Housing Doom

twist -

I picked this gem out of the body of your “Quiet, please, We’re regulating” link.

You know banks aren’t out of the regulatory woods yet when one sees fit to warn its employees not to visit the United States for fear of arraignment. Management at UBS reportedly did just that last week with former members of its now-disbanded private banking team, responsible for wealthy U.S. clients. The fear seems to be that other UBS private bankers would be subject to questioning following the recent indictment by U.S. authorities of one of the unit’s former senior executives for allegedly helping clients evade taxes.

P.S. think the St Louis Fed will correct that “1905″ to “1975″ in the X-axis now?

twist -

Actually, it’s worse than they suggest in that article. The inflated appraisals are necessary to keep the major financial institutions from collapsing. For the same reason I’ve been jumping up and down like a demented hamster trying to attract attention to court scrutiny of the Montreal Accord. If the ABCP deal (arising from the largest bankruptcy in Canadian history) collapses it will put $32 billion of bonds backed largely by US subprime mortgages on the market, and the market price will be discovered. This then causes accountants to revalue all the SIV and such sludge on banks’ balance sheets everywhere.

The real price for all this dodgy debt is ultimately driven by the actual worth of the underlying assets, so they must be assessed high enough so that it doesn’t turn out that every bank in the world is critically undercapitalized.

Last month news media and bloggers were reporting the discovery of a computer error in some bond rating software, and how the rater had fiddled the assumptions in the model until the corrected model once again gave AAA for the bonds in question.

The implications of that last paragraph are absolutely insane. “Some senior staff at Moody’s were aware in EARLY 2007 that CPDOs rated Aaa the previous year should have been ranked as many as FOUR LEVELS LOWER, the FT reported today, citing internal Moody’s documents. The firm ADJUSTED SOME ASSUMPTIONS TO AVOID having to assign lower grades, the paper said.”

This is just the familiar scenario from “The Roadrunner.” The growing surge of stories about avoidance of price discovery and a horror of sound assessments is just Wile E. Coyote trying not to look down.

Tobby-

I don’t think the lender want higher appraisals either- the deal between Lockhart and Cuomo is an “after the cow is out of the barn” solution. It is interesting that the Comptroller of the Currency wants to keep them high though.

Twist,
There are some legitimate concerns to the Cuomo deal. It is likely that lenders and brokers would be forced to use Appraisal Management Companies (AMCs). These are nothing more than middelmen that take a big cut of the appraisal fee (BofA, Wachovia and Countrywide own their own AMCs as a profit center). This will likely drive the “good” seasoned appraisers out of the business, leaving neophytes. Would you want to pay $400 for an appraisal, and then find out that the AMC kept half of it and gave the assignment to a kid right out of high-school? Not to mention the damage these idiot appraisers have already done to the market.

There are some companies that act as nothing more than firewalls between a lender and appraiser for a small fee ($5-$15). The requirement that these types of companies be used would likely be acceptable to the appraisal and lender community. Mortgage brokers are of no concern in this policy debate what so ever, and will be out of luck regardless of the decision.

The irony in the Cuomo deal with FNMA is that for the most part FNMA losses are not due to inflated appraisals. Statistically, the appraisals are well within variances established over the past 25 years. Most of the appraisal fraud is in the sub-prime and Alt-A sectors. Cuomo went after FNMA because he was “concerned” that FNMA was being duped into buying bad loans from lenders like Washington Mutual that was running a scam with an AMC to inflate appraisals.

While the intent is welcomed by both investors and appraisers, the requirements of the agreement would have unitended consequences.

Of note is that FNMA has been keeping a database of losses tied to appraiser licences. They have just begun to use that database since early 2007 to blackball and/or redflag certain appraisers. They plan to do a similar database for both mortgage brokers and loan officers. Imagine that, accountability.

What’s worse is the graph is NOT telling the whole story.

1- FEDs took $300 Billion of bad debt from the banking institutions.

2- The US has burned up about 50% of it’s reserves.

3- The problem is NOT nearly over with.

4- Here is another graph.
http://bigpicture.typepad.com/comments/2008/05/the-feds-balanc.html

Twist, Tobby,

IMO it’s important to, from time to time, step back and look at the big picture.

Until the beginning of 2007, everyone active in the mortgage flipping business (lenders, brokers, repackagers, GSEs, etc.) had (i.e. seemed to have) an incentive to pressure appraisers to inflate property values. In February of last year, a survey of the national appraisal industry conducted by October Research Corp. reported that 90 percent of appraisers feel pressure to inflate the value of homes to meet expectations — be it a purchase price or an estimated value for a refinance.

As higher appraisals meant lower LTVs, hence higher credit ratings when bundled, hence lower financing costs, hence fatter margins, it was the economically logical thing to do… in a world where property prices could never drop that is.

Now we hear the GSE’s top brass proclaiming that they would always act against such practicies, “as we are on the hook when things turn sour”, they closed their eyes because the biggest risk was deemed to be missing out on the free drinks, and nothing else. Risk management was non-existent in mortgage land. Officially, their “appraisal guidelines” stated that such practices are “clearly unacceptable” (e.g. page 3 in http://www.metrowestappr.com/newsletters/docs/fanniemae_mh_appraisal_guidelines.pdf ) but in practice, nobody bothered because the buyers of (any package of) bundled mortgages didn’t bother.

Now the game seems to be turned upside down, but it is not. Just as banks accross the globe are suffering because of the new mark-to-market valuation rules, additional write-downs on mortgage or real estate related assets would mean additional hits to the equity buffer… forcing more distressed sales of assets or diluting equity increases. That is also why Benny & the Feds are creating XYZ Facilities for banks to offload their toxic mortgage waste instead of dumping it.

PS: the GSE’s plan to incorporate the new appraisal guidelines beginning January 1st of next year. (http://www.fanniemae.com/newsreleases/2008/4291.jhtml;jsessionid=FXX2CHRQBMTVNJ2FECHSFGQ?p=Media&s=News+Releases)

As most people were still assuming that prices would never drop (let alone drop by the double digits),