How Damaging is MERS Mess or The Dog Ate the DEED By Mike Morrison, CNE Will & Will Real Estate Brokers
A Giant Assumption I’m going to do something I usually don’t do. I’m going to assume that RE Agents are familiar with the current problem with the firm named MERS. That aside, some of you may have read The Tipping Point by Malcolm Gladwell or Tabel’s Black Swan Theory . Both are very relevant regarding the Housing Market. I feel many agents don’t fully grasp the gravity of what some are calling a paperwork glitch or a temporary pause with foreclosures and short sales. My point is the fraud perpetrated on our court system regarding Lender standing in foreclosure proceedings is merely the “Tipping Point” that will expose the dire condition of the US Banking System and the effect on the Housing Market. MERS was formed for one thing: Securitization . It’s not the real estate that is securitized, it’s the cash flows generated as borrowers pay their mortgages each month paid to the holders of Mortgage Backed Securities ( Derivatives)
What is a Derivative ? To begin to understand how damaging the MERS Mess is and how it affects the Housing Market & the Economy we need to understand fundamental concept used to create so called Mortgage Backed Securities. Derivative = The Lender is worried that the crap loans they made will default at some point. The Lender transfers (sells) a portion of the risk to another party. Think of it as an insurance policy. The derivative the Housing Market should be worried about is the Credit Default Swap and the Mortgage Backed Security. Here’s the great part, the buyer of the risk doesn’t have to have the cash to cover the default when the CDS is sold. The sale of Derivatives was done OTC (Over The Counter) and for the most part unregulated.
<ul><li>THE Mortgage Backed Security </li></ul><ul><li>Very simply, an MBS is a loan or several loans that have been sold to investors. The investor then arranges the loans in “Pools”. Shares of these loans are then sold as “Bonds” in the open market. </li></ul><ul><li>Upside </li></ul><ul><li>Everything is OK as long as </li></ul><ul><li>The loan or loans are not pre-paid before the maturity date of the MBS </li></ul><ul><li>The asset used to secure the mortgage maintains it’s value </li></ul><ul><li>The borrower continues to pay their mortgage payments </li></ul><ul><li>A rating agency, Moody’s, S&P, Fitch, ect. gives the Bond Issue a favorable rating </li></ul><ul><li>The Trust that set up the mortgage pool has title to the asset . </li></ul>
The Mortgage Backed Security Fig. 1 Courtesy of Wade T. Brooks
<ul><li>The Mortgage Backed Security </li></ul><ul><li>Downside </li></ul><ul><li>Pooled loans are re-fied by the homeowners and paid off. </li></ul><ul><li>Attempting to unwind the many “tranches” of the MBS issue See Fig 1. Notice the box that says RISK? The MBS was sold according to the amount of risk the buyer would accept. Higher risk=greater return or a Junior position. Lower risk=lower return or </li></ul><ul><li>Senior position. </li></ul><ul><li>Foreclosure causes a liquidation loss in the MBS </li></ul><ul><li>Short Sale causes a liquidation loss in the MBS </li></ul><ul><li>DID YOU JUST HAVE AN AH HA MOMENT??? </li></ul><ul><li>Most if not all MBS issues have a “ Buy Back ” option. If there is too much liquidation loss, re-fi’s or administrative problems ;i.e., “we aren’t sure who owns the loan”, the Issuer (LENDER) must buy the MBS back. Hope they’ve got the cash! </li></ul><ul><li>With the MESR mess, many of the Trust’s set up to hold, service and issue MBS may not be valid due to faulty loan documents. </li></ul>
The Credit Default Swap Simple Terms This can get VERY confusing because we as agents think of Sellers & Buyers in a different frame than Sellers & Buyers of CDS. So bare with me. A CDS is a contract between a Bond Holder (Bank) and a Seller (Bank, Pension Fund, Hedge Fund, Ins. Co…) against default by the Bond Issuer. These contracts can be private or public. Not Regulated. How They Work The "buyer" of the CDS holds the bond (MAYBE) and pays the "seller" of the CDS a periodic premium, just like an insurance premium but it’s not insurance; in exchange, if the bond issuer defaults, the seller of the CDS agrees to buy the bond from the buyer at face value. Remember AIG & Lehman Brothers ? These little gems took Lehman down and almost took AIG down.
