Op-Ed: What do the candidates' mortgage plans actually do?

By Tom Kaufman and Christian Hudson

Originally Published in the Santa Cruz Sentinel: 03/30/2008

Everywhere you looked this past week the candidates were unveiling the latest and greatest in mortgage plans. That's terrific news for all of us.

The question is whether their plans actually add up: Here's our fact check.

SEN. Hillary Clinton: There's a "crisis of confidence in our country" according to Clinton in her Philadelphia speech this week. On this account she is right. Investors are on the sidelines because they are worried another shoe will drop. However, Clinton complains that if the U.S. can spend $30 billion to supposedly bail out Bear Sterns, then it can certainly spend that on homeowners.

The problem with Clinton's position isn't that she wants to help homeowners so much as it makes it sound like she doesn't understand what happened with Bear Stearns. Is it possible that she and her advisers [and she's not the only candidate in this case] decided the subject is too complicated for politicking and therefore better to paint all homeowners as victims and all banks bad?

Most certainly she's right to seek accountability, but it is important to conceptually understand why the Federal Reserve stepped in with Bear Sterns. It all comes down to this: It is about the money Bear Sterns was on the hook for in relation to other banks. [Think back to those terribly named credit default swaps we've been talking about.] That's what the Fed covered. Not a chief executive's wine collection tab.

The Fed prevented a domino effect: Another bank calls in its mark on Bear Stearns only to find no cash. Well, the amount we are talking about is enough to bring down more banks. Oh yeah, and your 401K, and the banks ability to lend you money.

What Clinton did do, as well as Sen. Barack Obama, is embrace a Capitol Hill plan to allow the Federal House Administration [FHA] to back more mortgages so they can be bundled and auctioned. What's this mean? It means that the government will cover the mortgages and that they can be tossed back on the market to be bought and sold, thus allowing some institutions to get them off their books, while others get them as a deal. This is definitely helpful.

OBAMA: In one regard the two Democratic senators played a game of "me too" this week. Clinton wanted a high ranking panel to recommend solutions, and Obama rightly pointed out he'd been out of the gate earlier with that. The thing is, go ask the Social Security blue ribbon panel if all their hard work really got used. Panels are lovely, but oftentimes the press release looks better than what is adopted.

Obama, after hearing Clinton's $30 billion proposal for homeowners earlier in the week, came out with his own on Thursday. Again, helping homeowners is terrific, but the issue is still whether they both understand what the Fed did. Fed Chairman Ben Bernanke deserves a beer, or a cookie, or something for his efforts, listening to the candidates [including Sen. John McCain] you'd think he was the Rodney Dangerfield of the crisis.

Obama got us excited because he talked about tougher regulation -- but then fell flat on specifics. That's a bummer, we can't tell you what they'll do without them.

MCCAIN: Well, he told everyone this week that he didn't want government involvement in the market, save for the most limited fashion. His reasoning: Don't reward risky behavior by banks or homeowners. He did manage to say the Fed did the right thing.

What is lost in each of these plans is the necessary specifics to right the ship, not just now but for future travels. If you believe in the market and don't want government intervention, where are the investigations and enforcement?

If the candidates want to treat this as the most important issue next to Iraq, let's see the specifics. This week felt more like a starting point than deep into the crisis and the campaign. That's disappointing.

Tom Kaufman is the Capital Markets Committee Chairman for the American College of Real Estate Lawyers and is a partner at Hunton and Williams LLP in Washington, D.C.

Christian Hudson is a former Santa Cruz resident now practicing finance and real estate law at Hunton and Williams LLP in Washington, D.C.

Op-Ed: Wall Street, D.C. Developing a Halle Berry Complex?

By Christian Hudson

Originally published in the Santa Cruz Sentinel: 03/09/2008

Wall Street and Capitol Hill are in danger of developing a Halle Berry complex when it comes to the mortgage mess.

It has to do with illusion.

A number of years ago I bought a then-neglected row house in Washington, D.C. By that I mean when I pulled out the carpet, and the carpet under that carpet, I also pulled out drug paraphernalia. But the house's solid bones, proximity to school and work, plus the neighborhood's architecture and friendly vibe made it a score.

One day while out front landscaping, I spied what looked to be Halle Berry and a sidekick coming up my block! [OK, so clearly not Halle Berry, but her stunt double.]

