Comment by cynicalkane | Hacker News Reader

Comment by cynicalkane | Hacker News Reader

The blog Naked Capitalism--hardly a friend of big finance--points out that this is a scam here: http://www.nakedcapitalism.com/2013/08/beware-of-private-equ...

Some key points:

* The profits are being split among Richmond and a private investment firm named "Mortgage Resolution Partners, LLC".

* Seizing a mortgage for less than its fair market value is blatantly unconstitutional. The argument that the value of an underwater mortgage in repayment is worth less than the house is so obviously wrong, I have a hard time believing Richmond officials honestly buy it. A mortgage that is on track to be repaid is undoubtedly worth close to the future value of repayment, even if the house is worth $0.

* Big banks do not actually own most mortgages in general. So this is not a scheme to rob big banks, although Mortgage Resolution Partners, LLC certainly wants to spin it that way.

* Almost all housing mortgages are merely serviced by banks but owned predominantly by entites such as "state and local governments, hospitals, Fannie, Freddie, and to a lesser degree, foundations and endowments". The banks have a legal obligation to protect these mortgages, of course.

* Many of these loans are current--they're not distressed mortgages at all! They also plan to steer clear of houses with liens. Naked Capitalism comments that the plan only works financially if they go after the mortgages of those that need help the least.

In short, this is a transfer of wealth from a diverse array of investors to the city of Richmond and a bunch of investment banker types--theft under the cover of populist outrage. It would also severely damage the market for future homeowners in Richmond, anyone who wants to sell their home, anyone who wants to refinance... Oh, it's also a threat to fundemental notions of private property, rule of law, and market capitalism, but distressingly few people still care about that. The bit I want to emphasize is that it's Prince John pretending to be Robin Hood.

> argument that the value of an underwater mortgage in repayment is worth less than the house is so obviously wrong

I'm not so sure that it is so obviously wrong... For the individual home, yes, it is a stretch to think that the value of an inflated mortgage is less than the value of the house. But, they are thinking in terms of the population of all underwater homes. There is an increased rate of default on underwater mortgages. So, you could argue (and they are), that the lost value when spread out among all underwater mortgages, makes the pool of them less valuable than the value of the homes themselves.

To know the answer, you'd have to know the normal rate of default, the rate of default for underwater mortgages, and the average amount the bank looses when a mortgage defaults (as well as the average value of the homes and the inflated mortgage valuations).

It is very possible that when all of the numbers are calculated that offering below the appraised value of the home for the mortgage is approximates fair market value over the whole population of underwater homes. A loan wouldn't necessarily have to be distressed to fall into that statistical population.

If you think in terms of one house, this plan doesn't make sense. But, when you think in terms of an entire city, it starts to make more sense (if the numbers and rates line up). It's probably short sighted for other down-stream effects, like lack of future investment and loans, but for the short term, it might work.

There's an "easy" way for the city to help prevent defaults: Give homeowners money or tax breaks to make their mortgage payments. If this scheme can be reasonably shown to be a good investment for ensuring future tax revenue, go ahead and get a loan to do it.

I think you are missing the point. If a government wants to seize a property using it's eminent domain powers it has to pay "just compensation" for that property. The Supreme Court has interpreted that to mean fair market value.

If there was a CDO pool that included only mortgages based on houses in that particular town, perhaps the whole pool could be seized at once, based on the fair market value of all tranches of the CDO (although there might be tricky jurisdictional issues). However, that's not the case. The mortgages are spread across many many different such pools. So rather than one big eminent domain case, there needs to be a condemnation of each and every mortgage separately. That being the case, the city must pay the fair market value of each mortgage -- not the the FMV of an abstract average house.

The single biggest problem with the city's proposal is not that it is underpaying (though it likely is in most cases) but rather that it is trying to claim that every mortgage can be fairly valued using the same simple formula: 80% assessed value of the underlying asset. Simply put, that's nuts.

The second biggest problem is that Freddie and Frannie have already said that they won't refinance the written down mortgages. So the city would have to hold the mortgages to maturity. They don't seem to have anywhere near enough capital to do that, and I don't think the muni market would be terribly interested in financing such a scheme (or the litigation!). Especially not with Detroit making everyone nervous to begin with.

