About Me 0115: foreclosure auctions

Back in the 1980s, a colleague was getting a doctorate at Harvard Business School and had to take a seminar in statistical methods. Each participant was assigned a paper and was required to present to the class a critique of the statistical approaches employed.

The paper he was given was a dissertation that had caused a bit of chatter in financial economics circles. The author had used prices at which the Fed bought and sold Treasuries in its daily open market operations, and had used them to analyze the results the Treasury achieved in its periodic bond auctions. The paper concluded that the Treasury was doing a bad job, the prices it was getting at its auctions were far worse than those recorded by the Fed in its daily market operations.

When it came time for his session, my colleague stood before the class, gave a brief outline of the paper’s argument and approach, and said, “I have only one comment. Typical Fed daily market operation purchases and sales are in the millions of dollars. Treasury bond actions are in the billions. The data in this paper is irrelevant to the question it purports to analyze.” He then sat down.

He got an A for the course. And he went on to become a business school professor.

An analysis posted by the law firm, SNR Denton, “Commentary on Transfers of Mortgage Loans to RMBS Securitization Trusts,’ makes a conceptual error similar to that of the paper my colleague thrashed. It makes a very long and impressive sounding rebuttal of the line of argument made with increasing success by attorneys in court, and recapped on this blog: that the parties to the mortgage securitization failed to take the steps required to convey the borrower promissory notes and related liens (technically, the mortgage or in some states, the deed of trust) to the the securitzation entity, a trust. But as we will show, the arguments made in the article are simply irrelevant.

And unlike the graduate student who performed the misguided Fed/Treasury analysis, SNR Denton clearly knows better. SNR Denton is effectively the successor to Thatcher, Proffitt & Wood. Thatcher Proffitt was a leader, arguably the leader, in devising the legal structures and documents for mortgage securitizations.

Let’s start from the top of the article, since the efforts to misdirect start there:

There is a tremendous amount of public commentary these days about possible defects in foreclosure proceedings commenced by loan servicers.

Notice how the problem is framed as relating to “public commentary.” There is no acknowledgment of the fact that many judges have dismissed foreclosures because the party attempting to foreclose was unable to prove it had standing, or that the servicers themselves have admitted to problems (albeit of a type they are trying to pass off as merely procedural, that of the use of improper affidavits). In fact, there are problems with foreclosures that have been surfacing in courts all over the US, to the point where the media has taken notice and the servicers have had to take action to address a particular type of abuse. But according to SNR Denton, this problem is merely one of perception.

After a few words about affidavits, we get to this:

Within this overall dialogue, however, more fundamental issues have been raised challenging both the validity of the procedures used to convey mortgage loans into securitization trusts and the qualification of the securitization trusts as a real estate mortgage investment conduit (“REMIC”) at the time those trusts were formed. These statements are false and misguided.

The reasoning behind these statements appears to be as follows: (i) in order to satisfy procedural requirements in connection with foreclosure, certain steps may need to be taken in order to document the ownership of a mortgage loan by the securitization trust, and (ii) since not all of these steps were taken at the time of the securitization, the securitization trust must not own the mortgage loan. This reasoning is faulty, because some of the steps that may be required under applicable state law in order to bring a foreclosure action are not required to transfer ownership of the mortgage loan.

The purpose of this article is to refute these challenges to the efficacy of mortgage loan transfers to securitization trusts. Simply stated, the industry standard procedures used for decades in transferring mortgage loans to securitization vehicles comply with the well-settled principles of law governing the transfer of mortgage loans, and therefore are effective to transfer ownership of the mortgage loans.

Yves here. Accusations like “false” and “misguided” imply that what follows is gospel truth, or at least defensible. Yet instead what SNR Denton provides is a series of arguments that are at best narrowly accurate but irrelevant. One can only conclude the intent of the article is to mislead.

The article never directly recites the argument made here, which is that there is substantial evidence that in many cases, the notes were not conveyed to the trust as stipulated. As we have discussed, the pooling and servicing agreement, which governs who does what when in a mortgage securitization, requires the note (the borrower IOU) to be endorsed (just like a check, signed by one party over to the next), showing the full chain of title. The minimum conveyance chain in recent vintage transactions is A (originator) => B (sponsor) => C (depositor) => D (trust).

The proper conveyance of the note is crucial, since the mortgage, which is the lien, is a mere accessory to the note and can be enforced only by the proper note holder (the legalese is “real party of interest”). The investors in the mortgage securitization relied upon certifications by the trustee for the trust at and post closing that the trust did indeed have the assets that the investors were told it possessed.

Effectively, what the article endeavors to do is focus attention on aspects of the law that might be helpful to the securitization industry but are not germane. For instance, relies upon “general custom and practice in the sale of mortgage loans” and the UCC, which is the Uniform Commercial Code (which has been enacted in all 50 states, with relatively few state-level idiosyncrasies).

