the increasing syndication of their debt, the direct participation in these deals by your banking buddies, the way in which they leverage their prey to the hilt, pay off the people running the businesses and use the debt to enrich themselves is a disgrace. They are creating hollow shells of companies saddled with debt while they milk them for every ounce of hard cash they can. Sooner or later something is bound to implode. If easy money dries up Wall Street is sure to not be generous in putting these companies back on the block to investors with negative net worth as they have done recently. In addition to all this, there is the tremendous growth of a previously little known industry in trading Credit Derivative products that is making the distinction between the lender and investor murky and the balloon of these products has created a false sense that somehow $30 trillion of debt can somehow be “insured” against loss by these products.

And what are you doing? Spending time trying to pluck the “thorn” out of your buddies and do away with Sarbanes-Oxley.

Just a note, I was fortunate when the bubble burst in 2000 this time. Call me lucky or smart but in March 2000 I stepped into the office of a local bank branch where I had some money invested in bonds and bought as much Phillip Morris (Altria) as I had money in the bank. The stock tippled while the market tanked and although I lost allot of money when the tech bubble burst, I did not “loose”.

I am smart enough to know when your buddies have gone to far and they are getting close again. Your only value to your position is having a good Rolodex to make calls when time comes to put some serious cash on the table. Ask Mr. Greenspan about that.

As I have no influence on whether you keep your job or not, I implore you to find it within yourself to leave the Sarbanes-Oxley Act alone and DO YOUR JOB. The American Citizen depends on you more than ever.

Sincerely,