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Thursday, November 08, 2007


cuomo's torpedo to sink wamu

a few days ago, the new york attorney general andrew cuomo filed suit against something called eappraiseit, a home appraiser, for conspiring with washington mutual to inflate appraisal values on real estate. this sounds dry as can be, until one understands how banks have made mortgages until very recently.

the essence of the bubble and now unfolding disaster in housing is that banks and s&l's like wamu have been making loans to just about anyone -- and doing so because the loans were being packaged and sold as securities to investors, rather than staying on the originator's books. this "securitization" was a brand-new business model in the mortgage industry, and -- facilitated by negative real interest rates offered by a promiscuous federal reserve bank -- opened immense and previously untapped reserves of capital (and unthinkable amounts of borrowed money as well) to make home loans, which had previously been simply too risky for many institutional investors to get into directly.

this tsunami of capital flooded housing and pushed prices up incredibly as well as brought many very poor quality mortgagors into the homeownership pool -- some of whom were simply deliquency-plagued bad credits, others being heretofore good credits who were simply given too much loan rope to hang themselves with as they chased dreamhomes irresponsibly.

but, after several years of acceleration, the system slowed in 2005 as ever-more-obviously bad loans were being generated and then cracked in 2007 when investors suddenly began to understand what trash they were buying in mortgage-backed securities and the collateralized debt obligations based on them. as investors quit buying mbs and cdo's, the system ground to a halt -- finally freezing in the credit crunch that began in july 2007.

many originators -- stuck with scads of new, terrible quality loans and unable to sell them -- went bankrupt almost instantly, among them new century. at this point, it became much more difficult to get any loan.

but others, including wamu and countrywide, have continued to make loans (though many fewer) on much tougher credit terms. most of these loans were what is known as prime conforming -- that is, loans that gse's like fannie mae and freddie mac can buy from the originator, as they were the last buyer of any size left. this has been in many respects, since the crunch started, the last leg of the mortgage market upon which major originators like countrywide and wamu have depended for continuing fee generation.

cuomo's suit essentially states that these originators have been conspiring and pressuring appriasers to inflate appraisal values and therefore loan values on mortgaged properties, including those prime conforming loans which they have since sold on to fannie and freddie. that is, fannie and freddie paid too much for the mortgages they bought from wamu that were appraised by eappraiseit.

as such, if the originator is found to have defrauded them in this or any other fashion, fannie and freddie are entitled to force the originator -- in this case, wamu -- to repurchase the loans they sold to them at par. these loans are of course worth significantly less than par, and were from the start because of the false appraisals.

that event would more or less instantly destroy wamu (much less eappraiseit) as they have nothing like the ability to take on a loss of the size implied by billions in forced repurchases. as one might suspect, wamu's stock plunged over 20% yesterday.

if you have a savings account at wamu, NOW is the time to go down to the branch and withdraw all your money. the question remains open as to whether countrywide and other such originators will be similarly destroyed, but if it happens to wamu the chances are good.

there is now a legal battle underway (outlined by tanta at calculated risk) as wamu attempts to push the liability risk off on eappraiseit, a game of indemnification which underlies much of the mortgage securitization industry. in the end, however, it matters little -- eappraiseit cannot take much before going insolvent, at which point wamu will have to take the losses. wamu itself is in a very poor position to do so.

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