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December 9, 2007

Today's Housing Bubble Post - The Bailout: Just Another Fraud

-- by Dave Johnson

From today's SF Chronicle, MORTGAGE MELTDOWN / Interest rate 'freeze' - the real story is fraud / Bankers pay lip service to families while scurrying to avert suits, prison,

It sounds good: For five years, mortgage lenders will freeze interest rates on a limited number of "teaser" subprime loans. Other homeowners facing foreclosure will be offered assistance from the Federal Housing Administration.

But unfortunately, the "freeze" is just another fraud - and like the other bailout proposals, it has nothing to do with U.S. house prices, with "working families," keeping people in their homes or any of that nonsense.

The sole goal of the freeze is to prevent owners of mortgage-backed securities, many of them foreigners, from suing U.S. banks and forcing them to buy back worthless mortgage securities at face value - right now almost 10 times their market worth.

The ticking time bomb in the U.S. banking system is not resetting subprime mortgage rates. The real problem is the contractual ability of investors in mortgage bonds to require banks to buy back the loans at face value if there was fraud in the origination process.

It's widespread:
The catastrophic consequences of bond investors forcing originators to buy back loans at face value are beyond the current media discussion. The loans at issue dwarf the capital available at the largest U.S. banks combined, and investor lawsuits would raise stunning liability sufficient to cause even the largest U.S. banks to fail, resulting in massive taxpayer-funded bailouts of Fannie and Freddie, and even FDIC.
So why the "freeze?" What does that really accomplish?
The goal of the freeze may be to delay bond investors from suing by putting off the big foreclosure wave for several years. But it may also be to stop bond investors from suing. If the investors agreed to loan modifications with the "real" wage and asset information from refinancing borrowers, mortgage originators and bundlers would have an excuse once the foreclosure occurred. They could say, "Fraud? What fraud?! You knew the borrower's real income and asset information later when he refinanced!"
Cuomo in New York is going after some of the fraud - the inflated appraisals, for example. If I had money in these mortgage-backed investments rated AAA I would be demanding MY money back - and if you are in a money-market fund, you just might be who I am talking about.

But you wouldn't have any money in a money-market fund NOW, would you? You're smarter than that.

Update - Mish's Global Economic Trend Analysis says the fraud / lawsuit avoidance theory from the above article is "preposterous."

The goal of the freeze is not to "stop bond investors from suing". The goal of the freeze is to Peddle a Sucker Trap Disguised as Hope.

However, so few people will qualify for the program (see Little Hope For Hope Now Alliance) that no one can possibly claim it will stop much of anything, including lawsuits or foreclosures.

Go read.

Posted by Dave Johnson at December 9, 2007 3:49 PM

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