What Took You So Long? (Put-Backs and Blow-Ups)


What Took You So Long? (Put-Backs and Blow-Ups)

Posted by Karl Denninger

IRA put forward a nasty report on the “putback and blowup” risk issue related to the banks and fraudulent mortgages:

The wave of loan repurchase demands on securitization sponsors is the next area of fun in the zombie dance party, namely the part where different zombies start to eat one another. The GSE’s are going to tear 50-100bp easy out of the flesh of the banking industry in the form of loan returns on trillions of dollars in exposure, this as charge-offs on the several trillion in residential exposure covered by the GSEs heads north of 5%. The damage here is in the hundreds of billions and lands in particular on the larger zombie banks, especially Bank of America (BAC) and Wells Fargo (WFC).


The action “arises out of the alleged fraudulent acts and breaches of contract of Countrywide in connection with fifteen securitizations of pools of residential second-lien mortgages” Take particular care to savor the fact that these are second lien pools and that, where defaults have occurred on the primary mortgage, loss severities on the seconds will tend to be 100%. Or the cost could be more than par if you count the cost of remediation and recovery efforts.

Sigh…. how long does it take folks?

On April 20th, 2007 I wrote the following:

Why? Because every last one of the stated income loans that has been made can be PUT BACK ON THE LENDERS IF IT DEFAULTS.

And by the way, this is not limited to Countrywide (CFC). It applies to IndyMac, Downey, AHM, Washington Mutual and every other lender in the ALT-A space.

Let me restate that again so that everyone gets it – every single ALT-A lender is at risk of having every defaulted loan – no matter how long it has been since it was securitized and sold off – PUT back on them if there is any material misstatement in the paperwork!

To those of you who are claiming that this is a “Subprime” problem, that it is “contained”, that it is limited to “poor people who can’t pay their bills” or anything like that, let me point out that you are one hundred percent full of crap.

Emphasis in the original.

And on April 17th:

So while mortgage companies may maintain that they have “little” exposure to defaults because they sold these loans off to the bond market without recourse, if in fact 60 percent of the ALT-A stated income products have incomes fraudulently inflated by 50% or more those mortgage companies can probably be forced to take back each and every one of those loans.

HALF of all stated-income loans?

This will BANKRUPT every single one of these companies if it happens.

Now go look at the big bank’s balance sheets for second line (HELOC, silent seconds, etc) exposure.  70% of the outstanding dollar volume was written in California, Florida, Nevada and Arizona – on bubble houses.  The clear majority of those have a first that is underwater and thus the recovery value on those HELOCs, if they default or are “put back” due to fraud, IS ZERO.

When you look at these large banks balance sheets and then take out of their capital the likely losses under this sort of analysis you find that every single one of them will be driven into regulatory capital trouble at best.

This is just one of the issues we have ducked instead of facing.  The other big one is commercial real estate securitizations – S&P put out a report the other day in which it essentially said “if the banks have to eat the reduced value now they’re all insolvent.”

We in fact have fixed none of the underlying issues that brought down Fannie, Freddie, AIG, Bear and Lehman.  The only reason we have seen supposed “improvement” in the markets is that the government has given permission to lie to financial institutions in the exact same form and fashion (that is, hiding actual liabilities and probable losses) that brought down ENRON.

But the underlying loss is still real, still present, and still out there.  Refusing to recognize it doesn’t make it go away.  It just sweeps it under the carpet with the hope (wish really) that the institution will be able to screw you, the consumer, out of enough money to cover the shortfalls before they’re forced to recognize the already-occurred losses and thus declare bankruptcy.

If this was all “the government” that was stuck with these bad loans that were unmarketable (since they have a zero recovery value under legal collection methods they truly can’t be sold for more than a few pennies to one of those “shark” companies that cheats on the law when it comes to those rules) we might have a situation where the government could try to shift it onto the taxpayer through opaque bailouts of Fannie, Freddie and The Fed.

But a good part of this debt was in fact securitized and distributed.  Those holders, such as the FHLB that recently filed suit, aren’t the government and have no reason to sit there and absorb a loss that occurred as a consequence of allegedly-fraudulent underwriting.  For that matter neither does Fannie and Freddie, as despite their “conservatorship” they remain a publicly traded corporation and intentionally absorbing losses caused by other party’s frauds could open their directors and officers up to a derivative action (read: lawsuits a-plenty.)

No folks, these losses won’t be “buried and monetized.”  They will travel back up the chain to the last remaining standing organization that touched them, which just happens to be the zombie banks, since all the “independent brokers” that fed the bilge into these securitization factories are long gone, dead and buried.  Thus the ticking bomb will wind up exploding on the balance sheets of those “too big to fix” institutions we refused to resolve last year because we lacked the political will to go in a close one or more of these banks, and when it happens….. it will rock our world.

You’ve had nearly three years warning Washington – and investors.

When – not if – this goes off I don’t want to hear “nobody saw it coming” from The Halls of Congress and elsewhere in DC because I will be happy to run a campaign advertisement against anyone who so bleats with a copy of my TICKERS from 2007 documenting that in fact some people did see it coming – and were intentionally ignored.

(The Supreme Court recently made such speech legal…. and for that I must extend my heartfelt thanks!)