Then I saw a column in the Financial Times headlined “Strange but True—the Credit Specs [Speculators] Are Back.”† The knowledgeable John Dizard reported:
Even after they’ve been reviled by talking heads and politicians from here to Ulan Bator, credit default swaps are still a very low-cost way of putting on speculative positions, as long as they still trade. And so, thanks to the Geithner Treasury’s policy of reform, rather than dissolution, CDS trading has regained a vampiric strength the real economy still lacks. (Emphasis mine)
I’m afraid I’m going to have to define a couple of financial terms in order to explain what Dizard found so surprising.
People who buy bonds normally insure them against default. The credit-default swap, CDS, or simply “swap,” that Dizard is surprised to see trading again is a special form of insurance.
An insurance company like AIG says to an investor, perhaps a pension fund, “You pay us $7,000 a month, and if you fail to receive the full interest on that mortgage-backed bond for, say two months, then we’ll buy the whole bond from you for the $200 million you paid for it.”
They couch it in those terms instead of writing a straight insurance policy because insurance is regulated. When AIG sells insurance, it’s required to put aside a small amount in reserve in case any of the hazards it insured against occur. But this is a private, custom-written agreement to “swap” a worthless bond for money in case of default.
The first thing bugging the columnist John Dizard is that the U.S. Treasury, under Timothy Geithner, decided to make good on these unregulated non-insurance policies even though AIG had been flouting insurance regulation. The costs of covering these swap obligations were potentially enormous because they involved most of the mortgages in the United States.
But here’s something even more shocking. You don’t have to own the mortgage bonds to buy the swap/insurance on them.
Any “investor” can go to AIG and say, “You know that Merrill asset-backed bond number 123456? I too will pay you $7,000 a month, and if the bond defaults, you’ll owe me $200 million also.”
It’s as if any number of people could buy life insurance on the same individual.
If our government was merely going to cover the policies on the original mortgage-backed securities, the maximum payout, though large, was at least calculable. If 80 percent of the mortgages in the United States have been securitized and if a quarter of them eventually default, that’s a vast but finite loss.
But any number of people could have bought swaps on the same bonds, related distantly to the same mortgages. So the swap payouts could be many times the value of the real houses. How many times reality will it eventually come to? Two times, ten times, a hundred times? We don’t know, because swap trading was (and still is) unregulated. There’s no derivatives exchange that, like a stock exchange, keeps track of transactions. (Regulation of this trade is still “pending.”)
Not only are swap losses potentially humongous, but the “investment” has nothing to do with anything in the real world. Neither party to these “me too” swaps owns, builds, or finances housing or anything else. Both parties are simply betting on whether a certain group of people will pay their mortgage bills. And, of course, a life insurance policy beneficiary with no relation to the individual insured has an interest in finding the sickest individuals and shortening the life span of those who linger too long. Some of these people were also in a position to create the most unhealthy mortgages and mortgage bonds.
It’s the ultimate example of Phil Angelides’s “money making money” or Russell Wynn’s “spinning stuff.” That’s why Dizard called it “vampiric.” It’s something dead feeding on the blood of the living economy.
And according to Dizard, speculators are actively trading these and other debt derivatives again. So my missing unemployed man isn’t just cleaning up old messes. He’s busy making new ones!
But why are rich people reviving this market and fighting any attempt to regulate it? Aren’t they scared of it too? Let me quote Dizard’s column once more:
The credit specs are back. After all, if the dictates of style and tax auditors say you have to go easy on conspicuous consumption, and if there’s no demand for the products of real capital spending, then you might as well take your cash to the track, or the corner credit default swap dealer. (Emphasis mine again)
“No demand for the products of real capital spending.” That means you can’t invest your money in a productive business because there aren’t enough buyers for the additional products or services they’d make. That doesn’t mean there isn’t enough need or desire. In economics “demand” means desire backed with money. There’s insufficient demand when people aren’t earning enough to buy back what they produce.
