DEPOSITION of A “REAL” VICE PRESIDENT of MERS WILLIAM “BILL” HULTMAN

From: b.daviesmd6605

Bill joined MERS in February, 1998. He brings more than 14 years of broad experience in finance and treasury. Before joining MERS, he served as Director of Asset Liability Management for Barnett Banks, Inc., Asset Liability Manager at Marine Midland Bank and Treasurer of Empire of America FSB. As a conservator for the FDIC, he managed insolvent institutions for the Resolution Trust Corporation.
Prior to his experience in the financial services industry, Bill was a partner in the law firm of Moot and Sprague, as well as an attorney at Forest Oil Corporation, specializing in the areas of securities and corporate law.

SEC KNEW ABOUT SUBPRIME ACCOUNTING FRAUD A DECADE AGO

by Elizabeth MacDonald FoxBusiness

The Securities and Exchange  Commission is missing a bigger fraud while it chases the banks. Even though it knew about this massive, plain old fashioned accounting fraud back in 1998.
Instead, the market cops are probing simpler disclosure cases that could charge bank and Wall Street with not telling investors about their conflicts of interest in selling securities they knew were damaged while making bets against those same securities behind the scenes, via credit default swaps.
Those probes have gotten headlines, but there aren’t too many signs that this will lead to anything close to massive settlements or fines.

For instance, the SEC doesn’t appear to be investigating how banks frontloaded their profits via channel stuffing — securitizing loans and shoving paper securitizations onto investors, while booking those revenues immediately, even though the mortgage payments underlying those paper daisy chains were coming in the door years, even decades, later. Those moves helped lead to $2.4 trillion in writedowns worldwide.
The agency said it  believed banks were committing subprime securitization accounting frauds back in 1998 and claimed to be ‘probing’ them.
I had written about these SEC probes into potential frauds while covering corporate accounting abuses at The Wall Street Journal. The rules essentially let banks frontload into their revenue the sale of subprime mortgages or other loans that they then packaged and sold off as securities, even though the payments on those underlying loans were coming in the door over the next seven, 10, 20, or 30 years.
Estimating those revenues based on the value of future mortgage payments involved plenty of guesswork.

Securitization: Free Market Became a Free For All
The total amount of overall mortgage-backed securities generated by Wall Street virtually tripled between 1996 and 2007, to $7.3 trillion. Subprime mortgage securitizations increased from 54% in 2001, to 75% in 2006. Back in 1998, the SEC had warned a dozen top accounting firms that they must do a  better job policing how subprime lenders book profits from loans that are repackaged as securities and sold on the secondary market. The SEC “is becoming increasingly concerned” over the way lenders use what are called “gain on sale” accounting rules when they securitize these loans, Jane B. Adams, the SEC’s deputy chief accountant, said in a letter sent to the Financial Accounting Standards Board, the nation’s chief accounting rule makers.
At that time, subprime lenders had come under fire from consumer groups and Congress, who said banks were using aggressive accounting to frontload profits from securitizing subprime loans. Subprime auto lender Mercury Finance collapsed after a spectacular accounting fraud and shareholder suits, New Century Financial was tanking as well for the same reason.

SEC Knew About Subprime Fraud More than a Decade Ago
The SEC more than a decade ago believed that subprime lenders were abusing the accounting rules.
When lenders repackage consumer loans as asset-backed securities, they must book the fair value of profits or losses from the deals. But regulators said lenders were overvaluing the loan assets they kept on their books in order to inflate current profits. Others delayed booking assets in order to increase future earnings. Lenders were also using poor default and prepayment rate assumptions to overestimate the fair value of their securitizations.
Counting future revenue was perfectly legal under too lax rules.
But without it many lenders that are in an objective sense doing quite well would look as if they were headed for bankruptcy.
At that time, the SEC’s eyebrows were raised when Dan Phillips, chief executive officer of FirstPlus Financial Group, a Dallas subprime home equity lenders, had said the poor accounting actually levitated profits at lenders.
“The reality is that companies like us wouldn’t be here without gain on sale,” he said, adding, “a lot of people abuse it.”
But this much larger accounting trick, one that has exacerbated the ties that blind between company and auditor, is more difficult to nail down because it involves wading through a lot of math, a calculus that Wall Street stretched it until it snapped.