Stunning, beautiful and gorgeous, she was everything you'd expect from her if she walked out of a James Bond film and onto your stoop.

She had lots of questions: Do I own? What's my loan rate? Then the sell: I can lower my monthly payment if I refinance and restructure. She then complimented me on my house [Is Halle flirting with me?] At this moment, I can't decide who feels prettier: me or my house.

Then the conversation came to a screeching halt. I explained that I liked my 30-year mortgage. She demanded to know why I wouldn't want to pay less. I explained that consistency is better because I'm staying in the neighborhood and not flipping the house for a short-term gain. Besides, I said, the market can't continue to grow at this rate.

"That's stupid," she said. And she continued on to the next house. Wow. Halle Berry's doppelganger just called me stupid. I smiled and laughed to myself. But when I watched her go door to door, the smile disappeared. My neighborhood is diverse in age, professions, economics and racial backgrounds. I love that about my neighborhood.

My ears were deaf to her pitch. At the time I was a journalist, the son of a real-estate appraiser, and a law student. Her next pitch was as likely to fall on an attorney, as it was on a retiree who lived through the neighborhood's hard times of the 1980s crack epidemic.

It is not unlike the stories out in California. Is the guy who only speaks Spanish and relies on the bilingual mortgage broker or lender the same as the woman who can read the contract in English herself?


Right now, both Wall Street and Capitol Hill are painting solutions to the mortgage mess with Black and Decker-sized brush strokes.

But it seems to me that the person who was flipping properties, or buying a second piece of real estate as an investment is much different than my retired neighbor or someone new to the country relying on a broker's language skills.

That's why I think about Halle Berry every time I hear about the subprime mortgage mess. The danger is taking a square peg and jamming it into a round hole. Not every case is the same. Some will read this and conclude it's another example of mortgage holders as victims, while others will point to me as an example of affirmative choice.

Consider the trial balloons currently floating around town: some have Uncle Sam buying up the delinquent mortgages through a government agency or quasi government agencies, others would send mortgage cases before a bankruptcy judge, and still another would push banks to change the mortgage payment in return for a stake in the principal when the house is eventually sold -- a plan that received a boost by Federal Reserve Board Chairman Ben Bernanke in a speech on Tuesday.

The debate about these plans mostly centers around who picks up the tab -- the taxpayer or the market. What we shouldn't lose sight of is whether we are doing a good job of separating real victims from those who knowingly chose to gamble.

Christian Hudson is Santa Cruz local and a former CNN Senior Producer now practicing finance and real estate law at Hunton and Williams LLP in Washington, D.C.

Op-Ed: 5 Questions for Federal Reserve Chairman Ben Bernanke

By Tom Kaufman and Christian Hudson

Originally published in the Santa Cruz Sentinel: 02/28/08

Congress is in a special position to make some news Wednesday and Thursday as Federal Reserve Chairman Ben Bernanke makes a return trip to Capitol Hill on the heels of new housing data showing foreclosures up 8% from last month and 57% from a year ago according to a RealtyTrac study - which is a foreclosure marketer.

There are lots of plans being circulated around Washington, some even sound like government backed bailouts for homeowners. That’s why Wednesday and Thursday really matter. It is a chance to hear Congress essentially ask the Fed, “well, what do YOU think should be done?”

If you caught our Sunday column, you know that we’re worried about something that is even bigger in sheer size than the subprime mortgage mess - namely credit default swaps . How big? U.S. banks are on the hook for multiple times more money than they are for subprime mortgages. They basically work like insurance where Wall Street covers each other should someone not pay up on a loan. The complication? Well, unlike insurance they aren’t required to report all their deals, so it is hard for people to know if the person that is covering them is really going to come through. So if we’ve wiped out on the mortgage wave, what happens on a wave multiple times bigger?

The Fed is legendarily obtuse in answering questions. But, unlike his predecessor, Mr. Bernanke has shown a willingness to let more light in, so we say let there be light! Fiat lux, Mr. Bernanke. Here’s what we’d like the Chairman to answer:

1) What does it mean in terms of risk to the market that U.S. banks have many times more the amount of exposure in credit default swaps as they do to subprime exposure?