The Credit Default Swap So lets see what happens in the case of MBS default The Seller of the Credit Default Swap has agreed to pay the Buyer of the Credit Default Swap the Face Amount of the Bond . So say the MBS face amount is $1.00 but, it’s now only worth .03 Cents. The Seller of the CDS is down $0.93. And remember, the Seller of the CDS did not have to have $1.00 to cover the MBS face amount when he sold the CDS. So, what do we have now? Bag Holders. The MBS is worthless and the CDS is worthless. Oh, the inventor of the CDS, none other than Fannie, Freddie & JP Morgan Chase. So you can see how the battle lines being drawn. Who owns the Loan? CRAP LOANS=CRAP BONDS
CDS GRAPHICS Fig. 2 I hope you can see the monumental screw up a clouded Title can cause in the CDS Market Alone
CDS GRAPHICS Fig. 3 Source: OCC Call Report Note the chart on the left is the make up of Credit Derivative Obligations of 1064 US Banks. CDS makes up 97.14% of the total! Note the chart on the right, 34% of the CDO’s are Non-Investment Grade=Junk Total Outstanding MBS, CDS and other Credit Derivative Obligations for Q2 2010 $223.4 Trillion Dollars
Outstanding MBS Fig 4 The US Govt. owns 32% of all outstanding MBS thru Fannie &Freddie
<ul><li>The Take Away </li></ul><ul><li>Ok, here’s what the Big Deal is with the MERS Mess </li></ul><ul><li>First, signing what is in essence a government document, the Assignment of Loan interest </li></ul><ul><li>and then having the document Notarized (Sworn To ) when the document asks if you read the documents in assigned loan file and you did not is FRAUD. </li></ul><ul><li>These Pirates have screwed up the Chain of Title on ALL the loans they service. Not just Foreclosures. Also, please take note that HUD gave the Green Light to MERS on 12/10/97 in Mortgage Letter 97-48. Please remember that FHA has been the originator of choice for over a year. Oh, oh… </li></ul><ul><li>The MBS trusts holding these loans were for the most part were formed in NY and are in a legal gray area, as the mortgage titles may never have been officially transferred to the trusts... The liability here for the major banks is potentially enormous, and can lead to a systemic risk. Look again at Fig. 3. this can effect $223.4 trillion of US Bank obligations. The Big 5 Banks can’t write the check to buy back the MBS they sold. The Fed can’t print enough money to cover the Agency ( Fannie & Freddie ) Backed MBS. </li></ul>
<ul><li>The Take Away </li></ul><ul><li>World wide, there are an estimated $430 TRILLION in CDO’s. But, that’s just an estimate. No one and I mean no one knows how much in CDO’s are outstanding. </li></ul><ul><li>Continue to watch the focus be placed on Robo-Signers. That’s not the real problem. Please focus on 2 areas that will affect the Housing Market: </li></ul><ul><li>1. The Big 5 Banks will have to write down balance sheet assets. Get ready for TARP 2 or the Nationalization of the Big 5. </li></ul><ul><li>2. I have spoken to Title Underwriters and RE Attorneys and they are in agreement that they have no clue how we are going to prefect title to over an estimated 64 million deeds serviced by MERS. Worse yet, if the Trusts used by the servicers of Securitized Mortgage Loans to sell MBS are found invalid, the legal tangle will go on for years. </li></ul>
Contact Me I invite your comment or contact Mike Morrison [email_address] I am not an attorney, just a real estate agent. The info contained in this presentation is for educational purposes only. No investment advice is offered.