APPRAISERS AND CREDIT RATING COMPANIES ARE GETTING AWAY WITH IT TOO

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EDITOR’S NOTE: In 1983 the nominal value of credit derivatives was zero. Today it is over $600 TRILLION. None of this would have been possible without the active complicity of credit rating companies who as quasi public agencies “assured” the quality of securities sold to both sophisticated and unsophisticated investors. People forget that in most cases behind every “sophisticated” investor are millions of unsophisticated investors who entrusted their money to these venerable institutions to manage their savings and pensions.

A full 1/4 of the $600 TRILLION in derivatives is related in some exotic way to the housing market. When appraisal companies put profit before their reputations, you would have thought that the world would have come crashing down around them. When appraisers of real property were given instructions on what value they had to come back with to make the deal work (or else they would never be hired again), you would have thought that licensing boards would have revoked their licenses and criminal investigations would have led to prosecutions.

The whole grand hallucination referred to as securitization of debt instruments, was achieved by deceit, cheating and outright theft. But the guards at the gate not only let the barbarians in, they are letting them out too. I’m probably too old to see the eventual outcome of having a country governed by banks. But our children and grandchildren will see it in living color, and as food prices and other commodities start to rise and as the value of money falls, they will feel the pain of our folly and our failure to correct a situation that still is correctable. The founding fathers of our country gave us the right the and the means to do it.

If you like what you see, and you think that things are all going in the right direction, then you don’t need to do anything. You are probably a banker or financier with tens of millions of even tens of billions of wealth stashed away, with provisions for every eventuality. The rest of us don’t have that luxury. We were steered into an economy of excess by people who made sure that we had the money in our hands to spend — but only if we spent it, leaving ourselves and our economy and our future in tatters. If you don’t like that picture and the picture painted by hundreds of economists around the world, with our noble experiment becoming a banana republic, then maybe you should do something about it.

Innovation has been the hallmark of American success. Innovation is what it will take to bring about the changes that are necessary to have a country that is governed, with consent of the governed, by people who value human rights for all more than intense concentrations of wealth for a few. Millions of Americans have fought and died and been injured or maimed fighting for our rights as set forth in the constitutions. We treat our returning vets as expendable, and we treat their predecessors as part of some dry historical landscape without meaning.  If we are truly patriotic, then we will end the tyranny of wealth, and return to a society where wealth is possible, where hope springs eternal and where our expectations are virtually guaranteed, that our children will live better than we did.

Think back and remember. IF you can’t remember then research. We did it before. Let’s do it again.

Hey, S.E.C., That Escape Hatch Is Still Open

By GRETCHEN MORGENSON

IT’S hard to say what’s more exasperating: the woeful performance of the credit ratings agencies during the recent mortgage securities boom or the failure to hold them accountable in the bust that followed.

Not that Congress hasn’t tried, mind you. The Dodd-Frank financial reform law, enacted last year, imposed the same legal liabilities on Moody’s, Standard & Poor’s and other credit raters that have long applied to legal and accounting firms that attest to statements made in securities prospectuses. Investors cheered the legislation, which subjected the ratings agencies to what is known as expert liability under the securities laws.

But since Dodd-Frank passed, Congress’s noble attempt to protect investors from misconduct by ratings agencies has been thwarted by, of all things, the Securities & Exchange Commission. The S.E.C., which calls itself “the investor’s advocate,” is quietly allowing the raters to escape this accountability.

When Dodd-Frank became law last July, it required that ratings agencies assigning grades to asset-backed securities be subject to expert liability from that moment on. This opened the agencies to lawsuits from investors, a policing mechanism that law firms and accountants have contended with for years. The agencies responded by refusing to allow their ratings to be disclosed in asset-backed securities deals. As a result, the market for these instruments froze on July 22.

The S.E.C. quickly issued a “no action” letter, indicating that it would not bring enforcement actions against issuers that did not disclose ratings in prospectuses. This removed the expert-liability threat for the ratings agencies, and the market began operating again.

At the time, the S.E.C. said its action was intended to give issuers time to adapt to the Dodd-Frank rules and would stay in place for only six months. But on Jan. 24, the S.E.C. extended its nonenforcement stance indefinitely. Issuers are selling asset-backed securities without the ratings disclosures required under S.E.C. rules, and rating agencies are not subject to expert liability.

MARTHA COAKLEY, the attorney general of Massachusetts, has brought significant mortgage securities cases against Wall Street firms — and she is disturbed by the S.E.C.’s position. Last week, she sent a letter to Mary Schapiro, the chairwoman of the S.E.C., asking why the commission was refusing to enforce its rules and was thereby defeating Congressional intent where ratings agencies’ liability is concerned.

“We wanted to make clear that we see this as a problem and important enough that we would like an answer,” Ms. Coakley said in an interview last week. “They are either going to enforce this or say why they are not. As a state regulator, we don’t enforce Dodd-Frank, but we certainly deal with the fallout when it is not enforced.”

An S.E.C. spokesman, John Nester, said that the agency would respond to Ms. Coakley.

Meredith Cross, director of the S.E.C.’s division of corporation finance, explained the agency’s decision to stand down on the issue: “If we didn’t provide the no-action relief to issuers, then they would do their transactions in the unregistered market,” she said. “You would impede investor protection. We thought, notwithstanding the grief we would take, that it would be better to have these securities done in the registered market.”

