By Alan White
No more than 10 companies now service most of the mortgages in the U.S, including the four big banks (Citi, Wells Fargo, Chase and BofA). Ocwen is aggressively modifying mortgages, including principal writedowns, and is reporting good results, including reduced delinquencies and foreclosures. The rest are adamantly refusing to write down principal debt. My new study on this topic is posted on SSRN.
All the proposals to solve the foreclosure crisis have aimed at creating incentives and removing obstacles for servicers to do what needs to be done. The time for nudging servicers is past. Now is the time to tell them what to do. Who can tell them what to do? Treasury Secretary Geithner of course.
The injections of TARP money to bolster bank capital have or will result in the US taxpayer being the largest single shareholder of the banks. This has already happened for Citibank, and for the rest it is only a matter of time. To date Treasury has opted to buy nonvoting stock, allowing the taxpayer to have ownership but no control. This has to end. Until banks can be reprivatized, and their private managers can once again gamble with private capital, the Treasury needs to direct banks to act collectively to end the crisis. The Administration is apparently giving bank nationalization serious consideration. A vital first step will be to instruct banks to start writing down mortgage balances to align them with home values.
Writing down mortgages will not necessarily weaken bank capital. In fact in all likelihood it will improve the value of bank assets. This is because the market is currently discounting the value of mortgage-backed securities far more than necessary, if the mortgages can be properly restructured instead of massively foreclosed. Current market values for securities are based on the assumption that the past six months will be repeated over the next six months, i.e. that defaults and losses on mortgages will not improve, indeed that they will likely worsen as home values continue to decline. Putting an end to wasteful foreclosures, and restoring cash flows from every homeowner who can manage a reduced payment on a reduced balance, will improve delinquency rates, reduce foreclosures, and relieve the downward pressure on home prices.
Servicers are not writing down mortgages now in part because they are waiting to see whether the Administration will bail them out, by spending $50 billion to pay off or insure devalued mortgages. Such a plan would be a serious mistake. Losses on mortgages are already baked in the cake, as they say, and in fact are overbaked. The $50 billion can best be spent offering bonuses and rewards to servicers who meet targets, set by their new owners, to restructure a maximum number of mortgages and achieve foreclosure and default reduction targets. We own them, we should tell them what to do.
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