No, I'm not missing the point. I'm trying to figure out their logic here. Which, I believe would be that they are trying to pay "just compensation" for a mortgage, based on the actual value of the house, and a built-in discount. The question is: is this a fair estimate of "just compensation". And it just might be, if you look at the mortgages in aggregate. It is harder to argue with an individual home, but when the entirety of all homes underwater is taken into account, that has a known risk associated with it. Each mortgage is different at the individual level, and so the risk would be harder to include in a discounted price. But when you lump them all together, you can start to look at how the risk affects the entire group, so you could start to apply the risk discount across the board. Some will be more risky, and others less.

At least, that would be an arguable theory...

If you want to know what they are thinking, check out Robert Hockett on SSRN. He's the intellectual force behind the whole idea.

So basically for everyday people it's:

Heads (banks keep mortgages): You Lose, because the market value of your home is artificially high, and when the bottom goes out on the market again (unless you happen to be drinking the kool aid and equate a life time of mortgage payments as owning a home), you'll either find yourself on foreclosure or trying to refinance again.

Tails (City and PE get mortgages): You Still Lose, but now you have to pay a PE firm those monthly mortgage payments while the above still applies.

Am I missing something?

I think that the benefit of the Tails option is that your monthly mortgage payments are more in line with what your home is actually worth, as opposed to the inflated market value of the original mortgage.

Oh, so the homes get refinanced in the process? Does that happen every time the market cycle goes into a down turn, or just an one and done in the kick the can down the road kind of way?

>Oh, so the homes get refinanced in the process?

That's what they're selling. Whether it really happens...? It wouldn't be the first time a gov't entity promised a plan that would 'help' homeowners and that plan failed to actually do so.

Ok, so basically the fundamentals aren't really being addressed to why this is even a problem in the first place, and the game can go on for another day. Fun to watch…

As an aside, I wonder if it would just be better sign yourself onto a mansion, get your neighbor to burn "your" house down (using pgp to communicate this with temporal keys), collect insurance, cover neighbors bail and skip to the some emerging market (with no extradition treaty with the US or its allies) together with your "ill" gotten earnings in ones under luggage. </joke>

May there be a throng of distraught weeping bankers and insurers at your funeral, sir.

Yes. (from the article) The city buys the original mortgage and then sells you a new mortgage for a more appropriate valuation. This would hopefully be a one and done deal, but it does kind open a pandora's box in the process.

I don't claim to understand a lot of this, but I know if the principle of my home was altered to current market value & mortgage payment was made to match(looking at zillow.com's numbers) I'd be paying 1k/month less. That would be life-changing for my family. I wish someone would come seize my mortgage. That being said, I don't fully understand who's getting negatively impacted by me not paying so I await replies to my comment to enlighten me.

The investors who bought the bundled mortgages would be harmed. After all, if your mortgage was $300k and under this forced refinancing scheme it's now mortgaged at $200k, that $100k just didn't vanish - someone lost that money. It might have been divided up amongst 1500 small investors, or it might have been a handful of larger investors, the net result is the same -- someone is out that money.

On the larger stage, the City of Richmond is cutting their own throat by doing this. It's doubtful that I'd ever buy any of their municipal bonds after this. If I were somehow persuaded to (fat chance), it'd cost them a much higher rate - something like what Detroit is paying.

>It's doubtful that I'd ever buy any of their municipal bonds after this

Funny thing is, people probably own their munibonds and don't even know it.

Ah, okay. Then it depends on how I feel about the investors taking the hit. I imagine(incorrectly?) the investors as a group of wealthy people that won't suffer a huge decrease in quality-of-life by taking the hit but all the "regular" people in underwater mortgages would have significant gain in quality-of-life by the freed financial resources. This is me thinking that for a lot of people about 40% to 50% of their income goes to mortgage payments. The other problem though, is that wealthy people always seem to have a way of passing the damage down to the working class.

More than likely, investors in these cases are probably mostly compromised of 401k's and such. Small institutional folks (group of wealthy) who have been looking at the financials of some bond markets closely are probably getting out of risky areas like these…

Investors are probably a group of middleman that are managing money for pension funds, municipal funds, endowments, and such. Of course, if you take 100K out of billion-size pension fund, that alone wouldn't do much difference. That alone happening on scale means some pension funds would be in deficit, which means somebody who joins the workforce now would have to pay much more for their pension than before (since it is almost impossible to change conditions in an existing pension plan if unions are involved) or somebody's taxes would be raised, or somebody's tuition would go up.

>>> The other problem though, is that wealthy people always seem to have a way of passing the damage down to the working class.