But in the absence of action in the real world, folks with money have to put it somewhere. The last time a big bookie, AIG, went broke, the U.S. Treasury decided to make good on all its uninsured, unregulated markers. So of course everyone is returning to the track on the assumption that it will do so again. By strengthening the assumption that there’s no real risk, the government is fostering what is called moral hazard.
The lawyer representing those Lehman Brothers traders wasn’t lying to me. The guys who lost jobs at one off-track betting parlor were immediately snapped up by another. My mysteriously missing unemployed man has been sitting at a trading desk all this time.
Way up on a high floor he’s still spinning old asset-backed securities, new securities made of bundles of the defaulted old bonds, swaps to insure them, bets on the swaps, and ever higher, more “derived” financial products.
Meanwhile, many levels of abstraction below, we can make out tiny houses with ant-sized people at the windows and barely visible “For Sale” signs on the lawns. Those are the “assets” these asset-backed securities are ultimately backed by. As we get closer, we can see that the ants are agitated. For though the highest-level lenders were relieved of their risks, the ground-level borrowers still owe as much as ever. In many cases it’s more than they can pay.
When I contacted people who faced recession-related home loss, I found that I could understand the mortgage crisis best by arranging their stories in order of their escalating difficulties. So we’ll start with someone who merely fell behind and work our way up (or down) to foreclosure and eviction.
* Most of the material in this section appeared first on Tom Engelhardt’s elegantly edited Web site TomDispatch.com.
† Financial Times, May 27, 2009.
II: OUR HOMES
Chapter Five
SHOW ME THE MORTGAGE
Buying Them Time
At the start of the Great Recession, I heard that you could stop an eviction by demanding to see the mortgage. The notion gained currency because of the way that mortgages passed from owner to owner until they were bundled by the tens or even hundreds of thousands into mortgage-backed securities. Some investors collected only the principal payments from these mortgages, others only the interest payments. So who holds the mortgages themselves?
According to instant urban lore, the original mortgages were often misfiled, physically lost, or impossible to tie to particular investors. So when they knock on the door to evict you, you say, “Howdy, Sheriff. I’m a law-abiding citizen, but I don’t think those people own this house. I’ll leave as soon as you show me the mortgage.”
I’d heard it from community organizers; I’d heard it from lawyers; I’d even heard a congresswoman instruct her constituents, on network television, to demand to see the mortgage when they come to take your house. I hadn’t heard of anyone who succeeded. As a matter of fact, I hadn’t located anyone who actually tried it. That remained true even after the robo-signing scandal of 2010 exposed the fact that clerks at mortgage companies signed hundreds of foreclosure papers a day without checking the original mortgage documents whose existence and terms they swore to. But way before that scandal I heard about a judge who seemed to be saying something similar to “show me
the mortgage” in his courtroom.
The housing bust was relatively mild in New York City, but from its beginning the Brooklyn judge Arthur M. Schack developed a reputation for standing up to banks and thwarting foreclosures. In his 2007 decision in Deutsche Bank National Trust Company v. Castellanos, he quoted George Bailey (Jimmy Stewart) confronting the evil banker Mr. Potter (Lionel Barrymore) of It’s a Wonderful Life:
Do you know how long it takes a workingman to save five thousand dollars? Just remember this, Mr. Potter, that this rabble you’re talking about … they do most of the working and paying and living and dying in this community. Well, is it too much to have them work and pay and live and die in a couple of decent rooms and a bath?
Schack had been a lawyer for the Baseball Players Association—“I represented millionaires against billionaires”—before he became a Kings County Supreme Court judge. At five feet five inches and two hundred pounds, he looked, on the bench, like one of those Russian stacking dolls. “The third or fourth doll in,” I thought as I followed behind him into his chambers.
By the time I met him in 2009, more than thirty of Judge Schack’s decisions were linked to on a Web site called the Home Equity Theft Reporter. So I was ready to hear some radical talk about reversing that theft. But the most Judge Schack would say to me about his judicial philosophy was “I try to buy the little guy some time.”