Impenetrably Absurd Accounting
These were the most idiotic accounting rules known to man, rules manufactured by a quiescent Financial Accounting Standards Board [FASB] that let bank executives make up profits out of thin air.
It resulted in a folie à deux between Wall Street and complicit accounting firms that swallowed whole guesstimates pulled out of the atmosphere.
Their accounting gamesmanship set alight the most massive off-balance sheet bubble of all, a rule that helped tear the stock market off its moorings.
The rules helped five Wall Street firms – Bear Stearns, Lehman Bros., Morgan Stanley, Goldman Sachs and Merrill Lynch – earn an estimated $312 billion based on fictitious profits during the bubble years.

Who Used the Rule?
Banks and investment firms including Citigroup, Bank of America and Merrill all used this “legit” rule.
Countrywide Financial made widespread use of this accounting chicanery (see below). So did Washington Mutual. So did IndyMac Bancorp. So did FirstPlus Financial Group, and as noted Mercury Finance Co. and New Century Financial Corp.
Brought to the cliff’s edge, these banks were either bailed out, taken over or went through bankruptcies.
Many banks sold those securitized loans to Enron-style off-balance sheet trusts, otherwise called “structured investment vehicles” (SIVs), again booking profits immediately (Citigroup invented the SIV in 1988).
So, presto-change-o, banks got to dump loans off their books, making their leverage ratios look a whole lot nicer, so in turn they could borrow more.
At the same time, the banks got to record immediate profits, even though those no-income, no-doc loans supporting those paper securities and paper gains were bellyflopping right and left.
The writedowns were then buried in obscure line items called “impairment charges,” and were then masked by new profits from issuing new loans or by refinancings.

Rulemakers Fight Back
The FASB has been fighting to restrict this and other types of accounting games, but the banks have been battling back with an army of lobbyists.
The FASB, which sets the rules for publicly traded companies, is still trying to hang tough and is trying to force all sorts of off-balance sheet borrowings back onto bank balance sheets.
But these “gain on sale” rules, along with the “fair value” or what are called “marked to market” rules, have either been watered down or have enough loopholes in them, escape hatches that were written into the rules by the accountants themselves, so that auditors can make a clean get away.
As the market turned down, banks got the FASB to back down on mark-to-market accounting, which had forced them to more immediately value these assets and take quarterly profit hits if those assets soured – even though they were booking immediate profits from this “gain on sale” rule on the way up.
Also, the FASB has clung fast to the Puritanism of their rulemaking by arguing a sale is a sale is a sale, so companies can immediately book the entire value of a sale of a loan turned into a bond, even though the cash from the underlying mortgage has yet to come in the door.

Old-Fashioned ‘Channel Stuffing’
This sanctioned “gain on sale” accounting is really old-fashioned “channel stuffing.”
The move lets companies pad their revenue and profit numbers by stuffing lots of goods and inventory (mortgages and subprime securities) into the system without actually getting the money in the door, and booking those channel-stuffed goods as actual sales in order to cook ever higher their earnings.
Sort of like what Sunbeam did with its barbecue grills in the ’90s.

Intergalactic Bank Justice League
Cleaning up the accounting rules is an easier fix instead of a new, belabored, top-heavy “Systemic Risk Council” of the heads of federal financial regulatory agencies, as Sen. Chris Dodd (D-Conn) envisions in financial regulatory reform.
An intergalactic Marvel Justice League of bank regulators can do nothing in the face of chicanery allowed in the rules.

Planes on a Tarmac
What happened was, banks and investment firms like Citigroup and Merrill Lynch who couldn’t sell these subprime bonds, or “collateralized debt obligations,” as well as other loan assets into these SIVs got caught out when the markets turned, stuck with this junk on their balance sheets like planes on a tarmac in a blizzard.
Bank of America saw its fourth-quarter 2007 profits plunge 95% largely due to SIV investments. SunTrust Banks’ earnings were nearly wiped out, a 98% drop in the same quarter, because of its SIVs.
Great Britain’s Northern Rock ran into huge problems in 2007 stemming from SIVs, and was later nationalized by the British government in February 2008.
Even the mortgage lending arm of tax preparer H&R Block used the move. Block sold its loans to off-balance-sheet vehicles so it could book gains about a month earlier than it otherwise would. Weee!
The company had $75 million of these items on its books at the end of its fiscal 2003 year. All totally within the rules.