There's no such thing as "wealthy people vs. working class", if they ever were. Look up how much money largest unions manage, how big are largest pension funds, how big are all pension funds combined. We're talking trillions here. Of course, there are some very rich people, but thinking that messing with economy you're only influencing those rich top-hat wearing monocle-donning monopoly men is completely wrong. Everything is connected, and "working class" is as interested in good investment climate as the wealthiest of the wealthy. Maybe even more - if Bill Gates loses 50% of his money, he'd be ok. If your average Joe's pension fund loses 50%, he's screwed.

Uhh, I'm probably one of those "wealthy" investors, via my 401k retirement savings. I assure you, I'm not in the 1%. Please don't default.

> 40 to 50%

That would be very unusual in most of the US, as the lenders typically want a 28/36 front-end/back-end ratios. Obviously, during the bubble things were a little ... looser.

You're not following the impact to the end.

The problem with this is that a person makes an investment with a known risk profile. That needs to be known in order to just the worthiness of the investment: the higher the risk, the higher the return needs to be.

When someone comes in and changes the rules, that messes up everything. Suddenly those safe mortgage investments that you felt were a good investment at a 5% return become absolutely shit because you run the risk of taking a huge loss.

What is the impact? All those people that bought up the mortgages a while back now want another 5% in return to offset the risk of having the mortgages suddenly lose value.

Who loses? Homeowners because now you can only find mortgages at 10%, not 5%.

> The problem with this is that a person makes an investment with a known risk profile

Which gets back to the root of the problem. Mortgage companies were not properly assessing (or outright lying about) the risk for some of these mortgages. A lot of those seemingly safe mortgages were in reality very unsafe.

Everyone needs to feel some pain on this one. Homeowners, mortgage companies, and investors - everyone who underestimated their risks should see some loss. If that risk wasn't properly assessed the first time around, then yes, it will cost more. Mortgages are at ridiculously low rates from a historical perspective, so it wouldn't be unreasonable to see those rates rise.

The people who really got screwed were those that had a properly sized mortgage, ability to pay it, but then had the value of their home drop when the rest of the market failed. If they were unable to ride out the collapse, it was brutal.

What is the home "actually worth" changes monthly, and even that is a very rough estimate since you have no idea how much it is worth until you actually sell it. So it would be more in line with whatever bureaucrat decides the home is worth in some particular point of time, probably basing on political considerations having little to do with market reality. It probably would result in some money being robbed from the banks - after all, that's where the money is - and some payments being lowered - after all, that's where the votes are - but it would have very little to do with actual market values.

I'm not sure. I see potential benefits for everyone.

Banks - 75% of the house's market value is probably more than they would get from repossession and auction

Home buyers - they now owe what the house is worth, instead of more

City - has enough money to run, keeps citizens happy

Company - $5k (though this can be argued to be unfair and the middleman should be removed)

The "Banks" probably don't stand to lose much money. Pension funds and private investors stand to lose money. Also as tax payers we would all pay assuming that at least some percentage of loans are held by Fannie and Freddie. It is a wealth transfer to homeowners and a select group of players from everyone else. And if Richmond can make it work then other municipalities will undoubtedly follow suit. And if it works for mortgages why not other assets?

I would be pretty happy if pension funds would stop buying mortgages in an expectation of being paid back from underwater. Don't contribute to the problem and you won't get bitten.

Maybe we should just tell the CalPERS pensioners, sorry, we gave it to the home owners.

So what is the "fair market value" of a mortgage? Consider that immediately on sale, the mortgage contract was bundled by the bank and sold as part of a bundle of similar mortgages, and the bundle has perhaps been split, recombined, and resold multiple times since, its relationship to the actual real property has become somewhat tenuous -- or rather, even more tenuous than it was when it was created in an inflated market.

So what's the "fair market value" of that piece of paper? You assume it "is on track to be repaid" but that is a highly optimistic evaluation. The note represents a net future value of payments multiplied by a probability P that it _will_ be repaid. P is considerably less than 1.0 for a note whose face value is more than the present value of the property, and it shrinks every time another house in the same neighborhood is foreclosed or abandoned. At best the value of the note is the sale value of the foreclosed home (less the not inconsiderable costs of performing a foreclosure and prepping the property for resale) -- and the sale value of an abandoned foreclosed house in a city full foreclosed houses is a fraction of the original purchase price.

Frankly if Wells Fargo can get $150K for a $200K mortgage in Richmond, they ought to take the money and run.

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