Iowa Attorney General Tom Miller wanted to sit outside, so he settles into a wicker-looking seat and takes a moment to enjoy the Florida air or maybe reconsider why mortgage bond investors are so angry with him. It’s hard to tell. Negotiators are built this way. Hints from their unyielding expressions are ever elusive.
His $25 billion settlement with the top five mortgage servicers, the Department of Housing and Urban Development, 49 state AGs and the Justice Department enters a quizzical epilogue. Homeowner advocates and consumer groups tell him the result isn’t enough considering the widespread abuse of the entire foreclosure system. Servicing executives, after spending the early part of the negotiations eluding him, continue to claim there was no harm done in the robo-signing scandal. Economists point to a massive negative equity problem in the U.S., ranging anywhere from $700 billion to $4 trillion, and wonder why anyone is squabbling for principal reduction scraps gained through the settlement.
Private-label mortgage-backed securities investors are wondering why they’re involved at all.
Attorneys general surrounding Miller represented a band of mismatched instruments for so long, each trumpeting their own agenda, whether it was crackdowns on the Mortgage Electronic Registration Systems or securities fraud or simple dollar amounts. This settlement spiraled so far away from the robo-signing orbit, there are actually short-sale requirements written into the agreement.
Miller is attempting to sell the settlement as a net positive for investors and the entire market as an invited speaker at HousingWire’s REthink symposium.
Since 2007, he had been looking for a way to clean up the mortgage servicing mess, and what a mess. According to a HUD investigation and interviews with staff at these servicing shops, which Miller and other federal prosecutors relied heavily upon, Bank of America, the largest servicer in the U.S., was allegedly violating state law by signing up to 20,000 foreclosure affidavits without reviews or proper notarizations – per day.
From the beginning of the negotiations, which he says began officially on a Washington, D.C., day in March 2011, his objective was to get a serious principal reduction attempt from the servicers and to install a set of new standards to prevent the backlogs and delays.
“We were looking into the banks before. We wanted to sue them. But it would have been difficult. It would have taken years, and we probably wouldn’t have won. But then robo-signing came along. And it gave us an opportunity to fix the system. When we saw the foreclosure avalanche ahead of us, we made our pitches for changes in reform and servicing, but particularly modifications beginning in 2007. We had a huge number of complaints as far as servicing problems go,” he says.
How he got there was not easy. And one of the darkest moments came at the beginning.
“The banks pulled a fast one on us,” he says, sitting back in his chair.
THE GAME
“They made a move on us,” Miller says. “What happened was that we came to them with a package of new standards one week in March 2011. This was about a year ago. The banks came back and said they were too extreme. They said we were crazy.”
This was early in the week, Miller recalls, and they asked the banks for a meeting to negotiate on the following Monday. Those representing the banks, according to Miller, refused to meet with him. By Friday, there was still no word. The standards were then leaked to the press. Trade groups and policy experts, Miller says, called his office with complaints. Still, there was no time arranged for a meeting.
“We were wondering if they were serious,” Miller says. “We thought it was a tactic. We thought it was just them trying to push us around.”
Finally, the early standoff dissolved. A meeting was finally struck, but still, Miller and his staff ran into problems.
“The banks came to us and said not to give them a number, that they would get back to us with a number. They said they were afraid of leaks,” Miller says. “They didn’t want us leaking anything. And we were afraid of leaks as well. Leaks were an incredible frustration throughout this whole thing. We didn’t want a number getting out and having either side take criticism for why it came down or why it went up.”
They had the meeting. Executives and attorneys at the five-largest servicers pitched a number — $5 billion. Right away, Miller grew concerned. To him and the others on his side of the table, the figure was too low, he says. The meeting languished with little movement. But when he stepped outside, calls began coming in from the press. According to Miller, the number was leaked by the servicers – during the very meeting in which it was first proposed.
“We were upset. We were not happy. And they apologized to us. I really do think from that point on they negotiated in good faith and effort,” Miller says.
The next dark moment came in September, though Miller looks pained when he mentions it. California AG Kamala Harris broke away from the negotiations committee that month. She, like Miller, thought the dollar amount was too little from the start.
“Without her involvement, the total settlement amount might have been closer to $20 billion,” Miller says. “That was a time of concern, because we would literally ask each other, ‘Would we be able to do it without them?’ We always believed we would be able to do this, but it really made a lot of sense to reach an agreement together.”