Leverage Culture
The rampant fakery helped fuel a leverage culture that got a lot of homes put in hock.
Banks, for instance, started advertising home equity loans as “equity access,” or ways to “Live Richly” or as Fleet Bank once touted, “The smartest place to borrow? Your place.”
In fact, Washington Mutual and IndyMac got so excited by the gain on sale rules, they went so far as to count in profits futuristic gains even if they had only an “interest rate” commitment from a borrower, and not a final mortgage loan.
Talk about counting chickens before they hatch.

Closer Look at Wamu
Look at Wamu’s profits in just one year during the runup to the bubble. Such gains more than tripled in 2001 at Wamu, to just shy of $1 billion, or 22% of its pretax earnings before extraordinary items, up from $262 million, or 9%, in 2000.
But in 2001, Washington Mutual took $1.7 billion in charges, $1.1 billion of it in the final, fourth quarter, to reflect bleaker prospects for the revenue stream of all those servicing rights.
It papered over the hit with a nearly identical $1.8 billion gain on securitizations and portfolio sales.

Closer Look at Countrywide
The accounting fakery let Countrywide Financial Corp., the mortgage issuer now owned by Bank of America, triple its profit in 2003 to $2.4 billion on $8.5 billion in revenue.
At the height of the bubble, Countrywide booked $6.1 billion in gains from the sale of loans and securities. But this wasn’t cold, hard cash. No, this was potential future profits from servicing mortgage portfolios, meaning collecting monthly payments and late penalties.

Basel II Overview: Basel II framework that sets capital requirements for banks.

Basel II Summary – What is Important to Know About the Basel II Framework By George J Lekatis

What is Basel II? Who is behind it? Who has developed it? Is it an international law? Do we have to comply? Who has to comply? May I have a Basel II Summary? These are very important questions, and it is good to start from their answers.

The Basel II Framework (the official name is “International Convergence of Capital Measurement and Capital Standards: a Revised Framework”) is a new set of international standards and best practices that define the minimum capital requirements for internationally active banks. Banks have to maintain a minimum level of capital, to ensure that they can meet their obligations, they can cover unexpected losses, and can promote public confidence (which is of paramount importance for the international banking system).

Banks like to invest their money, not keep them for future risks. Regulatory capital (the minimum capital required) is an obligation. A low level of capital is a threat for the banking system itself: Banks may fail, depositors may lose their money, or they may not trust banks any more. This framework establishes an international minimum standard.

Basel II will be applied on a consolidated basis (combining the bank’s activities in the home country and in the host countries).

The framework has been developed by the Basel Committee on Banking Supervision (BCBS), which is a committee in the Bank for International Settlements (BIS), the world’s oldest international financial organization (established on 17 May 1930).

The Basel Committee on Banking Supervision was established by the G10 (Group of Ten countries) in 1974. These 10 countries (have become 11) are the rich and developed countries: Belgium, Canada, France, Germany, Italy, Japan, the Netherlands, Sweden, Switzerland, the United Kingdom and the United States.

The G10 were behind the development of the previous (Basel i) framework, and now they have endorsed the new Basel II set of papers (the main paper and the many explanatory papers). Only banks in the G10 countries have to implement the framework, but more than 100 countries have volunteered to adopt these principles, or to take these principles into account, and use them as the basis for their national rulemaking process.

Basel i was not risk sensitive. All loans given to corporate borrowers were subject to the same capital requirement, without taking into account the ability of the counterparties to repay. We ignored the credit rating, the credit history, the risk management and the corporate governance structure of all corporate borrowers. They were all the same: Private corporations.

Basel II is much more risk sensitive, as it is aligning capital requirements to the risks of loss. Better risk management in a bank means that the bank may be able to allocate less regulatory capital.

In Basel II we have three Pillars:

Pillar 1 has to do with the calculation of the minimum capital requirements. There are different approaches:

The standardized approach to credit risk: Banks rely on external measures of credit risk (like the credit rating agencies) to assess the credit quality of their borrowers.

The Internal Ratings-Based (IRB) approaches too credit risk: Banks rely partly or fully on their own measures of a counterparty’s credit risk, and determine their capital requirements using internal models.

Banks have to allocate capital to cover the Operational Risk (risk of loss because of errors, fraud, disruption of IT systems, external events, litigation etc.). This can be a difficult exercise.

The Basic Indicator Approach links the capital charge to the gross income of the bank. In the Standardized Approach, we split the bank into 7 business lines, and we have 7 different capital allocations, one per business line. The Advanced Measurement Approaches are based on internal models and years of loss experience.