Here’s how he did that.
In Florida the legislature set up special “rocket docket” foreclosure courts, hiring retired judges to get through the backlog. At the time, courts in Fort Myers, Florida, were handling a thousand foreclosure actions a day. Most of them received as much judicial time as it took to apply a stamp or a signature where the bank needed it. (Fewer than half the states in the Union even require a judicial signature to foreclose. New York and Florida are among the states that do.)
When homeowners actually appeared in court, one Fort Myers judge permitted them to answer only two questions: “Are you living in the home?” “Are you current on your mortgage?”
Brooklyn’s housing caseload wasn’t nearly as high. Still, foreclosures accounted for about 30 percent of the Kings County Supreme Court’s docket. That didn’t stop the judge from applying an unusual procedure. When Judge Schack gets a foreclosure application, he betrays his bias toward the little guy by actually reading it. If it’s full of errors, he denies the foreclosure until the papers are cleaned up.
The chubby judge swiveled toward the teetering piles of documents on his windowsill and pulled out three examples while somehow leaving the stacks standing.
“This one …” He handed me papers on a ghetto walk-up that had been foreclosed. “But no one from the bank told the tenants, so the former landlord kept showing up for over a year to collect the rent.”
The most recent tenant had found her apartment on Craigslist, the judge told me. “She paid $3,000—one month’s rent and a month’s security—to a scam artist.” For the tenants’ sake, Judge Schack delayed clearing the building for ninety days.
The second case Judge Schack pulled out concerned a man named Jonas Earl who lived on a block of single-family houses near my old high school, James Madison in Flatbush. The neighborhood was now black and Russian and still solidly middle-middle class. In 2006, Earl had taken out a $375,000 loan against his house with Contour Mortgage Corporation, which sold his note to a loan company called Option One. (Hold on to that name.)
Option One passed Earl’s debt along to other financial institutions until it finally became part of the asset-backed certificate 2006-OPT4, managed by Deutsche Bank. But Judge Schack (remember, he actually reads these papers) noticed that the first transfer in the chain occurred a day before Earl signed for his loan. “Nonexistent mortgages and notes are incapable of assignment,” the judge said, throwing the case out “with prejudice.”
“Does that mean he gets to keep the house,” I asked, “and they’d just be out that cash?”
Judge Schack laughed, perhaps at the way I’d suddenly reversed sides at the idea of a real “little guy” walking away with 375,000 real dollars. But all the judge would say about his decision was “I bought him some time.”
“But what if Contour and Option One can’t find the correctly dated paperwork?” And I told him about the myth I still cherished: “The sheriff comes to Earl’s door, and he says, ‘Of course, sir, but first show me the note I signed.’ ”
“Like the silent movies,” the judge said, kidding me. “Perils of Pauline. The guy with the black mustache forecloses on the mortgage and ties her to the railroad track, but our hero comes along and …”
“Yes,” I had to admit. That’s what I’d hoped was going on in his courtroom.
Judge Schack had never heard of any case where they “lost” the mortgage. He explained that all mortgages are registered immediately by the block and lot. “Things may get messy as the debt passes from brokers to banks to investor trusts and back to the bank or some mortgage servicer to handle. Then you might sometimes find that bank X doesn’t own it but bank Y does. It can get murky, that’s the word you should use, ‘murky.’ But in New York you need a judge to approve a foreclosure, so they have to establish who owns it before the sheriff comes to your door.”
Judge Schack’s “little guy” decisions merely required that the banks establish things properly.
“Here’s a good one …” The final decision Schack showed me opened with a quotation from Gretchen Morgenson in the New York Times Sunday business section:
It’s dispiriting indeed to watch the United States financial system, supposedly the envy of the world, being taken to its knees. But that’s the show we’re watching, brought to you by somnambulant regulators, greedy bank executives and incompetent corporate directors.