But it wasn’t Miller who was able to bring her back in. The Obama administration, specifically, Housing and Urban Development Secretary Shaun Donovan had several conversations with her in the months leading up to the December drama. Press reports surfaced that the deal would be struck by Christmas, then New Year’s. Nothing materialized.
New York Attorney General Eric Schneiderman, who was asked to leave the negotiation committee a few months earlier, even put out a notice one morning. A press conference was scheduled in which he would have a statement on the settlement. Then it was delayed. Then, “The scheduled conference call with New York Attorney General Eric T. Schneiderman for this afternoon has been POSTPONED indefinitely.”
A month passed, and finally the deal was struck, kind of. There were a bunch of press conferences. Miller, Donovan and U.S. Attorney General Eric Holder held briefings. Harris and Schneiderman were apparently in. Each got their dollar amounts and the ability to continue pursuing the banks for alleged securities and some origination fraud. Subpoenas went out from Schneiderman’s new mortgage fraud task force just one week before the settlement was announced.
The AGs and the feds put up a bright, shiny website with how much each state was going to get in principal reduction and relief, and payouts to borrowers afflicted by the crisis. Everything. Everything but the actual signed settlement.
It took a month to file it, as some negotiations continued to labor. But finally, there was a deal March 12, which gained approval from a district court in April.
“To some extent it was a roller coaster,” Miller says.
So, where did the AGs get the $25 billion number? It seems so conveniently round, and with the way the “credits” were structured under the agreement, the actual payout remains anything but concrete.
“Well,” Miller says, “it wasn’t exactly scientific.”
THE GAMBLE
The settlement is complicated. The adjacent chart HousingWire put together involves both the breakdown of how the servicers can fulfill their obligations over the next three years and the new standards by which they must adhere to.
The gamble is that servicers will have discretion to work within these guidelines. The biggest controversy is principal reduction. For Miller, this settlement is the ultimate experiment for it.
“We will find out once and for all if principal reduction works. If it doesn’t work, then they will never have to worry about it again. If it does work then we could go forward,” Miller says.
A bird began screeching. It balanced on the edge of the balcony railing, its feathers ruffled, glaring out at the poolside loungers below.
Hours later, Miller took the stage with Indiana AG Greg Zoeller and HousingWire Editor Jacob Gaffney. Out in the dark audience, many analysts and investors glared back at him, arms crossed, waiting for the pitch.
“I would like to push back against the idea this took a long time,” Zoeller says. “If you look back at what was done, this was remarkably speedy.”
The question and answer session opened up, and the microphone landed first in the hands of Joshua Rosner, managing director of Graham Fisher & Co. He raised a crucial point about private-label investors concerned with the write-downs on the mortgages they hold.
“The kind of principal reduction will be general, and investors will be better off with the principal reduction because they’re going to be NPV positive,” Miller says.
“But under the PSAs, the investor can be frankly abused by changes to the NPV assumptions,” Rosner replies. “There’s been no model put forward on how to control this.”
“If there is abuse, then it would be something we would be open to looking into and definitely stopping.”
Laurie Goodman, the chief analyst at Amherst Securities Group, asks simply why the settlement didn’t outright prohibit private-label principal reduction or at least install a cap.
“There wasn’t a cap because the thinking was that it would be a very small amount,” Miller replies. “There are contractual restraints, fears of litigation. Banks have an even greater fear of doing principal reduction on the investors. The banks really don’t want to get into a fight over that.”
The top five servicers committed to achieving $10 billion in principal reduction credits under the agreement.
The AGs, the Justice Department and Obama administration officials want the principal reductions to happen sooner rather than later. And they built in the higher incentives to urge the servicers to cooperate.
For every dollar in principal written down in the first year after the servicers sign on, an extra 25 cents will be credited toward the $10 billion commitment — on top of the full dollar amount considered satisfied. The bonus incentive likely will push servicers to write down as much as possible in the first year, in order to ultimately write down less. It applies to second-lien write-downs and refinances as well.
A servicer will get full credit for every dollar written down on loans held in its own portfolio. But for every dollar a servicer writes down on loans held in private MBS holdings, only 45 cents will be credited, according to the documents.
This breakdown was meant to incentivize servicers to spare MBS investors from the penalties. Though the servicers have said they would write down principal where pooling and servicing agreements allow it.
According to CoreLogic, there are 11.1 million homeowners in negative equity, up from 10.7 million three months prior. JPMorgan Chase analysts estimated roughly 500,000 borrowers would receive principal reduction under the settlement terms, less than 5% of all those underwater.