Pillar 2 covers the Supervisory Review Process. It describes the principles for effective supervision.

Supervisors have the obligation to evaluate the activities, corporate governance, risk management and risk profiles of banks to determine whether they have to change or to allocate more capital for their risks (called Pillar 2 capital).

Pillar 3 covers transparency and the obligation of banks to disclose meaningful information to all stakeholders. Clients and shareholders should have a sufficient understanding of the activities of banks, and the way they manage their risks.

Here is a simple video to follow: By bionicturtledotcom

Quick overview of Basel II framework that sets capital requirements for banks. Three pillars contains the rules & support (supervisor review, market discipline) that say how much eligible regulatory capital must be held against risk-weighted assets.

Bank Investigations Cheat Sheet: ProPublica

by Marian Wang, ProPublica – May 13, 2010

Here’s our attempt to lay out exactly what’s known about which banks are being investigated by whom and for what. We’re going to keep updating this page, so please send usstories or details we’ve missed. Related: Covering the Bank Investigations: A Cautionary Tale

  What has been reported What the bank has said
 
Citigroup
Citing “a person familiar with the matter,” The Wall Street Journal has reported that Citigroup is under “early-stage criminal scrutiny” by the Department of Justice. Also citing unnamed sources, Fox Business reported on May 12 that the SEC has an active civil investigation into Citigroup and has subpoenaed the firm, but has not issued any Wells notices. A report on May 12th by the Journal cited unnamed sources saying that the Department of Justice is scrutinizing a few CDO deals that Morgan Stanley bet against–but which were underwritten by Citigroup and UBS. Neither the SEC nor the Justice Department have confirmed these reports.

Citing two anonymous sources, The New York Times has reported that New York Attorney General Andrew Cuomo is investigating eight banks to determine whether they misled rating agencies in order to get higher ratings for their mortgage-related products; Citigroup has been named as one of the banks. Subpoenas were issued on May 12, according to the Times and the Dow Jones Newswires, both of which relied on anonymous sourcing for their reports.

Citigroup has declined to comment to us and other outlets.

Credit Agricole
Credit Agricole has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating separately. Credit Agricole did not immediately respond to the Times’ request for comment and has not yet responded to ours.

Credit Suisse
Credit Suisse has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating. Credit Suisse declined to comment to the Times about the New York attorney general’s investigation.

Deutsche Bank
Citing “a person familiar with the matter,” The Wall Street Journal has reported that Deutsche Bank is under “early-stage criminal scrutiny” by the Department of Justice. Also citing unnamed sources, Fox Business reported on May 12 that the SEC has an active civil investigation into Deutsche and has subpoenaed the firm, but has not issued any Wells notices. Neither agency has confirmed these reports.

Deutsche Bank has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating separately.

Deutsche Bank declined to comment to Fox, the Journal, and the Times about possible investigations.

Goldman Sachs
The SEC has brought a civil fraud lawsuit against Goldman, alleging that the investment bank made “materially misleading statements and omissions” when it allowed a hedge fund to help create and bet against a CDO, called Abacus, without disclosing the hedge fund’s role to investors.

The Wall Street Journal, citing “people familiar with the probe,” reported in April that the Justice Department has been conducting a criminal investigation into Goldman’s CDO dealings following a referral from the SEC. Neither agency has confirmed this, but the AP, citing another unnamed source, has reported the same thing. Since then, many news organizations–including the The New York TimesABC News and the Washington Post–have also reported on the criminal probe, citing unnamed sources. No charges have been brought.

Goldman Sachs has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating separately.

Goldman called the SEC’s accusations “unfounded in law and fact.

After the reports of a criminal investigation, a Goldman Sachs spokesman declined to confirm that the bank had been contacted by the DOJ but also told several news outlets that “given the recent focus on the firm, we’re not surprised by the report of an inquiry. We would cooperate fully with any request for information.”

The bank has declined to comment to us on the New York attorney general’s investigation.

 
JP Morgan Chase
Citing “a person familiar with the matter,” The Wall Street Journal has also reported that JPMorgan Chase has received civil subpoenas from the SEC and is under “early-stage criminal scrutiny” by the Department of Justice. Neither the SEC nor the Justice Department has confirmed these reports. A JPMorgan spokesman told the Journal that the bank “hasn’t been contacted” by federal prosecutors and isn’t aware of a criminal investigation.

