It's the fraud stupid

Commentary By Ron Beasley

I'm just about finished with The Monster by Michael W. Hudson and hope to have the review up on Monday or Tuesday up now.  The thing we learn from that book is that virtually all of the subprime mortgages that were bundled into securities are fraudulent and that the banks knew that.  In addition we know that the paper work for those mortgages was throughly screwed up by the banks during the securitization process.

Joe Nocera of the New York Times reports this morning that these same banks think they are above 100s of years of property laws.

That�s why most people, myself included, have no sympathy for Bank of America�s legal predicament � and no patience for its �we�re not the bad guys here� arguments. It is absolutely true that the homeowners that Bank of America wants to foreclose on are in default on loans they should never have gotten in the first place. (Gee, whose fault was that?) But it simply does not follow that the bank therefore has an absolute right to take back the home. Under the law, it has to prove it has that right � by filing documents that show that the owner of the mortgage has conveyed that right to it. That�s why this affidavit scandal isn�t some legal nicety. It�s about the single most important value of American jurisprudence: due process.

�Just because the homeowner hasn�t paid his mortgage doesn�t mean anybody in the world can kick him out,� said Katherine Porter, a visiting law professor at Harvard. �The bank has to have the standing to do that.� She added that the bank�s argument was a little like saying that someone who committed a crime shouldn�t receive a trial because he�s so obviously guilty. America just isn�t supposed to work that way.

The banks real problem is that investors are also going after them.

As for the potential lawsuit with BlackRock and the New York Fed, the week before the investors sent the letter to Bank of America, three Countrywide executives, including former C.E.O. Angelo Mozilo, settled charges brought by the S.E.C. that they had engaged in fraudulent conduct. Internal Countrywide e-mail clearly show that they knew how dangerous their lending had become. Once the loans were sold to Wall Street � which, I should note, aggressively pushed the subprime companies to lower their standards � they went through a due diligence process that investors never knew about. Banks took advantage of investors every bit as much as they took advantage of home buyers.

And it would be nice, if just once, they would admit it. Instead, we get Mr. Noski, the chief financial officer, promising that the bank will fight these cases to the death because they�re looking out for shareholders. It�s appalling, really.

Nocera says:

I admit it: I want to see the banks feel some pain. Most people do, I think. Banks did terrible things during the subprime bubble, and they still haven�t paid any real price. I find myself rooting for judges to rule against banks in foreclosure cases. I would love to see these big investors put the serious hurt on Bank of America, which will encourage other investors to pile on. I know this colors my thinking. I can�t help it.

Yet I also know the flip side. If the foreclosure lawyers start winning a lot of cases, if judges halt foreclosures on a widespread basis, if investors start to extract billions upon billions of dollars from the banks � and if banks become seriously weakened as a result � we�ll be right back where we were two years ago. The banks will need to be saved for the good of the economy. The taxpayers will have to come to the rescue. That�s an appalling prospect too.

Banks: We can�t live with them, and we can�t live without them. It stinks, doesn�t it?

Barry Ritholz gets it right:

I disagree. We still have the option of doing what should have been done on the first place: The next time they come to the taxpayers begging for a bailout we go Swedish on them: Pre-packaged bankruptcy, fire management, wipe out shareholders, haircut bondholders, erase all of the outstanding debts and toxic paper.

He ends the article with this bon mot:

Banks: We can�t live with them, and we can�t live without them. It stinks, doesn�t it?

I would rewrite that:

Banks: We don�t have to live with them in their corrupt, incompetent form, but we can�t live without them. So we best clean uo the mess before these bastards cost taxpayers yet another trilliomn dollars . . .

I agree with Barry.

And this:

Prompt Corrective Action

First, it is time to stop the foreclosures until the banks and servicers adopt corrective steps, certified as adequate by FDIC, that will prevent all future foreclosure fraud. They must also adopt plans to remedy the injuries their foreclosure frauds have already caused, and assist the FBI, Department of Justice, and legal ethics officials investigations of their officers' and attorneys' frauds and ethical violations.

Second, it is time to place the financial institutions that committed widespread fraud in receivership. We should remove the senior leadership of the banks and replace them with experienced bankers with a reputation for integrity and competence, i.e., the honest officers that quit or were fired because they refused to engage in fraud. We should prioritize the receiverships to deal with the worst known "control frauds" among the "systemically dangerous institutions" (SDIs). The SDIs' frauds and fraudulent leaders endanger the global economy.

We propose Bank of America for the first receivership. In the last few weeks, the SEC has obtained a large (albeit grossly inadequate) settlement of its civil fraud charges against the former senior leaders of Countrywide. (Bank of America acquired Countrywide and is responsible for its frauds.) Fannie and Freddie's investigations -- with their findings reviewed by their regulator, the Federal Housing Finance Agency (FHFA) -- have identified many billions of dollars of fraudulent loans originated by Countrywide that were sold fraudulently to Fannie and Freddie through false representations and warranties. The Fed, BlackRock, and Pimco's investigations have identified many billions of dollars of fraudulent loans provided by Countrywide under false reps and warranties. Ambac's investigation found that 97% of the Countrywide loans reviewed by Ambac were had false reps and warranties. Countrywide also engaged in widespread foreclosure fraud. This is not surprising, for every aspect of Countrywide's nonprime mortgage operations that has been examined by a truly independent body has found widespread fraud -- in loan origination, loan sales, appraisals, and foreclosures. Fraud begets fraud. Lenders that are control frauds create criminogenic environments that produce "echo" epidemics of control fraud in other professions and industries.