Memo to Banks: You are Toast

http://www.benzinga.com/life/politics/11/01/792272/memo-to-banks-you-are-toast
Memo to Banks: You are Toast
By L. Randall Wray
Benzinga Columnist
January 19, 2011 11:14 PM
Posted in: Politics, Daily Blog Watch, Economics
The big banks are reporting that profits are up. Citigroup is  
celebrating a 46% gain in share prices and net income of $1.31  
billion. Wells Fargo just reported strong profits.Yet there are many  
reasons to doubt the good news. As I've said before, it is more likely  
that they are toast.
First, the income reports result in large part from reductions to loan  
loss reserves. Yes, banks are partying like it is 1999—everything is  
hunky-dory so there is no reason to sock away reserves against  
possible defaults. Heck, no one is going to default in 2011. Right?  
Move those reserves into the profits column.

Banks are not making any money in traditional lines of business—that  
is, by making loans. No one wants loans. The economy is down for the  
count. Other than pulling money out of loan loss reserves, banks can  
only make profits by revaluing assets. The write-downs of trashy  
mortgages need to be reversed. Banks trade trash with each other at  
higher prices, recording profits. They sell trash to the government at  
inflated prices—more on that below. And they jack up late fees on  
homeowners, credit card users, and other debtors. Even though none of  
those borrowers can actually pay the late fees, the banks book the  
revenue now.

But here is the much bigger problem: the banks are getting sued from  
here to Pluto by homeowners, soldiers and sailors, Fannie and Freddie,  
PIMCO, the NYFed, and just about anybody with access to a lawyer. And,  
increasingly, the banks are losing.

JPMorgan-Chase was caught stealing homes from military personnel. The  
bank admitted 14 outright thefts—improper foreclosures. It is illegal  
to foreclose on active duty personnel. But illegal activity is routine  
business practice at the big banks. They flaunt the laws. They then  
claim they had some paperwork problems. Oh, you know, banking is such  
a complex business, you never know whose home you are taking. Widow,  
Orphan, Military Personnel. What the heck. Who keeps track, anyway?  
The bank also admitted that it overcharged 4000 active duty personnel— 
jacking up their mortgage interest rates to 9 or 10 percent even  
though those serving our country are supposed to get 6% rates (6? How  
generous is that?). The bank now says it feels their pain—“we feel  
particularly badly about the mistakes we made here” said bank  
officials in a statement. Because they got caught, of course. Routine  
overcharges are the business model at the big banks. Then they pile on  
late fees when families cannot afford the overcharges. Finally, they  
take the homes and throw the owners out onto the streets. Paperwork  
problems, you know. No prison terms for theft of homes by bank  
officials. At best, the bank says it is sorry and promises it will do  
better in the future. It would be interesting if bank robbers were  
allowed to pursue the same strategy.

Ok, next problem on the docket. Citigroup is still selling trash—to  
Freddie, no less. A recent audit has disclosed that 15% of the  
mortgages Citi sold to Freddie in 2010 were frauds. Folks, these are  
not the old trash Citi originated in the heyday of fraudulent loans  
back in 2004-06. No, these were all new originations, “underwritten”  
between February and May of 2010. I put “underwritten” in quotes,  
because it is clear Citi is not checking credit-worthiness. These are  
loans that are rated “not acceptable quality” by Freddie. They've got  
missing documents, the properties were not properly appraised, the  
incomes of homebuyers did not meet requirements, and the homes did not  
qualify, either. In other words, they had the same litany of problems  
that all the junk mortgages had back in 2005. Citi has learned no  
lessons from the fiasco it helped to created.

Indeed, Sanjiv Das, CEO of CitiMortgage (that originates loans for  
Citi) argued that with “only” a 15% rate of fraudulent mortgages, that  
qualifies as “one of the most outstanding stories” of Citi's business  
model; it represents a “fantastic job” he claimed. True, it is down  
from a 30% fraud rate in the fourth quarter of 2009. And, who knows,  
maybe this really is the least fraudulent business the big banks have  
going on right now—compared with money laundering, drug running, and  
who knows what else, this might really be the shining example of good  
citizenship on Wall Street.

So, fantastic improvement, Citi. The bank has cut its fraud rate in  
half. Still, just about one out of every seven mortgages it sells is a  
fraud. Just what kind of business can stay in business with a fraud  
rate like that? Oh, a big “too big to fail” sort of bank. Experts say  
that “the percentage of acceptable quality loans should be in the high  
90s”—not down around 85%. This is a bank that received massive bail- 
outs by government, and is still screwing government by selling trashy  
garbage to Freddie. Vikram Pandit, currently the darling of the  
financial press because he manufactured presumably fake profits at the  
bank, declined to comment. That is quite a surprise.

Meanwhile, Citigroup upped its reserves to cover buybacks to $952  
billion. Credit Suisse reckons it will need between $2.2 billion and  
$4.3 billion for defective mortgages it sold between 2005 and 2008.  
But like all estimates of the size of this catastrophe, that will  
prove to be orders of magnitude too small. In the third quarter of  
2010 there were over 2000 repurchase agreements from Citigroup  
mortgage buyers demanding that Citi take back the junk it sold.