Merrill Lynch (now part of Bank of America)
Merrill has not been named in any SEC investigations. But as we pointed out, a lawsuit brought by a Dutch bank asserts that Merrill Lynch did a CDO deal that was “precisely” like Goldman’s. The SEC has declined to comment on whether it is investigating the deal.

Merrill Lynch has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating.

Merrill has said its CDO deal was not like Goldman’s, calling Goldman’s Abacus deal an “entirely different transaction.”

The bank did not immediately return the Times’ request for comment about the investigation by Coumo, but when we called and asked, a spokesman from Bank of America, which merged with Merrill, said, “We are cooperating with the attorney general’s office on this matter.”


Morgan Stanley
Citing “people familiar with the matter,” The Wall Street Journal reported on May 12 that the Justice Department has been conducting a criminal investigation into Morgan Stanley’s CDO dealings, including its role in helping design and betting against two sets of CDOs from 2006 known as Jackson and Buchanan. The Justice Department declined to comment. No charges have been brought, and according to the Journal, the probe is “at a preliminary stage.” A Morgan Stanley spokeswoman said the bank had “no knowledge of a Justice Department investigation into these transactions.” The Journal reported that the SEC has subpoenaed Morgan Stanley on several occasions, but the bank says it has received no Wells notices, which would indicate pending SEC charges.

Morgan Stanley has also been named as one of the banks that New York Attorney General Andrew Cuomo is investigating.

A Morgan Stanley spokeswoman said on May 12that the firm has “not been contacted by the Justice Department about the transactions being raised by The Wall Street Journal, and we have no knowledge of a Justice Department investigation into these transactions.”

The investment bank declined to comment to the Times about the Coumo’s investigation.


UBS
Citing “a person familiar with the matter,” The Wall Street Journal reported that UBS has received civil subpoenas from the SEC and is under “early-stage criminal scrutiny” by the Department of Justice. In a report on May 12, the Journal reported that the Justice Department is scrutinizing a few CDO deals that Morgan Stanley helped design and bet against–but which were marketed by Citigroup and UBS. Neither the SEC nor the Justice Department has confirmed these reports. The firm has not disclosed that it has gotten any Wells notices.

UBS has also been named as one of the banks New York Attorney General Andrew Cuomo is investigating.

A UBS spokesman has declined to comment on any of the investigations.

Moooove Over SLACKERS!! NY AG CUOMO probing 8 banks over securities

AP Source: NY AG probing 8 banks over securities

NEW YORK — The New York attorney general has launched an investigation into eight banks to determine whether they misled ratings agencies about mortgage securities, according to a person familiar with the investigation.

finance-20100513-US.Wall.Street.InvestigationAttorney General Andrew Cuomo is trying to figure out if banks provided the agencies with false information in order to get better ratings on the risky securities, said the person, who spoke on condition of anonymity because the investigation has not been made public.

Cuomo’s office is investigating Goldman Sachs Group Inc., Morgan Stanley, UBS AG, Citigroup Inc., Credit Suisse, Deutsche Bank, Credit Agricole and Merrill Lynch, which is now part of Bank of America Corp.

Representatives from Goldman Sachs, Citigroup and Credit Agricole declined to comment. Others were not immediately available comment.

During the housing boom, Wall Street banks often packaged pools of risky subprime mortgages together. The securities were then typically given top-notch ratings and investors purchased them, in part, because of their high ratings.

The ratings, given out by Standard & Poor’s, Moody’s Investors Service and Fitch Ratings, are used as a guide for investors to judge how risky an investment might be.

As the housing market collapsed and more customers fell behind on repaying their mortgages, the securities began to fail.

The securities have been widely blamed for exacerbating the credit crisis and costing investors and the banks themselves billions of dollars in losses. The ratings agencies have come under fire for having given such high ratings to securities that soured.

The attorney general’s probe comes as federal regulators are investigating whether some of the banks misled investors when marketing and selling the securities and other investments that were tied to mortgages.

The Securities and Exchange Commission charged Goldman Sachs with fraud over its packaging of mortgage securities. Goldman is facing a separate criminal investigation into the same securities. Goldman has denied the charges and plans to defend itself.

Earlier this week it was reported that federal prosecutors are investigating whether Morgan Stanley misled investors about its role in a pair of $200 million derivatives whose performance was tied to mortgage-backed securities.