Schack had extended Morgenson’s “show” metaphor in the foreclosure action against Susana Elsemeer:
The show we’re watching in this … action features a possible incestuous relationship between HSBC BANK USA, NATIONAL ASSOCIATION, AS INDENTURE TRUSTEE FOR THE REGISTERED NOTE HOLDERS OF RENAISSANCE HOME EQUITY LOAN TRUST 2006-4 (HSBC), Ocwen Loan Servicing (OCWEN), Delta Funding Corporation (DELTA) and Mortgage Electronic Registration Systems, Inc. (MERS) that might also include Goldman Sachs and Deutsche Bank.
Judge Schack noted in his decision that the address of the plaintiff, HSBC, is care of the large mortgage servicer Ocwen at 1661 Worthington Road, suite 100, in West Palm Beach, Florida, while the mortgage assignment was executed by one Scott Anderson, vice president of MERS, who gives his address as 1661 Worthington Road, suite 100. The judge, who not only reads the documents but remembers them, went on to cite previous foreclosure requests in which both Deutsche Bank and a Goldman Sachs real estate subsidiary were also said to be housed in the same suite 100. On one document Scott Anderson swore that he was HSBC’s servicing agent, and two days later he swore that he was a vice president of MERS.
“Did Mr. Anderson change his employer between June 13th and June 15th?” Judge Schack asked. “The Court is concerned that there may be fraud on the part of HSBC, or at least malfeasance.”
So before the Elsemeer foreclosure could go forward, Judge Schack demanded to see “an affidavit from Scott Anderson clarifying his employment history for the past three years … and an affidavit by an officer of HSBC explaining why HSBC purchased a nonperforming loan from Delta Funding Corporation, and why HSBC, OCWEN, MERS, Deutsche Bank and Goldman Sachs all share office space in Suite 100.”
In a general way, I could give him some of the answers myself. A mortgage servicer is delegated by the mortgage owner (which may be a bank or an investor group) to handle collections and other contacts with the homeowner. Ocwen may have serviced some mortgages for all the banks the decision mentions. So it might be convenient for them to use Ocwen’s address for certain mortgage-related dealings.
MERS is a private registry set up in 1995 by Fannie Mae, Freddie Mac, and other major lenders to keep track of mortgages as they change hands i
n the Grand Allamande of securitization. One of MERS’s primary functions is to thwart my show-me-the-mortgage scenario through careful record keeping. But as we learned in the fallout of the robo-signing scandal, some twenty thousand people like Ocwen’s Scott Anderson, at mortgage companies around the country, were allowed to log in to the MERS computerized mortgage registry and make changes. In the middle of a gold rush this procedure for registering claims invites error at the very least.
The mortgage of Susana Elsemeer of Decatur Street in Brooklyn may have passed through many of Scott Anderson’s “employers” on its way to being lumped with thousands of others into Renaissance Home Equity Loan Trust 2006-4. Every step from originating this mortgage to foreclosing may have been sloppy and deliberately obfuscated, but was it any more malfeasant than the rest of the U.S. mortgage system? Does the judge really believe there’s fraud afoot in suite 100?
“If you’re going to take away someone’s house,” says Judge Schack, “it better be legal and correct.”
He handed me a copy of the Elsemeer decision, but I couldn’t extract the human story from the legalese, so I peppered him with questions. “No,” he told me, he’d never gotten that employment history from Scott Anderson. “Yes,” any corrected foreclosure papers would have to come back to him if the company had tried to straighten it out. That made it likely that the matter had been settled out of court.
“So how did it end? Who got the house?”
When he shrugs, Judge Schack looks even more like one of those Russian dolls. But that was the only response he could make. All he can tell me about Susana Elsemeer and her co-defendant, Samuel Elsemeer, is “I bought them some time.”
“This Is My Tara”
I drove down the shopping street nearest the Elsemeer home looking for a supermarket, but all I saw were a couple of dismal food marts. A peeling three-story building with an empty storefront bore the sign “For Sale $1,000 Down, No Closing Cost.”
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