| Since loans were now originated for sale, no longer for retention in originators’ portfolios, originators knew that the risk of default was passed on to the ultimate purchasers. While theoretically the sellers incur repurchase risk, this was rarely invoked. In addition, the ultimate bankruptcies and FDIC takeovers of many of the originators eliminated repurchase as an avenue of recourse in many cases. The soundness of the loans became irrelevant. Fraud and lack of standardization or regulation of the origination process. Borrowers had no meaningful way to compare loan products or to understand what they were being offered. This was exacerbated by bait and switch and what came to be known in the industry as “ambush closing” where borrowers were surprised at the last minute with drastically different loan terms, and in non-escrowed loans to cover obligations for property taxes and insurance. Origination fraud and appraisal fraud became commonplace, rife with kickbacks, flips, excessive appraisals, forged documents, resulting in loans which were significantly undersecured at best. While appraisers and originators were theoretically subject to regulatory control, little or none was exercised. Careless and non-compliant origination and closing, including lien priority failures, Truth in Lending violations, bait and switch and a general “free for all” environment. These defective and non-compliant loans made their way into securitizations, due to a general lack of due diligence and scrutiny of any kind. Once securitized, they could not help but fail. Many borrowers received loans with no regard for their ability to repay them. There was no external regulation or supervision of the honesty or propriety of the origination process. Legal and regulatory breakdown in the licensure of originators and mortgage brokers. For example, in Florida mortgage brokers license were issued to numerous individuals with records of felony convictions. Virtually all loans originated by mortgage brokers were destined for securitizations. Lack of accountability. Originators sold loans that were invalid, not supported by the represented property values, not supported by the represented incomes/ability to pay, and in various other ways not validly originated. Representations and warranties were part of every transaction, yet many loans were not compliant. Aggregators/depositors failed to "scrub" the loans for compliance, relying exclusively on unverified and marginally enforceable representations and warranties, and then in turn making representations and warranties concerning the loans which were likewise unverified and at times wholly untrue. Overvaluation of the collateral in the up trending market. Many of the properties were significantly overvalued even at origination. Easy loan terms, low interest rates and fraud fed a frothy market, resulting in an escalating price bubble, even further removed from real values. |
Securitization in Depth
Part 2 of 4