The increased scrutiny over how banks managed, packaged and portrayed mortgage securities and derivatives comes as Congress discusses a major overhaul of financial regulations. Politicians have said an overhaul would add more transparency to investments and trading.

Copyright 2010 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

Securitization – A Primer “FORENSIC LOAN AUDIT”

The Broken Chain

May 10th, 2010 •  ImplodeMeterBlog

Most people have heard the term “securitization” in media reports about the Housing Crisis. Some even know that securitization involved the selling of mortgage loans to Wall Street. But beyond that, most people have no clue as to what Securitization really is.

Securitization is the process whereby loans were sold to Wall Street and then sold to investors as bonds. It is a process that is complicated, and filled with legal issues. This article will attempt to simplify the understanding of this process. It is outside the scope of the writing to describe Securitization in complex detail, the “ins and outs”, and the myriad details involved. It would only serve to confuse the layman, and to create misunderstandings. Those who understand the process, please keep this in mind. I only want this to serve as a basic Primer.

History

Securitization has been involved in mortgage loans for decades. It started in rudimentary form in 1938 with the creation of Fannie Mae, to help with the Housing Crisis in the Depression and to stimulate home purchasing. At that time, government funds were used, and Fannie Mae was kept on the government “balance sheet”.

By 1968, Fannie Mae was becoming a large budgetary item. The Johnson Administration took Fannie Mae and turned it into a “shareholder-owned” company, which removed it from the Federal Budget. Freddie Mac was created at this same time to be competitive with Fannie Mae.

By the 1980’s, Fannie and Freddie had become major players in the mortgage industry. Other entities had taken notice and in 1990, Long Beach Savings introduced the first “privately securitized” deal for $70 million, executed through Greenwich Capital. It was so successful that other lenders took immediate interest.

In 1993, Fannie Mae, Freddie Mac, Bank of America and numerous other lenders “commissioned” a study to determine if private securitization could be effectively accomplished and the best methods to pursue for effectiveness. In 1995, the study was completed, which laid out the road map, and at the same time, identified a method for controlling costs associated with recordings and assignments and for identifying ownership of the loans. Thus was born MERS, the Mortgage Electronic Registration Systems. By the end of 1996, MERS was fully up and running, but not in systemic use.

In 1997, Long Beach Savings “split” apart and the key players went off in different directions. Ameriquest/Argent was the direct result of this split. Later, other entities like New Century and Option One were born from the former Long Beach Savings personnel.

By 1998, Private Securitization was beginning to gain popularity, but the collapse of Long Term Capital in Sep 2008 saw the securitization effort delayed, due to a “mini-financing” crisis. However, the repeal of Glass Steagall in 1999 restarted the efforts. (Glass Steagall prevented Commercial Banks and Investment Banks from conducting the same types of business. The repeal allowed commercial banks to also conduct investment banking and vice versa.)

Countrywide, Indymac and other commercial banks began to create investment operations for the purpose of Securitization, while the Wall Street investment banks undertook actions in reverse. This led to the” Securitization Boom” starting in 2000 and peaking in 2005-2006.

In 2000, the “Dot Com Bubble” burst as well. The people who made money from this boom had already taken their money out and had it sitting in banks and mutual fund investments. When 9-11 occurred, the Fed started dropping interest rates, directly affecting these assets. Wall Street came to the “rescue” offering Mortgage Backed Securities with what was promoted to be great “Return on Investments” with little risk This led the way to the current crisis. (There is much more to this part of the story, but for the sake of simplicity, I shall not cover that in this article.)

The Process

The actual process of securitizing a loan involved the following steps. To keep it simple, we shall assume that a Warehouse Line of Credit provided by a Wall Street firm was used to fund the loan.

• The Wall Street entity “pre-sold” the loans. This meant that parties were found who would buy the loans, and usually fronted the money to the Wall Street firm, though often, the firm would use their “own” money.

• Wall Street would then contract lenders to find the loans and fund them through a Warehouse Line of Credit.

• The borrower needed a loan and went to a broker. The broker did the paperwork and took the loan to the lender who approved the loan.

• The lender funded that loan and many others, through the Warehouse Line of Credit. Other lenders with Warehouse Lines would do the same.

• A “Sponsor” was named for the securitization transaction. The Sponsor would “collect” all the necessary loans and “bundle” them together in one large pool of loans. The loans would then be “sold” to the “Depositor”.

