Comment on The Powers of the Federal Government to Fix the Housing Crisis

The Mortgage News — Wed, 01 Apr 2009 02:11:38 GMT

Thanks for your comment. The AllStreets Bailout Plan doesn't depend in any way on the accounting rules for banks or any other corporation. The government would be the bank. All the loans are automatic, and not underwritten. They're secured by the tax system, not the real estate. Under the plan, roughly $1.9 trillion or 15.6% of the $12.2 trillion of total residential debt is paid off, and all of that goes right into the lenders. Due to the outright reduction in loan principal, and consequent big improvement in loan-to-values, all collateralized debt securities would rise in market value . In addition borrowers payments would be recast, so the odds of default on the average loan would also decline, and that should contribute to improved market values. In addition, the banks will have all that cash availble for new loans, and half will be owed to the government at 3% for 30-years, cheap Tier 1 capital. Similar effect would be felt in the areas of collateralized car loans and credit card debt.

As you point out, to fully solve the balance sheet problems of banks' and other corporations holding collateralized debt securitiesit's necessary to have an accounting system that more realistically values the securities than is the case with mark-to-market rules. I'm not an expert on bank accounting, however, I can offer a couple of comments that you might find useful, even it it's just a starting point to do a little more research.

First, it's my understanding that the mark-to-market rules for multi-obligor securities are about to be eliminated, or significantly altered, not imposed. The new accounting rules will allow more realistic valuation by taking into account likely yield to maturity net of likely defaults as well as trading market value (market impairment). Multi-obligor debt securities are a bundle of debts that have separtate entities obligated to pay on them, such as a collaterized mortgage security ("MBS"), as opposed to a single-obligor security, such a corporate bond, that has only one obligated party. It's my understanding that the bond rating systems used to value such securities was never suitable, and the way they were applied had a lot to do with ruining their market values. There was a good discussion of this issue on an article at The Big Picture website by a real expert in the subject (sorry, I don't have time to locate the link at the moment) . He explained that one of the big problems that contributed to the credit crisis is that the debt rating agencies apply their classic single-obligor bond rating systems to the collateralized debt securities. The way the systems work is that a AAA security is rerated all the way to junk if there's just $1 expected to be lost! Once they're rated as junk none of the big fund managers can buy them for most accounts, and the mark-to-market rules make the holder write down the value. That's what happended to even AAA mortgage-backed securities, so they now trade around 30 cents on the dollar, as if 70% of the mortgages are worthless!! (By the way, The New York Post reported Sunday that Bank of America and Citi Group are outbidding all others and snapping up these AAA securities ahead of the change in mark-to-market and the new bad bank plan.) They'll make billions in profit on these purchases (being made with taxpayer TARP funds) when they apply the new accounting rules, or alternately they can sell them at the new higher market value to buyers funded by the government! What a racket.

Secondly, new loan securities are not necessarily immediately being marked down, because they are not the ones in default. If they were securitized privately, then that security would be subject to the mark-to-market problem at least until the rules change. However, there's little or no private securitization being done, as I understand it, because the non-government securitizing entities (offshore subidiaries of many large financial corporations) can't repay billions of dollars in short term debt to the money market funds that lent them funds to to finance leveraged purchases of the loans to create the debt secuities (borrow short, lend long...no, no, no, no!). However, new loans are bought and securitized by Fannie and Freddie or Ginnie Mae, and those are government insured, and the underwriting of those loans is very much better than old loans, so I don't think they have the market value problems. Hedge funds, mutual funds and ETFs are still buying them, I think, but I'm not sure if pension funds do.

Comment on The Powers of the Federal Government to Fix the Housing Crisis

J Hale — Sun, 29 Mar 2009 17:16:05 GMT

Part of the financial industry problem is the threatened imposition of the new mark-2-market (MTM) rules. These rules eliminate any future lending if the markets are disrupted. How can a bank make any loan that they have to immediately mark down?

For example - a bank negotiates a $1 million jumbo, immediately marks it down to $600,000 and ask for more TARP money. Or they could sell this "toxic asset" at a discount to a hedge fund, where it receives more leverage and becomes a "legacy asset".

Banks make loans based on cash flow. They need to be able to hold the loans based on a similar valuation method.

In other words, your plan, which does have good points, does not have a prayer of working until the Federal Government stops pushing the new restrictive accounting measures on the banks.

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Comment on The Powers of the Federal Government to Fix the Housing Crisis

Comment on The Powers of the Federal Government to Fix the Housing Crisis