Also, servicers will get fewer credits for writing down principal for borrowers with the deepest negative equity.
According to the agreement, a servicer will get full-dollar credit for write-downs completed on mortgages held on its portfolio with loan-to-value ratios below or equal to 175%. But servicers will only get 50 cents on the dollar in credit for reducing principal on loans with LTVs above 175%.
A servicer writing down principal on a mortgage secured in an MBS with an LTV above 175% will get only 20 cents of credit for every dollar written down.
Under the agreement, servicers are required to meet 75% of the entire $20 billion in relief within two years. This includes the write-downs, modifications, short sales, forbearance and other actions.
There are other programs and other ways for the servicers to spend the money. But most of the punishment is doled out on initiatives the servicers already perform. The refinancing program, under the settlement for instance, includes only loans current for the last 12 months, a loan-to-ratio floor of 100% with at least a 25-basis-point reduction in the interest rate.
For Home Affordable Refinance Program workouts done in the fourth quarter – which meet these same criteria – 60% of those refinances reduced the interest rate by more than 20%.
Servicers are also given credit for extinguishing the second lien after a short sale, something that is done with at least some routine. Short sales done under the Home Affordable Foreclosure Alternatives program, and second-lien extinguishments under FHA Short Refi and a similar initiative under HAMP are also eligible for credit — but not on the dollar amounts being subsidized by the government.
Taking a step back, the robo-signing settlement appears to be an attempt to bolster the numbers of all these government programs — nearly each of which have failed to meet expectations. But to Miller, the settlement is about reducing principal. He says it over and over. It is the great experiment for him.
“This is a real attempt to make this system better. Principal reduction is the last tool in the tool kit to be used. What will happen here is that there will be a significant amount of principal reduction done in the short term and we’ll find out,” Miller says. “Some think principal reduction will kill the mortgage system in America. If you structure it right, all those negative things won’t happen.”
The bird finally stops its screeching on the railing outside. Its feathers droop and flatten for it to fly off again. Miller watches it go.
THE NEXT CRUSADE
The new federal task force led by New York Attorney General Eric Schneiderman sent subpoenas to the 11 largest financial institutions at the end of January, as part of its investigation into possible residential mortgage-backed securities fraud.
President Obama formed the task group and announced it during his State of the Union address. Federal officials have yet to disclose which 11 banks came under investigation.
Schneiderman said in a press conference that he will be joined by Delaware AG Beau Biden, Massachusetts AG Martha Coakley, Nevada AG Catherine Cortez Masto, California AG Kamala Harris and Illinois AG Lisa Madigan. Each were late additions to the wider foreclosure settlement, suggesting that late into those last hours, each won clearance to continue pressing for settlements in these other areas.
U.S. Attorney General Eric Holder said 15 lawyers and investigators are working with the group. The FBI will add 10 agents, and another 30 lawyers and staff will join the group. The Securities and Exchange Commission will also participate. SEC Director of Enforcement Robert Khuzami said there “would be no stone unturned, no dark corner unexposed to the light.”
At the time, Schneiderman said the task force had “jurisdiction to go after every aspect of the mortgage bubble and the crash of the financial market. We have jurisdiction over every MBS issued over the last decade with Delaware and New York joining the group.”
Holder said if there is evidence of it, civil and criminal charges will be brought.
Department of Housing and Urban Development Secretary Shaun Donovan guaranteed any crackdown from the group’s investigation would include compensation to the homeowners affected by the financial crisis as well as investors, meaning settlements coming out of the group could be structured along the same spine as the robo-signing agreement.
“It became clear very quickly that Eric and I shared a vision that it would be a grave injustice not to hold these institutions accountable and potentially have hundreds of billions be paid to private investors and pension funds but not make sure homeowners who hold those loans who depend on being able to get those loans fixed to be able stay in those homes,” Donovan said.
Schneiderman said there are some limitations to what documents the different participants could share. He clarified that the different charges brought against the banks may not have all of the AGs or the DOJ listed as a prosecuting party but could be brought separately.
“I am confident you will see action in the weeks and days ahead that show this will be a very aggressive action,” he said at the time.
When asked what Schneiderman could be up to, Miller smiles. “You’ll have to ask him,” he says. “But we will be participating where we can.”
The next day, Miller was still at the conference, bright and early, his hands clasped together in front of him as he listened to a panel discussing the securitization sins of old and possible remedies in the future.