2) Some of the competing subprime solutions suggest a government backed bailout for those homes now worth less than their mortgage - what are the risks of doing that and doesn’t that stiff those penny wise savers who waited to buy their first home once the market cooled off?


3) Most notably last time you were on the Hill - a little over a week ago - you did NOT take the opportunity to say there's a light at the end of the tunnel - that seems to imply that you haven't identified where that proverbial light is yet - is that fair?


4) One analyst in Fortune Magazine, Pimco’s Bill Gross, says there’s a liquidity crisis problem of the unregulated banking system. Is that right? Can you keep the financial derivatives excesses in check without more regulation?


5) Here's a scenario for you: Subprime mortgage debt causes defaults for institutions who call in their private hedged bets in the form of credit default swaps only to find them unable to pay up. This causes further indigestion and insecurity in the market place where institutional money is not willing to buy bonds, thus everyone from the swashbuckling real estate tycoon to the run of the mill school project can't raise capital. No capital means no construction, no construction means no jobs for an active workforce. This makes banks even more reluctant to hand out mortgages. The result? Continued decay and atrophy in the number of people who are in a position to buy homes causing home prices further fall pushing more homeowners into the category of shouldering a mortgage greater than the price of their home. Does that keep you awake at night?


Tom Kaufman is the Capital Markets Committee Chairman for the American College of Real Estate Lawyers and is a partner at Hunton and Williams LLP in Washington, D.C.

Christian Hudson is a former CNN Senior Producer now practicing finance and real estate law at Hunton and Williams LLP in Washington, D.C.

Op-Ed: The Next Step in the Subprime Tango?

By Tom Kaufman and Christian Hudson


Originally published in the Santa Cruz Sentinel: 02/24/2008

Everyone wants to know how bad is it going to get. More and more, the conventional wisdom seems to be it feels like the 1990-91 recession. Simply put, that analysis ignores evolution. You don't do business now the same way you did in 1990, and neither does Wall Street.

Consider 1990, just as Amazon.com wasn't part of the zeitgeist's lexicon, credit default swaps weren't a part of the financial sector's jargon.

Now doing business on the Internet is the cultural de rigueur, and so too are credit default swaps for Wall Street. You care about credit default swaps because they could be the next body blow to the market, your 401k, and the economy in general. Put it this way, the subprime market was about $1.3 trillion in 2007, while U.S. banks' involvement in credit default swaps was $5.5 trillion for that same year. Roughly four times as big. If you are a fan of numbers with snake-like tails of zeroes, then you will be intrigued to know that Getchen Morgenson's terrific reporting in the New York Times last weekend put the worldwide market for these kinds of deals at a whopping $45.5 trillion.

So, here's how it works. David gives Sam a loan. However, David is savvy and wants to make sure that if Sam doesn't pay him back, it won't be a total loss. Solution? David makes a deal with Melissa that he'll pay her a little bit every few months if she covers the loan should Sam turn out to be a deadbeat. As the Congressional Research Service wrote in their Feb. 11 report on Bond Insurers, such a deal is more or less like an insurance policy. The main difference between insurance and a swap is that a swap is a private agreement. Melissa can turn around and enter into another swap to protect herself where she pays a premium to me, and if David says pay up to her, she turns to me and I have to pay. The catch: she doesn't have to tell anyone about our agreement. But wait, it gets better. I can turn around and enter into yet another swap, this time with you and not tell anyone. That's what they mean when they say the swap market is unregulated. Now when David comes calling on Melissa, he has no idea that he's about to play Six Degrees of Kevin Bacon to get his money. David thought Melissa was his back-up plan, he didn't bargain on it being you. And if someone can't pay in that daisy chain? That's right, a domino effect where David is the loser.

The problem is that overexposure in subprime lending investments and other complex deals means many financial institutions now have a number of Sams on their hands. If those financial institutions make like David and call in their ace in the hole only to find it either not there or unable to pay, then how do you think investors will react? And what do you think that does to your 401K? Oh, and by the way, your 401k likely owns stock in David.

So let's return to the theory that this is just like 90-91 and compare then and now.

The Washington Post this week reported an increase in late credit-card payments and an increase in credit-card balances written off by banks. OK, sounds similar.

The latest data from the Mortgage Bankers Association indicates the highest delinquency rate on residential mortgage loans since 1986. Here, too, the data seems to track.

