We Could Be Headed For A Put-Back Tsunami
When news broke that problems with the foreclosure process at several large banks broke, several Capitol Hill lawmakers began calling for a national moratorium on foreclosures. Although the Obama administration has refused to jump on this bandwagon, it’ s worth considering the likely consequences of a national freeze.
I decided to ask Andy Sandler, a partner at the law firm Buckley Sandler, which represents many of the big players in both the mortgage and banking industries. The firm has 110 lawyers, with 70 of them working on aspects of the mortgage crisis, ranging from put-backs to the foreclosure fiasco.
Before forming Buckley Sandler, Sandler led the financial services enforcement litigation practice at Skadden Arps and worked there for 22 years.
LL: Do you think there should be a national moratorium?
AS: A national moratorium would be the worst thing for the industry because it would further slow down the ability of the industry to work through this and move forward in terms of making credit available to borrowers.
There is a fundamental misperception in terms of what the issue is here. The issues by and large are technical issues about the validity of affidavits and whether the notarization process was proper. The fundamental underlying issue should be however — were the appropriate state law requirements followed before there was a foreclosure?
That real issue has been lost in all this discussion of "robo signing" and affidavits. While there will probably be mistakes made on individual loans as to whether they were legitimately the basis of the foreclosure, the facts are after my team and I have been reviewing hundreds and hundreds of these loans, the vast majority of borrowers who are being foreclosed on are in default and those foreclosures need to go forward.
The system needs to work through this to get the mortgage industry on a better footing. The moratorium is about delaying the inevitable.
LL: What needs to get done to get the mortgage industry back on the right track?
AS: What needs to get done is the procedural affidavits need to be delinked to the substantive issue: are these valid foreclosures?
LL: In addition to the foreclosure issue, you have the put-backs. But its a well known fact mortgage loans are notorisly known to have errors in them.
We're seeing Fannie and Freddie put-back some of these loans because of that. Is there a tsunami of put-backs forming?
AS: We could have a tsunami. The loan put-back issue is a mirror to what we are seeing with the foreclosure issue right now. Loans are sold based on reps and warranties. Sometimes there are technical difficulties in these reps and warranties. Sometimes there are substantive deficiencies.
Now these technical deficiencies are being used simply to redistribute the losses on these loans. And there is going to be significant litigation on this for a long period of time. For Fannie and Freddie specifically, these are disputes with their business partners. But this is not the market working it.
Fannie and Freddie are under enormous pressure from their government minders to do these put-backs. So in some sense, its the government seeking to recover from their support of Fannie and Freddie. This put-back issue really needs to be looked at in that specific light.
There is a lot of blame to go around on these loans. Fannie and Freddie and other secondary mortgage players knew what they were buying and the risks associated with it. Everyone in the chain was counting on two things: that interest rates would not go up, and that property values would not go down. Everyone gambled but lost.
LL: You have gone through hundreds of these foreclosure and put-back documents. What trends are you anticipating next?
AS: It is really difficult to predict which way this is going to go. The one thing I would say with some certainly is as this litigation progresses and when everybody starts to get access to the emails and documents on these loans, it will be clear that those who are suing understood what they were getting.
These were sophisticated financial players and everybody knew what a "no documentation loan" meant in terms of risks. We'll see numerous governmental investigations. Some criminal in nature.
LL: Everytime there is a crisis, we hear about the need for more regulation. We have regulation in place. Shouldn't there be a discussion of better regulation versus more regulation that's not enforced?
AS: There are plenty of rules that were in place that were not properly enforced. To say we need all these new rules and regulatory agencies is just wrong. The government and regulators, the entities that made the loans, the entities that bought the loans and the borrowers who signed those loans are all to be blamed.
We need to focus on tomorrow's issues which will be the lack of credit availability. We do not need more regulations. We can't spend our time looking back at yesterday's problems. We need to anticipate what's next.
LL: How quickly will it be until the credit system is impacted?
AS: Its hitting right now and its disproportionately hitting moderate income minority borrowers. This is the issue we need to focus on. What you are seeing is a retreat of lenders to the plain vanilla loan product which is the safest loan product that nobody could in the future raise questions about. The whole consumer credit system is frozen except those who are absolutely the best qualified.
LL: How much of this new credit crunch reminds you of the last one?
AS: To quote the great Yogi Berra, "Déjà vu all over again". We did exactly the same thing the last time. We focused so much energy on old rules and regulations to deal with the last crisis that the recovery took a lot longer and the cost of providing credit significantly increased.
LL: Will this credit crunch be harder to fix?
AS: We have to get through the process of determining what borrowers can afford their homes and those who should stay in their houses and which borrowers can not afford to be homeowners and get them out of those homes, so we can get a new generation of borrowers in that can afford those houses.
With a temporary freeze or a moratorium we prolong the agony as opposed to fundamentally addressing the problem.
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A Senior Talent Producer at CNBC, and author of "Thriving in the New Economy:Lessons from Today's Top Business Minds."