In a similar scam, Bank of America agreed to settle with Freddie and  
Fannie. Countrywide (taken over by BofA) had faced $127 billion in  
buyback claims for faulty securities it sold. Again, the problem was  
that the underlying mortgages did not meet the “reps and warranties”  
the bank had provided. It paid Freddie $1.28 billion and Fannie $1.52  
billion—a measly 2+% of the value of the fraudulent mortgages the bank  
sold. Four Democratic members of Congress rightly objected—how could  
this settlement represent “the best possible recovery of funds  
available to taxpayers”? Meanwhile, Freddie posted 5 straight quarters  
of losses, receiving $63 billion in aid from the Treasury to cover its  
bad deals with banks like BofA. Apparently the deal with BofA was  
pushed through by Treasury Secretary Geithner, who continues to  
protect his Wall Street benefactors. But as Yogi said, it ain't over  
until it's over. BofA will be sued again and again over these  
fraudulent mortgages, by those with deeper pockets who are not subject  
to Timmy's will and access to Uncle Sam's purse.

Courts continue to chip away at the justifications banks and their  
Frankenstein creation, MERS, have created for theft of homes. MERS was  
manufactured by the industry to evade proper recording of property  
sales in county recorder's offices. This will sound overly dramatic,  
but there is no other way to accurately state it: MERS was from  
inception a criminal conspiracy designed to cheat counties out of  
recording fees, the US Treasury out of taxes, and homeowners out of  
their homes. That conspiracy will have to be proven in the courts, but  
everyday and everywhere courts are ruling against MERS. The fiction  
perpetrated by MERS is that it is simultaneously a nominee of the true  
owner of the mortgage debt and at the same time it is the mortgagee of  
the security instrument. (You cannot simultaneously be the party of  
interest and the nominee, of course.) It also disclaims any financial  
interest in the mortgage and has no claim on the mortgage payments.  
But it claims that it can operate as the agent of unnamed owners of  
the mortgage instrument, unknown owners who—since they are unknown— 
have never designated MERS as agent. I won't repeat my earlier  
missives: you must have a clear chain of title, demonstrating proper  
assignment of the mortgage at every step. It looks like none of MERS's  
mortgages meet that—which is what the Massachusetts Supreme Court  
ruling was all about.

Judges are waking up to the multiple scams. In Utah, judges are  
allowing homeowners to pursue a “quiet title action”. The owner seeks  
clear title to property free of lien by lenders or others. Typically,  
in a home purchase, the homebuyer signs a promissory note (note) held  
by the lender and a deed of trust (mortgage) that is recorded at the  
county recorder's office. The holder of the note has the right to  
receive mortgage payments; the mortgage provides the right to  
foreclose. In US law, the “mortgage follows the note”—the note holder  
who has the mortgage can foreclose if the payments are not made. In a  
quiet title action, the owner takes advantage of the fact that MERS  
purposely separated notes and mortgages, listing itself on the trust  
deeds as the beneficiary of the note.

Utah courts have recognized that as a fraud. MERS—with no financial  
interest in the mortgage—cannot be beneficiary. It is just a data  
registry. It makes no loans. It has virtually no employees. It does  
not receive mortgage payments. It was designed to defraud counties and  
the IRS. Hence, homeowners can go to court without any notification to  
MERS, serving legal papers only to the legal owners of the title to  
the property. This is usually some title company, that is supposed to  
be the trustee of the trust deed (mortgage). In cases in Utah, these  
title companies either did not respond at all, or they simply said  
that they didn't “know who the beneficiary of the trust deed is” and  
denied any interest in the deed. The judges then handed the deeds over  
to the homeowners. While they can still be sued for the mortgage  
payments they owe, the homeowners got their homes free and clear. In  
other words, no one can foreclose on them. Their debts are unsecured.

MERS has screwed up the records so badly that in many or most cases no  
one knows who holds the notes, who is entitled to receive mortgage  
payments, and who has got the deed. What we used to call “mortgage  
backed securities” are probably mostly unsecured. It is not clear that  
any of the securitizations of home mortgages were done properly. In  
that case, the securities are not mortgage backed. Mortgage servicers  
do not have the right to foreclose, and neither do the securities  
holders. Homeowners can follow the example in Utah because,  
apparently, all states have a similar provision to allow “quiet title  
action”. The mortgage debts are not secured by homes. The homeowners  
can keep their homes and tell the banks to take a flying leap.

And that makes the banks toast. Forget anything you read about their  
income, their profit rates, their recovery. They've got to take back  
the unbacked mortgage securities—they do not meet the “reps and  
warranties”. And there is no property behind them, so foreclosure is  
out of the question. They can pursue homeowners in court—but  
homeowners lost their jobs and in any case could not afford the houses  
the lender fraudsters put them into. Yet, they get to stay in the  
homes, can claim their titles, and can negotiate for better terms with  
banks that are failing.

The next several years will be fun. Bet on the lawyers.

L. Randall Wray is a Professor of Economics, University of Missouri— 
Kansas City. A student of Hyman Minsky, his research focuses on  
monetary and fiscal policy as well as unemployment and job creation.  
He writes a weekly column for Benzinga every Thursday.

He also blogs at New Economic Perspectives, and is a BrainTruster at  
New Deal 2.0. He is a senior scholar at the Levy Economics Institute,  
and has been a visiting professor at the University of Rome (La  
Sapienza), UNAM (Mexico City), University of Paris (South), and the  
University of Bologna (Italy).



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