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Does the Government Have Authority in Private Label Mortgage Securities?

Today the FHFA, overseer of Fannie Mae and Freddie Mac, made an unprecedented move, issuing 64 subpoenas to "various entities,"seeking information on private-label mortgage-backed securities in which the two invested, specifically "the contents of loan files, which include documents used in the underwriting process, such as loan applications and property appraisals."

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Plain and simple, they're looking for fraud, or "contractual violations or other breaches...leading to losses for the Enterprises and thus the taxpayers."

It goes on to say that if they find said violations, they will "make decisions regarding appropriate actions."

Obviously the appropriate actions would be to make the PLS issuers buy back the pools.

This is all part of a multi-tiered mess of mortgage losses that every level of the chain is trying to force on the next level below. Fannie and Freddie have had to buy back bad loans that they sold off, and in turn they've tried to make the big banks buy back bad loans they sold to Fannie and Freddie, and in turn the big banks are trying to make the small loan originators buy back bad loans that they sold to the big banks, and in turn investors in securities that the big banks pooled and sold off are trying to get information on bad loans they bought, so they can send them back to the banks, and so on and so on and so on.

What's so interesting about this move is that some claim the FHFA may not have the right to issue these subpoenas and demand confidential information from a private transaction.

This is quite possibly a new and novel use of power under the Housing and Economic Recovery Act of 2008. Why? Because the bulk of these PLS's were purchased by the Government-sponsored enterprise's when the GSE's were not government entities.

Yes, now they're bankrupt, and yes, now they're government-owned, but that doesn't change the securities law. Experts tell me that within the pooling and servicing agreements that govern private label securities, this information the FHFA is seeking is not allowed to go to investors.

"I think a number of the institutions that are being subpoenaed will seriously question whether or not FHFA has the legal authority under HERA, under the statute, to subpoena these documents, and if they do have that authority, whether that authority was intended by Congress or ultimately constitutional," said Tom Deutsche, Executive Director of the American Securitization Forum.

According to the FHFA release

, it has the authority under HERA that "provides that the Conservator may issue subpoenas to carry out its duties." Interesting though, a bit further down in its Q and A section, one of the questions is, "What if a subpoenaed company refuses to provide information in response to its subpoena?" The answer is not so clear-cut. It says, "The Conservator will consider its legal options."

Those legal options will be a big question; I'm no legal expert here, but some experts I talked to say this could violate the commerce clause by interfering with private contracts.

Still other experts tell me these loans fall under regulation Z of the Truth in Lending Actwhere the mortgage application falls under Federal jurisdiction.

All very unclear.

But then you have to ask, what about other investors like Pimco, Blackrock, any number of hedge funds and pension funds, which invested in private label mortgage securities alongside Fannie and Freddie during the housing boom and would love to get their hands on the same type of information? Why is it that Fannie and Freddie, just because they went bankrupt and had to be taken over by the government, suddenly get this new authority when the transactions, private transactions, occurred before the Conservatorship?

I'm guessing a lot of securities lawyers are about to make a whole lot of overtime.

Questions? Comments? RealtyCheck@cnbc.com