“A log scale won’t help this chart”, by Tim Iacono, The Mess That Greenspan Made, July 30, 2008.

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),

http://www.timesdaily.com/article/20080601/NEWS/806010314/-1/COMMUNITIES

This is reality.

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

1.) The balance on Mr. credit card fraud’s account, right before he leaves the country.

2.) A bankrupt Federal Reserve.

3.) The temperature of Rome when it burned.

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.

Thank you for setting me straight on that one.  I found this article that describes the problems with the AMCs in more detail.  You are right- this has issues.

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.

Although the taxpayer has yet to chip in one dime for these “borrowings” on can argue that our weak dollar and high inflation are eroding any savings we might have (a back door tax).

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.

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.

I almost posted on that article. I thought this was interesting with the US Comptroller of the Currency duking it out with OFHEOs Lockhart and New York’s Andrew Cuomo:

Mr. Dugan, you may recall, took extreme umbrage last February when Eliot Spitzer—remember him?—cited federal bank regulation, or rather the lack thereof, as a fundamental cause of the subprime mortgage fiasco. Well, Mr. Dugan is at it again. In a letter last Monday to James Lockhart, who oversees Fannie and Freddie as head of the Office of Federal Housing Enterprise Oversight, Mr. Dugan took aim at the agreement Mr. Lockhart hammered out with Mr. Cuomo in March prohibiting the two government-sponsored enterprises from backing mortgages that rely on the work of real estate appraisers who are paid by the mortgages’ underwriters or their affiliates.

Such limitations seem eminently sensible. After all, internal appraisers have an obvious interest in inflating home values, a conflict that seems ripe for abuse and one that has been cited as one culprit in the housing bubble, whose implosion led to the credit crisis that continues to plague the financial markets.

But Mr. Dugan wants the agreement undone, warning last week of dire unintended consequences, one of which was the possibility that such limitations would get in the way of government efforts to keep housing prices from falling further than they already have. Does Mr. Dugan really mean to suggest that inflated appraisals are necessary to keep the economy afloat?

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?

“US and European debt markets flash new warning signals”, by Ambrose Evans-Pritchard, Telegraph, May 30, 2008.

Credit default swaps (CDS) on Lehman debt have risen from around 130 in late April to 247, while Merrill debt has spiked to 196. Most analysts had thought the coast was clear for such broker dealers after the US Federal Reserve invoked an emergency clause in March to let them borrow directly from its lending window.

But there are now concerns that the Fed itself may be exhausting its $800bn (£399bn) stock of assets. It has swapped almost $300bn of 10-year Treasuries for questionable mortgage debt, and provided Term Auction Credit of $130bn.

Does the word “underwater” bring up a picture?

By the way, that story didn’t turn out well.