• The purpose of the Depositor was to “deposit” the loans into the “Issuing Entity” or “Trust”, after “segmenting” the loans into various “tranches” or slices of loans, which would make up the different parts of the pool. During this period of time, the loan tranches would be “rated” for quality, and ratings such as AAA were assigned each tranche.

• Once the “Issuing Entity” or “Trust” took possession of the loans which were now segmented into the tranches, the loans were ready to “sell” to the different entities that had already spoken for them. The loans were sold as “Certificates” or “Bonds” known as Mortgage Backed Securities. These were then resold to Investors.

• Incredibly, these Certificates and Bonds were often again “broken up” and resold in smaller portions in values. These were known as Credit Default Obligations. Sometimes, these were broken up again and sold in smaller amounts.

The purpose of the Sponsor and the Depositor was to comply with REMIC and other Tax Code provisions. To achieve certain Tax Benefits, there had to be at least “Two True Sales” of each loan to another entity before the Notes were sold as Certificates. The “True Sales” were supposed to be to the Sponsor, and then the Depositor. Arguably, the Sponsor and Depositor corporations were nothing more than “sham” corporations, to assist in “sham” sales.

For a “true sale”, there must be an offer and acceptance, with the transfer of the Deed and Note and consideration. When the Notes are sold, first to the Sponsor, and next to the Depositor, there is no evidence of any actual money changing hands. Nor were the Note and Deed transferred between these parties by recordings or any other method. One could reasonably argue that these were “sham sales”.

(Note: This is a VERY simplified version of the process, but it gives the general idea. Depending upon the originating lender, it could change to some degree. The purpose of such a convoluted process was so that the entities selling the bonds could become a “bankruptcy remote” vehicle, protecting lenders and Wall Street from harm, and also creating a “Tax Favorable” investment entity known as an REIMC. An explanation of this process would be cumbersome at this time.)

MERS

As described, each Securitized Loan has purportedly been transferred two to three times at a minimum. However, no Assignment of Beneficiary was ever recorded when the transfers took place. That was the purpose of MERS.

The Deeds would be kept in the name of MERS as “Nominee for the Beneficiary”. This allowed MERS to “pretend” to be the Beneficiary and avoid the expenses of recording Assignments at each transfer, usually about $30 per recording. MERS “hid” these transactions behind a “steel curtain” that would have made the 70’s Pittsburg Steelers proud. Even today, it is virtually impossible for most people to find out who the “Issuing Entity” is for a Note and loan that was purportedly placed into a Trust.

Prior to MERS, any transfer of a Note and Deed needed to be recorded in the County of the property as a public record. This was to allow notice of true ownership and to establish a “priority of liens”. MERS circumvented this procedure and obscured the ability of anyone to determine the legal owner of a property.

MERS records are confidential and limited to viewing only by “members” of MERS. To further worsen the situation, MERS “restricts” membership to only “approved parties”. A person or firm can only become a member after a lengthy application, and an “interview”. Unless you are a lender, servicer, or other party that MERS will accept, your application will be turned down because MERS does not want you to have access to this information for litigation purposes.

Pooling and Servicing Agreement and Document Delivery

The Pooling and Servicing Agreement and other related documents for securitization cover all aspects of the transaction. It identifies the parties involved, how the loans are obtained, payment distributions, credit enhancements and other issues. For our purposes, we shall just review the issues regarding the delivery of the documents. The following is from a Goldman Sachs Agreement for GSAMP Trust 2007-NC1. This was a group of New Century loans that were securitized through Goldman Sachs.

From the Agreement:

Delivery of Mortgage Loan Documents

In connection with the sale, transfer and assignment of each mortgage loan to the issuing entity, the depositor will cause to be delivered to the custodian, on or before the closing date, the following documents with respect to each mortgage loan, which documents constitute the mortgage file:

(a) the original mortgage note, endorsed without recourse in blank by the last endorsee, including all intervening endorsements showing a complete chain of endorsement from the originator to the last endorsee (except for no more than 1.00% of the mortgage loans for which there is a lost note affidavit and a copy of the mortgage note);

(d) the originals of any intervening mortgage assignment(s), showing a complete chain of assignment from the originator of the related mortgage loan to the last endorsee or, in certain limited circumstances, (i) a copy of the intervening mortgage assignment together with an officer’s certificate of the responsible party (or certified by the title company, escrow agent or closing attorney) stating that of such intervening mortgage assignment has been dispatched for recordation and the original intervening mortgage assignment or a copy of such intervening mortgage assignment certified by the appropriate public recording office will be promptly delivered upon receipt by responsible party, or (ii) a copy of the intervening mortgage assignment certified by the appropriate public recording office to be a true and complete copy of the recorded original;