But rub comes not from the legal considerations surrounding note/mortgage conveyance, but the particular stipulations of the pooling and servicing agreement, which all the parties agreed to. And it is also clear that the provisions of the PSA trump the UCC.

Article 1 of the UCC allows the parties to an agreement to vary the terms (Ie deviate from the UCC) by agreement. The key points of the germane section:

1-302 Variation by Agreement

(a) The effect of provisions of this Chapter may be varied by agreement.

(b) Good faith, diligence and reasonableness are the only terms that may not be changed by agreement.

(c) The presence of the words “unless otherwise agreed” does not imply that other provisions of this Chapter may not be varied by an agreement of the parties.

That means the UCC governs only with respect to issues not varied by agreement in the PSA.

Section 2 of the PSA stipulates provisions that deviate from the UCC. Typical provisions:

Section 2.01. Conveyance of Mortgage Loans.

Each seller hereby:

Sells, transfers, assigns, sets over and otherwise conveys to the depositor, without recourse, all the right, title and interest of such seller in and to the applicable mortgage loans.

The sales shall be as provided in this agreement.

Delivery shall be on or before the applicable cut-off date

The documents shall be delivered to the Master Servicer before the cut-off date

The Master Servicer confirms that all sellers have made such transfers and deposits before the cut-off date¡

Sellers by such deposits have conveyed to the Trustee for benefit of Certificate Holders all right, title and interest in and to the mortgage loans

The PSA also very clearly provided for an unbroken chain of assignments and transfers thought the parties (the A-B-C-D or more cited above). The use of intermediary parties between the originator and the trust, with a “true sale” occurring at each step, was intended to create FDIC and bankruptcy remoteness. The investors (who are called the certificate holders in the PSA) did not want a creditor of a bankrupt originator to be able to seize notes back out of the trust.

Some PSAs allowed for each party to endorse in blank, but the note still had to have endorsements by all the parties in the conveyance chain, while others stipulated that each endorsement had to be to the next party in the chain. However per NY trust law (and New York law was chosen in the vast majority of cases to govern the trust), the final endorsement had to be to the trust, not in blank.

The “unless otherwise agreed” language in Article 1 means you cannot rely on perfection solely by the UCC. It also means possession of the original note does not prove either ownership or perfection.

Now are any of these issues addressed in the SNR Denton article? Not really. The PSA is mentioned only in passing; the article weight heavily on the UCC. This part comes closest is under a section that discusses “general custom and practice in the sale of mortgage loans.” This is a backwards acknowledgment of what we and other have described: that in 2004, perhaps earlier, the securitization industry started ignoring the requirements of the PSA and would effect the transfers through the A-B-C-D parties via e-mailing lists of loan numbers (which were verified at each step) and wire transfers. SNR Denton is effectively arguing by invoking “general custom and practice” that we all should accept how then industry did things, you can make a legal case for it, as long as you ignore the sections of the PSA which govern what was supposed to happen.

Here are the sections of the SNR Denton piece that come closest to addressing the matters at hand:

In a private label RMBS transaction, the relevant contractual agreement is typically a pooling and servicing agreement, which conveys the mortgage loans from the depositor to the trustee on behalf of the securitization trust. Another relevant document could include a separate mortgage loan purchase agreement, under which the mortgage loans are sold by the sponsor to the depositor immediately prior to the sale from the depositor to the trust, with representations and warranties that are assigned to the trustee. These documents contain clear granting language that conveys ownership of all of the seller’s “right, title and interest in and to” the mortgage loans to the trustee on behalf of the securitization trust. There is a schedule or exhibit to these documents that specificly identifies each loan sold under the agreement.

Note that none of this acknowledges the requirement of the PSA that the note be endorsed to show the full chain of conveyance. Also observe the emphasis on ” These documents contain clear granting language that conveys ownership…”. The documents cannot alone convey ownership; the stipulated steps also have to be completed. The article does acknowledge the importance of delivery of the note in the following section, but again fails to address the PSA issues:

Physical delivery of the mortgage note to the purchaser or its agent, together with an endorsement of the note by the seller in blank, are also key components in the sale of mortgage loans for several reasons.

As we indicated, many PSAs required specific endorsement (to a particular party), not in blank, so this is inaccurate (except as far as describing “general custom”). The article repeats its assertion about endorsements in blank (note the section we boldfaced):

Notes may be delivered to the purchaser with an endorsement in blank. It is common for a mortgage note for a mortgage loan that has been sold to have stamped on it an endorsement to the effect of “Pay to the order of _____________, without recourse”, signed by the originator or a subsequent purchaser. Such an endorsement has the effect that any subsequent transfer of the note presumptively only requires physical delivery (i.e., with no additional endorsement). Therefore, where there are successive purchasers to a note, the endorsement in blank by any prior holder is a sufficient endorsement for purposes of the most recent purchaser.

