Tuesday, January 3, 2012

Who's to blame for 2008 and why banks still don't get it?

I watched 60 Minutes a while back and they talked about how even though Sarbanes Oxley was in effect in 2008, no CFOs have yet to be prosecuted for signing off on false or incorrect information. It's kinda like folks have been complaining for  years that you shouldn't play with matches in the house, you still do, your house mysteriously burns down, but no one's to blame.  The problem, as the President put it, is that unfortunately most of the deeds that were done on Wall Street were not illegal. That's scary.  You can tank a global economy and not have done anything illegal.

Because of what happened, ie, a ton of crap mortgages were written, many large banks have found themselves in the position of holding mortgage portfolios worth billions on paper, but worth used toilet paper in real life. The really  crazy thing is, and maybe it's an attempt to placate their shareholders, the banks are willing to slowly let these mortgages continue to drag down their balance sheets for years or decades to come.  Here's an example:

Homeowner X has a mortgage worth $200,000.  The house is only worth $125,000. Homeowner X, for whatever reason, cannot pay the $200k mortgage.  The bank doesn't offer to really work with Homeowner X, and as a result he or she is foreclosed. The bank loses the $200k mortgage and its associated cashflow, and now has a house they have to sell for something, anything, to get some of their money back.  Until the house sells, if this is a responsible bank, they have to keep the grass cut and keep vandals and squatters out of the property. And every month they get more and more of these properties.  Best case, they sell the house for $125k and write off $75k loss.Homeowner X, who would have been willing and able to pay a mortgage based on $125k has his credit beaten. And every month banks are taking a nibble of the turd sandwich they helped make.

Here's what the banks should do:
First communicate with their shareholders that they have X billions in suspected mortgages that will likely not be repaid in full.  The choice is either to keep nibbling at them for the next 20 years, or bite the bullet turd write them all down over the next 6-12  months.  Then they go to Homeowner X and renegotiate his principal to $125k. And Homeowner X cannot refinance the mortgage for 10 years.Yeah, it sucks, but that's life. In addition, they make the deal that if in the next 20 years he/she or their estate sells the house for more than $125k they split the additional revenue 50/50 with the bank.  It gives the homeowner an incentive to still try to get the best price possible in a sale and the bank still has the potential to recoup some of what they've forgiven.  But the real beauty is that the bank gets the crap off its books, while still having upside potential, and Homeowner X doesn't get a credit rating of 142.

The problem is the banks are trying to have their cake and eat it too.   So long as they drag this out, it will continue to be dragged out.

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