(e) the original mortgage assignment in recordable form, which, if acceptable for recording in the relevant jurisdiction, may be included in a blanket assignment or assignments, of each mortgage from the last endorsee in blank;

The Problem

If one reviews sections (a), (d) and (e) with care, an important issue stands out. The Agreement calls for a complete “Chain of Assignment” of the Deed, and a complete “Chain of Endorsement” of the Note. Furthermore, section (e) suggests that there might be mortgage assignments that have not been recorded. This is a problem that litigators are beginning to address so as to argue “Legal Standing”.

There is no recorded and perfected Chain of Assignments, nor is there a Chain of Endorsements in any Securitized Loan, no assignment history that goes from the lender, to the Sponsor, to the Depositor, and lastly, to the Trust, as required by the PSA. Any Assignment of the Deed to the Trust will almost always occur after a Notice of Default is filed and the Assignment is made from the lender or MERS to the Trust. This is done to “establish” Beneficiary Rights in the mind of the Trust. It also tries to unite the Note and the Deed for Legal Standing to foreclosure.

Since the Assignment has occurred AFTER the Notice of Default, and the Assignment is from the originating lender or MERS, there is an unperfected Chain of Assignment. Can this make the Notice of Default lawful? Some attorneys in California are arguing that it is not lawful, and the results of such arguments are mixed, dependent upon the Court and the judge’s perspective. Most often, the Court will rule that since the Non-Judicial Foreclosure Statutes are “exhaustive”, the assignment issues are immaterial. Some Bankruptcy Court judges are beginning to consider this a ‘defect” in legal standing and are reacting accordingly.

The Note has been endorsed in blank, usually with only one endorsement on the Note, or an Allonge, and there is no Chain of Endorsement representing the different entities involved. This turns the Note into a “Bearer Note”. Anyone in possession is arguably entitled to payment under Commercial Code. But if the Deed is not perfected, can the Note Holder foreclose without turning to Judicial Foreclosure methods? This will be the next area that Courts in California will have to consider. Likely, it will occur in the Bankruptcy Courts, and then slowly come into the Trial Courts, after appeals are heard.

The Allonge could present another issue. Under different Statutes and case law, an Allonge must be permanently attached to the Note. This usually means that the Allonge is stapled to the Note, or affixed in some other manner. If the Allonge is not permanently affixed, it poses issues regarding Legal Standing and the ability to foreclose as well.

When preparing to argue Allonge and Note endorsement issues, you are not likely to have access to originals of either document. Courts have tended to rule that the originals are not necessary to prove Legal Standing, especially in California. However, a copy of the Note, especially if it shows only one endorsement when there should be two or more endorsements may offer some Legal Standing questions. An Allonge that is not attached could offer the same. This has been shown, at least to the satisfaction of one Bankruptcy Court, by the copies provided showing no evidence of staple marks in the copy.

Summary

Hopefully, this article has served to explain in relatively simply detail the history of Securitization, the process, and how it was instrumental in events leading up to the Mortgage Crisis. It has also tried to present in limited detail some issues regarding Legal Standing so that the non-attorney can begin to understand the legal issues that may be present with regards to Securitization.

There is much more to Securitization than what I have presented. Much is immaterial to the layman attempting to understand the process. Some aspects, as the payment streams to the different buyers of the Certificates and Bonds are so complex that years from now, people will still be trying to make sense of it.

The Underwriters of the Tranches, I have deliberately avoided writing about. It was not necessary to present for an understanding of how the loans were securitized. Underwriting would be more applicable to the understanding of how the Certificates and Bonds were presented to Investors for purchase. These topics would likely not be of use in present homeowner litigation, but will attain importance in Investor lawsuits.

My next writing will pertain to the Pooling and Servicing Agreement and other related documents, and will reveal why this document needs to be presented in litigation, beyond just proving legal standing. The PSA will tie the complete loan transaction, from origination to funding to Securitization, into a concise understanding of why these loans were doomed to fail, and the Housing Crisis becoming inevitable.

OTS Consumer Complaint Form BANK REGULATORS

THE OCC IS THE BEST FOR THE DBNTC TRUSTS. This is a helpful way to get the masses to contact the regulators.