Miami Herald: Collapse Had Nothing to Do With Defaults in Mortgages

COMBO Title and Securitization Search, Report, Documents, Analysis & Commentary COMBO Title and Securitization Search, Report, Documents, Analysis & Commentary

EDITOR’S COMMENT: This is why we should think before we speak and make sure we are using terminology correctly. This crisis will not be over until we realize that there are important differences between the obligation, the note, the mortgage, the mortgage bond, the CDO, the synthetic CDO, the insurance contract, the credit default swap, the Master Servicer, the sub-servicer, the “Trustee” of the pool, the “Trustee” on the deed of trust, the “Trustee” of the structured investment vehicle off-shore, the creditor, the holder and the holder in due course, the secured party, if any etc. Right now they are used interchangeably which is exactly the confusion that allows these bogus foreclosures to proceed and the bogus mortgage bonds to be sold and traded.


How rating agencies set stage for community bank failures

McClatchy News Service

Billions of dollars in top-rated bonds backed by community banks have gone bust, debunking the defense offered by credit-rating agencies that wildly inaccurate ratings were limited to risky mortgage bonds that imploded and then triggered the U.S. financial crisis.Government regulators and lawyers across the United States are examining how credit-rating agencies came to bless as “investment grade” the now-toxic bonds made up of special securities issued by community bank holding companies.

During the go-go years preceding the December 2007 start of the worst modern recession, more than $50 billion of these special securities were floated by community banks and pooled into complex instruments called collateralized debt obligations, or CDOs.


From 2000 to 2008, Moody’s Investors Service rated at least 103 of them, valued at $55 billion, issued by banks, insurance companies and real estate investment trusts. Today, many of these securities are virtually worthless.

Questioned by the Financial Crisis Inquiry Commission on June 2 in New York, Moody’s Chief Executive Raymond McDaniel insisted that “the poor performance of ratings from the 2006-2007 period in residential mortgage-backed securities and other related securities, housing-related securities, has not at all been replicated elsewhere in the business.”

Wrong. Of the 324 U.S. banks that have failed since 2008, 136 defaulted on a total of $5 billion in trust-preferred securities — called TRuPS in industry parlance — that they had issued to raise capital.

These securities were popular because their issuance didn’t dilute an issuer’s share price, unlike preferred stock. And the dividends paid on the securities were tax deductible for the issuer.

McClatchy Newspapers learned that at least 36 failed banks have transferred more than $1 billion in bonds backed by trust-preferred securities to the Federal Deposit Insurance Corp.


And with small 860 banks on the FDIC’s “watch list” as of Sept. 30, indicating risk of failure, it’s clear that even more of these toxic assets may flow to the FDIC, which is unable to find institutions willing to take them.

One failed bank, Riverside National Bank of Fort Pierce, brought a suit against Moody’s and its two competitors, alleging that Moody’s as a result of “undisclosed conflicts of interest fraudulently and/or negligently assigned inflated `investment grade’ ratings to the CDOs” that are worthless today. Riverside failed and its toxic assets fell to the FDIC, which took over as the plaintiff and continued the suit.

It’s why McDaniel’s testimony is so damning in its assertion that ratings problems were limited to mortgage bonds, and brought by outside factors.

“This (collapse in trust-preferred CDOs) has nothing to do with mortgages at all, and yet you still have had this massive impact and this massive failure,” said a former Moody’s senior analyst who alleges he was pressured to provide inaccurate ratings.

The analyst, who insisted on anonymity, said there’s a fundamental flaw in the way these securities were rated. Moody’s provided what were called “shadow ratings,” one-time ratings issued about the health of the bank that weren’t continually monitored and instead represented a snapshot in time.

Armed with these “shadow ratings,” investment banks then pooled the securities into different layers of risk, offering investors slices of the pooled securities broken down into differing risk levels. Hedge funds and big pension funds often took the portions rated highest and thus perceived to be of least risk.

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2 Responses

  1. Neil

    Only one comment to this post — but your editor’s comment — says it all. And, may I add
    “resecuritizations” (synthetic — of course).

    Very interestingly, came across article by Professor Adam Levitin (one of many). Prof. Levitin states that ANYTHING with a cash flow can be securitized. Agree that to be securitized — there MUST be a CURRENT cash flow. He states that CDSs provide a cash flow (payment of premium for credit protection) — and, therefore, there can be securitization of a portfolio of credit default swaps (subject of Goldman Sachs — Abacus).

    While the professor may be correct in this analysis, these CDS cash flows are NOT part of the original Trust — but are, rather, synthetically derived — and provide income to some other party than Certificate Holders to the trust. And, such cash flows are NOT passed through the trustee to the original trust.

    I have said before, when derivative are traded on the original trusts (and this includes CDOs and CDSs – and others) the actual securities to the trust itself — DO NOT CHANGE hands. The securities remain — but they are no longer existent. Only the derivative survives — and without change of hand of the original security. Thus, no one knows the party that will actually collect proceeds and is the real party in interest in a foreclosure proceeding. We DO KNOW — that it is not the CERTIFICATE HOLDERS to the original trust — that claim to have standing in courts via the trustee to the original trust.

    However, the trustee to the original trust is also usually the swap counterparty trustee — meaning dual roles. But, of course, not within the same context of the original trust itself.

    Agree 100% with your editor comment. And, what mortgage bond continue to be traded when the upper tier tranches have been paid in full — via swaps — and, therefore, there is nothing left to be passed through to lower tier tranche holders?? At least not within the content of the original structured trust. The lower tier tranches provide for removal of collection rights — not pass-through to upper tier tranche holders — they have already been paid. The lower tier tranches were only setup for credit enhancement to upper tiers — without upper tier survival — there is no lower tier tranches.

    Happy and Healthy New Year to you and your family.

    Many thanks.

  2. “Now, I have your honest assurances that there is in fact a swine of great value in that poke, have I not?” inquired the covetous investor.

    “But of course.” replied the greedy financier. “It’s rating is no less than sterling, triple AAA!”

    “I will vouch for that.” Replied the shady ratings agent. “In that poke there’s as fine a porker as ever you’ll run across!”

    But after the sale and upon discovery that there was no pig in the poke, only the left over excrement of what once was a pig, the entire poke was sold off to an ever accomodating government agency, at full price no less, but not until securely fastening the poke’s strap and affixing the AAA tag there upon.

    The government worker simply placed the poke in the stench filled room with the millions of other similar pokes. And all was well, and the financiers went about their business again as usual.

    “Might I offer you another fine poke filled with yet another whopper of a piggy?” asked the edacious financier.

    “Why, of course you may, as long as it’s as fine as the last one I aquired from you!” replied the rapacious investor.

    Life was good.

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