In fact, at first blush it tracks so well that when Federal Reserve Board Chairman Ben Bernanke was asked while testifying before a Senate committee whether we are currently mirroring the early 90s, he said, "... qualitatively, it's fairly similar to the recovery that followed the 90-91 recession, many of the same features." Bernanke went on to include a weak housing market as well.

What didn't get asked was key. Bernanke was not asked about the enormity of the credit default swap market and other yet not discussed complex derivatives that exist today as compared to the early '90s.


Thus, couldn't this end up as something of a nightmare scenario where the subprime mortgage hit was the first body blow and this is the later half of the one-two punch?

So we called the Fed. We got a very polite no comment.

Until Bernanke's next appearance, we'll hope for the best -- but keep your eyes peeled on the business section and on the cable news channels. Chances are you're gonna hear a lot more about those credit default swaps.

Tom Kaufman is the Capital Markets Committee Chairman for the American College of Real Estate Lawyers and is a partner at Hunton and Williams LLP in Washington, D.C.

Christian Hudson is a former CNN Senior Producer now practicing finance and real estate law at Hunton and Williams LLP in Washington, D.C.

Op-Ed: It's the mortgages, stupid

by Tom Kaufman and Christian Hudson

Originally Published in the Santa Cruz Sentinel on 1/27/08

Interest rates and mortgages are rarely seen as the battle ground for the hearts and souls of voters, but with a tsunami of foreclosures having first wiped out home values and then washed away in ripple-effect fashion much of our 401k stocks, it shouldn't be a shock to see Sen. Hillary Clinton leading off her first answer during CNN's latest battle royale debate on Martin Luther King Day with economics.

Not unlike an ESPN SportsCenter anchor clicking through playoff highlights, the senator from New York ticked off her game stats: $110 billion economic package, $70 billion going to the mortgage nightmare, 90-day foreclosure moratorium, 5-year freeze on interest rates ... But, the thing about blink-once-and-you-missed-it stats is just that, they might hit you like a wave, but as soon as you catch them they roll by undissected.

Hit the rewind button: So, what would a five-year interest rate freeze look like?

Like the law, policy is less like a scalpel and more like a cudgel. A well-intentioned action is very likely to have broader consequences.

First, Clinton isn't talking about all rates, but rather the adjustable ones that go up after a certain amount of time. That might sound good, if you are someone writing a mortgage check, but what if you want a loan in the next five years? That might be a different story because banks tend to like loans repaid according to their terms. In other words, if I'm the bank and you tell me that the interest rates on my existing home loans are not going to adjust up like I was banking on, guess what? I'm not lending to the homebuyer. That is a possibility under this plan.

Secondly, there is a ripple effect: If lenders are reluctant to lend to homebuyers, then people can't buy homes. If people can't or won't buy homes, then those trying to sell in order to get out of a jam will go into that foreclosure column, thus worsening the problem.

Third, what if the market accepts the five-year freeze on the adjustable rates and the potential negative repercussions don't materialize? Then, in theory, her package works. That's terrific, but in doing so we'll have protected both those who are legitimately victims of being sold a bill of goods by swarthy lenders, and those who knew what they were doing and were gambling by flipping properties. There's that cudgel again. Should the latter be bailed out while penalizing the prudent penny-pincher patiently waiting to buy a home once the market cooled off? Worse yet, if stocks continue to take a beating, then that penny-pincher takes another hit because instead of jumping into the housing bubble she saved, and those savings are probably to one degree or another in the very stocks currently crushed under the mortgage fallout. Isn't she arguably mortgage road kill here, too?

Lastly, Clinton's press release on her Web site calls for accountability -- laudable to be sure -- but one suggestion to help ease the cudgel's bluntness might be for a more vigorous enforcement of the existing laws to go after those who exploited the lending system. That means more funds for more enforcers, but it also might separate the victims and the dice rollers. Untangling the two might lead to a better way to help those legitimately victims while staving off creating another class of mortgage road kill.

Tom Kaufman is the Capital Markets Committee Chairman for the American College of Real Estate Lawyers and is a partner at Hunton and Williams LLP in Washington, D.C.

Christian Hudson is a former Santa Cruz resident now practicing finance and real estate law at Hunton and Williams LLP in Washington, D.C.