As we indicated, that’s rubbish. The boldfaced language falsely claims that if the note was endorsed by A in the prototypical A-B-C-D chain we set forth earlier, then D could rely simply on the endorsement by A. In fact, the PSA required the full chain of endorsement and also required the depositor (the C party) endorse the note to the trustee (it is New York trust law requirements, not specified in the PSA, which would call for the final endorsement to be to the specific trust, not just the trustee).

Some other assertions are matter of fact, not law, and SNR Denton appears not to be on top of the facts:

In private label RMBS transactions, the prevailing and nearly universally-followed practice has been for the endorsed notes to be physically delivered to the trustee, or to a custodian as the trustee’s agent, at the closing of the securitization.

First, we’ve had industry executives of large “private label”, meaning non-Fannie/Freddie originators say the notes were never conveyed from the originator, and not simply for their bank, but across the industry. It appears they were conveyed only when someone needed to foreclose, which was well after the closing of the trust.

Second, there is ample evidence in court across the country of out of time assignments. of the note and the related lien being assigned to the trust shortly before a foreclosure action was commenced, in some cased, even afterwards, so again well after the closing of trust.

If you parse the piece carefully, its contentions hinge on these arguments, which in turn hinge on ignoring key provisions of the PSA and not integrating New York trust law considerations.

It ends on a indignant tone, and amusingly, resorts to the new preferred bankster line, “loose lips will tank the markets”:

We believe that the recent allegations of possible wholesale failures to convey ownership of mortgage loans to private label RMBS trusts are baseless and unfounded. All parties to these transactions, including issuers, underwriters, trustees and investors, clearly intended that the transactions convey ownership of the loans to the trusts, and appropriate steps were taken to effect such conveyance in accordance with well-settled legal principles governing transfers of mortgage loans. Any attempts to assert otherwise today are inaccurate and uninformed, and, if left to stand unchallenged, could cause substantial and unwarranted harm to the economy.

These arguments are “baseless and unfounded” only if you do readings of the law intended to favor your clients and ignore ample evidence in past and present court cases. If SNR Denton doesn’t like what it is reading on this blog, I suggest it take up the matter with the judges who are looking at the evidence and the terms of the PSA and are in a fair number of cases ruling against the servicers and trusts for having failed to prove their standing to foreclose.

To put it another way, if this is the best defense a leading law firm in the securitization industry can mount, it shows they have a weak case.

The Huffington Post Investigative Fund website (the first I’ve heard of it) has a lengthy article on a new way that big banks are driving foreclosures. Apparently local governments do not have the resources to pursue property tax collection themselves so they bundle up past due liens and sell them off to investors that can then collect or foreclose. I hadn’t heard of this practice but the article makes it sound like it has been long standing. What it says is new in the arena is the activity of major banks and hedge funds that buy the debts and then tack on massive “legal fees.”

For example:

In May, the Investigative Fund reported how an unemployed former mental health counselor with four children named Vicki Valentine lost her home even though the mortgage had been paid in full. She had owed $362 on an overdue water bill when investors took over and added thousands of dollars in legal fees she couldn’t afford…

D.C. Attorney General Nickles criticizes Aeon Financial, LLC, a bank-financed investment group from Chicago that buys tax liens in some 10 states. Nickles asserts that Aeon has slammed homeowners, who sometimes owed just a few hundred dollars in back taxes, with $7,000 or more in legal fees.

This is in addition to upwards of 18% interest. When people can’t pay then the homes are taken to foreclosure. What is particularly egregious about this process is that everything is done through front companies that are sometimes not even registered in the country. Not even the governments know who they are dealing with:

Banks and hedge funds usually buy the liens through online auctions that permit them to bid in bulk, and they can use any name they want.

The giant Bank of America, for instance, has bid in Florida tax lien sales using colorful names such as Bennu, LLC, named after a mythical bird said to be the soul of the ancient Egyptian sun god. It also has bid as Osprey, LLC, and Ecru, LLC, named after the French word for a pale brown color…

Tax collectors in Florida don’t always know who they’re doing business with, either. Officials in Pinellas County want to know who exactly is behind a company called GL Funding Limited. Sales records show that GL Funding spent more than $10 million and dominated the tax sale in at least 10 Florida counties, most of them rural or smaller cities where interest rates tended to be much higher than in urban and resort areas.

GL Funding registered with several Florida tax collectors as a company with offices in the Cayman Islands. But other counties list a post office box in Philadelphia as its address. The person who registered GL Funding in Pinellas County’s tax sale provided Pinellas with a telephone number in Dallas, Tex. At that number, a man named Jess Weir declined to tell the Investigative Fund who is investing through the name GL Funding.

Said Sam McClelland, deputy tax collector in Pinellas County, Fla., where GL Funding acquired hundreds of liens earlier this year: “We’re still trying to sort this out.”

Yes, banks that are backed explicitly and implicitly by hundreds of billions of dollars from the government each year are tacking on thousands of dollars of fees and then foreclosing on people that owed a few hundred bucks…from the shadows. Ecru, indeed.

Friday, November 19, 2010

foreclosure auctions

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