Wednesday, February 6, 2013

DOJ Sues S&P, Accused of Inflating Mortgage-based Products

Let's forget for the moment that S&P, one of the world's most respected credit ratings agencies, downgraded the U.S. after Obama and Democrats refused to enact real spending reforms that would put the country back on the path to fiscal responsibility and ask ourselves was the company really to blame?

To do that let us go back to 1999, September of '99 to be exact.
In a move that could help increase home ownership rates among minorities and low-income consumers, the Fannie Mae Corporation is easing the credit requirements on loans that it will purchase from banks and other lenders.
Fannie Mae, the quasi governmental mortgage underwriting company, felt pressured to make the changes from the Clinton administration who was pushing them to make more loans to low-income borrowers, which studies showed are disproportionately minority.  A noble cause, but at what risk?  Significant risk if anyone bothered to listen to economic experts at the time.
"From the perspective of many people, including me, this is another thrift industry growing up around us,'' said Peter Wallison a resident fellow at the American Enterprise Institute. ''If they fail, the government will have to step up and bail them out the way it stepped up and bailed out the thrift industry."
Looking back now, we can all see those sounding alarms were right.  Not only did this policy lead to the largest economic bailout of the banking sector in human history, but it dragged the entire global economy down with it.  Even worse, the policy may have been completely unnecessary because minority home ownership had already been making significant gains.
Home ownership has, in fact, exploded among minorities during the economic boom of the 1990's. The number of mortgages extended to Hispanic applicants jumped by 87.2 percent from 1993 to 1998, according to Harvard University's Joint Center for Housing Studies. During that same period the number of African Americans who got mortgages to buy a home increased by 71.9 percent and the number of Asian Americans by 46.3 percent.
Even with record growth and the new lower credit requirements enacted by Fannie Mae, is wasn't enough to help banks meet new requirements set on them by the federal government that forced them to make more and more loans to minorities.

The Department of Housing and Urban Development along with the Federal Reserve changed the process of issuing credit ratings to financial institutions, i.e. banks/mortgage lenders, by making the number of minority loans issued by the bank a key factor in the rating.  Together with the threat of lawsuits alleging redlining and disparate impact, along with new pressures being levied by the Bush administration on Fannie and Freddie to remove all down payment requirements, banks began making riskier and riskier loans.

Banks began making loans to those who had no credit at all.  They created the aptly named NINJA (No Income No Job or Assets) loan to help them meet these new HUD quotas.  The NINJA loan was designed specifically to cater to the illegal immigrant borrower.

For more than two decades, America's illegal aliens have been the target of national attention -- largely for negative reasons. Their growing numbers put downward pressure on U.S. wages and new demands on schools, hospitals, and other public services. Fears of heavier social burdens and higher tax bills have led citizens and local officials to object with renewed vigor to what many perceive as an unwanted invasion from Mexico and other countries, especially to newer destination states such as Alabama, Georgia, North Carolina, and Tennessee (BW, July 4, 2005). Yet all the while, farms, hotels, restaurants, small manufacturers, and other employers have continued to hire the undocumented with little regard to the federal laws intended to stop them. 
At the same time, though, the fast-growing undocumented population is coming to be seen as an untapped engine of growth.
This new "engine of growth" lacked one major requirement for credit sustainability, ties to the community and reliance on a sound person credit rating.  With no social security number, and often stolen or falsified documentation, banks had no way to hold illegal immigrant borrowers accountable.  Illegal immigrants began taking out mortgages for homes they could never afford on their salaries.
Leonardo Simpser of the Hispanic National Mortgage Association (NHMA) says that Hispanic first-time buyers constitute the fastest-growing segment of the subprime mortgage market... 
HNMA is the creator of the Hispanic Automated Underwriting System (HAUS) which claims to allow lenders to "eliminate the need for time-consuming manual underwriting of such applicants, and allows lenders to underwrite borrowers with no Social Security numbers and multiple income sources."

In one example, Alberto and Rosa Ramirez took out a $720,000 NINJA loan on a home in California.  The couple lived there with their three children, and friend Jesus Martinez, his wife, and their three kids.  The Ramirezs earned a combined $300 per week working on a Strawberry farm.  Martinez and his wife earned $500 a week picking mushrooms.  Their mortgage payment came to $5,378 plus $750 in taxes and escrow.  Not earning anywhere near that amount, they stopped paying the loan almost immediately and became squatters.

Their story played out again and again across states with the highest levels of illegal immigration.  In fact, the problem became so bad by early 2007, that the majority of foreclosures were occurring on mortgages that were less than 15 months old.  A typical foreclosure can take anywhere for 6 months to a year, implying these borrowers stopped paying almost immediately.

These banks weren't ignorant of what would happen, but neither were the government officials who were creating the very regulations that put them in a position to need to make the risky loans.  Banks were left with one choice to protect themselves against the risk everyone knew was coming, so they created the mortgage derivative which allowed lenders to bundle these risky loans into packages and sell them on the open market.  The idea was to spread the risk out over hundreds, if not thousands of loans.  If a small percentage of the mortgages went bad, it would be okay because the other 90 plus percent would cover those loses along with the growth in value created from market activity.

What they, nor S&P and other credit rating agencies, predicted was just how many of these loans were bad.  The dominoes began falling at the rest is history.  Unfortunately, some people seem to either want to ignore history or fail to learn from it.  By some people, we mean the Obama administration.

Not only have they worked for the past four years to shift the blame for the mortgage mount down away from government, but they have continued to push banks to make the same risky loans.
At the Justice Dept., a new 20-person unit dedicated to fair lending issues received a record number of discrimination referrals from regulators in 2010 and has dozens of open cases, according to a recent agency report. Potential penalties can reach into the millions of dollars. "We are using every tool in our arsenal to combat lending discrimination," Thomas E. Perez, the assistant attorney general for the Civil Rights Div., told a conference of community development advocates in Washington in April.

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