Unfortunately, the S.E.C.’s actions appear to continue the decades of special treatment bestowed upon the credit raters. Among the perquisites enjoyed by established credit raters is protection from competition, since regulators were required to approve new entrants to the business. Regulators have also sanctioned the agencies’ ratings by embedding them into the investment process: financial institutions post less capital against securities rated at or above a certain level, for example, and investment managers at insurance companies and mutual funds are allowed to buy only securities receiving certain grades.

This is a recipe for disaster. Given that ratings were required and the firms had limited competition, they had little incentive to assess securities aggressively or properly. Their assessments of mortgage securities were singularly off-base, causing hundreds of billions in losses among investors who had relied on ratings.

That the S.E.C.’s move strengthens the ratings agencies’ protection from investor lawsuits, which runs counter to the intention of Dodd-Frank, is also disturbing. Moody’s and Standard & Poor’s have argued successfully for years that their grades are opinions and subject to the same First Amendment protections that journalists receive. This position has made lawsuits against the raters exceedingly difficult to mount, a problem that Dodd-Frank was supposed to fix.

I asked Representative Barney Frank, the Massachusetts Democrat whose name is on the 2010 financial reform legislation, if he was concerned that the S.E.C.’s inaction was enabling ratings agencies to evade liability.

Mr. Frank said he believed the S.E.C.’s move was part of a longer-term strategy to eliminate investor reliance on ratings and remove, at long last, all references to credit ratings agencies in government statutes. Indeed, the S.E.C. proposed a new rule last week that would eliminate the requirement that money market funds buy only securities with high credit ratings. If the rule goes through, fund boards would have to make their own determinations that the instruments they buy are of superior credit quality.

Still, Mr. Frank said, the commission could do a better job of explaining that its nonenforcement stance is part of an effort to reduce reliance on ratings. “The message should not be lax enforcement by the S.E.C.; it should be a lack of confidence in the ratings,” he said.

The problem is that it could take years to rid the investment arena of all references to ratings. In the meantime, the S.E.C. is letting the ratings agencies escape accountability once again.

Moreover, investors are right to fear that the S.E.C. may be capitulating to threats by the ratings agencies to boycott the securitization market as long as they are subject to expert liability. After all, Moody’s and S.& P. have succeeded before in derailing attempts by legislators to bring accountability to asset-backed securities.

Back in 2003, for example, Georgia’s legislature enacted one of the toughest predatory-lending laws in the nation. Part of the law allowed issuers of and investors in mortgage pools to be held liable if the loans were found to be abusive. Shortly after that law went into effect, the ratings agencies refused to rate mortgage securities containing Georgia loans because of this potential liability. The law was soon rewritten to eliminate the liability, allowing predatory lending to flourish.

IT is certainly important that the S.E.C. work to eliminate references to ratings in the investment arena, and to reduce investor reliance on them. But Congress couldn’t have been clearer in its intent of holding the agencies accountable. That the S.E.C. is undermining that goal is absurd in the extreme.

4 Responses

  1. neidermeyer

    One other thing — by derivative contracts — the security (tied directly to loans) — does not change hands. Thus, there is no “trace” for collection rights after the loan has been securitized – or earmarked for securitization.

  2. neidermeyer

    Not that derivative override the trust’s language – it is that the derivative contracts are not part of a security trust — meaning not a security and trustee to trust cannot be plaintiff in foreclosure actions. Yes — fact that derivative contracts are not regulated means we have no access to thisinformation. But, derivative contracts are a vehicle to remove collection rights from trusts — and, thus, holder would be current creditor — and not the trustee/trust/servicer. Again, we have new law that says that party must divulge itself to borrower/homeowner — but that law is ignored.

    It has long been standard practice for servicers to falsely claim the current creditor is the Original creditor (which is why they falsely name the trust/trustee). The servicer has an obligation to protect the identify of the real current creditor – likely by the derivative contract itself. This is why we never discovery in courts — and if you are close to winning in court — judge will try to force settlement.

    Am concerned that AG settlement does not force identification of the current creditor. The settlement tries to enforce chain of assignment docs for the securitization — but, stops short there — and does not enforce disclosure of creditor after non-performing loans are removed from trusts (zero balanced). In this later process, there is no indorsement (Holder of the NOTE – does not apply) — it is the same as debt validation under any other default — there must be be valid and legal assignment of collection rights.

    But, if servicers are not forced to disclose current creditor AFTER the chain of assignment in the securization process (and by contract) — we will never see legal assignment of collection rights and never know our real and current creditor.

  3. ANONYMOUS,

    I see the significance of what you posted ,, however this is the first time I’ve heard that .. If all these derivative contracts are not standardized and some have language overriding the TRUSTS loan collection rights my question is how are they discovered as they don’t “trade” on an exchange?

    Also ,, it looks like JPM is going to implode real soon over the fact that they have naked silver shorts (at the FEDS urging) to the tune of 3x of the worlds available silver,, they cannot deliver… JPM is counter-signatory to TONS of derivatives in the MBS world…

  4. Credit derivatives are not part of any original SPV trust — they are derivative CONTRACTS. – derived from original SPV securities. However, foreclosure mills continue to attach themselves to the original trust — whether loan was validly conveyed or not — despite the fact that derivatives REMOVE the loan collection rights from the (security) pass-through trust.

    Trillions — and with collection rights — who knows where??. Settlements??? Impossible- banks cannot settle for derivative contract (not security) holders.

    Cannot fool all the people — all the time.

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