Why Banks Are Better at Making Loans Than Modifying Them

Originally posted in November 2009.

 

According to just about everyone on television and in print these days, should a homeowner get the crazy idea that they might be able to avoid losing their home to foreclosure through a loan modification, the thing they should do is call their bank and, I would assume, ask for one. I say “I would assume” because no one on television or in print has offered anything more detailed in the way of instruction than to say: “Call your bank.” So, alrighty then… fair enough.

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Being that I had some extra time this morning, I thought… what the heck… the guy on 20/20 said it would work so he must know, right? So, I decided to call my own mortgage holder… First Nationalized Bank.

Ring… ring… ring… Thank you for calling First Nationalized Bank. If you know the extension of the person you are calling you may enter it now. For the company directory, press 9. (Silence…)

If you are calling about a checking or savings account, press 1. For credit cards, press 2. Auto loans… 3. Other options… press 4. (I pressed 4.)

(Ring… ring… ring….) You have reached First Nationalized Bank. For questions about home mortgages press 5… for questions about… (I pressed 5.)

You have reached First Nationalized Bank. If you know the extension of the person you’re trying to reach, you may enter it now. (Silence…) To return to the main menu, press 7. To hear a duck quack, press 8. (Silence…) To speak with an operator, press 0. (I pressed 0.)

Ring… ring… ring… No one is available to take your call… But we value your business… If you’d like to leave a message press… (Click)

I figured maybe it wasn’t a good time, and decided to try back a little later. Mornings are probably busy times for banks. No reason to make any snap judgments based on just that one attempt.

Plus, I’m of a mind to give the banks a break. They’ve had a very tough year. Giving out all those bonuses is time consuming. It’s not like they’re direct deposits you know? And that’s to say nothing of the envelopes. Who’s going to lick all those envelopes, huh? And the TARP money? Hey, you think all those billions just store themselves? No sir, someone has to store all that money away somewhere.

Then, when you add in all the time it takes to get the sub-prime borrowers evicted and onto the streets where they belong… all that crying and sobbing… please Mr. Banker… please… we’ll pay soon… please… it gives me a headache just thinking about it. I mean, if I just picked up a bonus check for a couple of million… I’m sure I want to go deal with some dead beat who couldn’t even handle it when his mortgage payment doubled over a couple of months… like, deal with it people… I’m booked on the 7:05 to Maui and I don’t have time for your whining… like I said… I’m quite sure it’s been hectic.

The only saving grace has been that at least the banks didn’t have to worry about making loans to actual customers… and do all that other stuff.

I remember that Citibank laid off like… I don’t know… what was it… two million people? And I heard that David Rosenberg, who used to be the Chief Economist at Merrill Lynch, is now working as a teller at B of A. So, there’ve been some very significant changes at most banks for sure.

Heck, Citi even had to cancel the purchase of one of its Lear Jets that had been on order. See how dangerous all that populism crap is? You let that stuff get out of control and next thing you know bankers are going to start forcing executives to drive the Mercedes instead of the Bentley. It’s dangerous. It’s socialism. It’s a slippery slope.

So… let’s give First Nationalized Bank a break on that first call and talk about something else. We’ll try them back in 15 minutes, how’s that?

You may remember this past year there was a study released that showed that loan modifications were re-defaulting at the rate of like 60% within the first year after being modified. It sort of came across like proof that sub-prime borrowers shouldn’t have been allowed to buy their homes in the first place, because apparently even if you modified their loans, they still couldn’t make their payments. Ah ha! I knew it! Dead beats, one and all.
I saw the study. It was actually two studies. One done by Credit Suisse and the other by the Swiss banking giant, UBS. (U… BS. I love that name.)

The total number of mortgages in both studies, as I remember it, was right around 1400. And roughly 40% – 60% of the loans defaulted in six months depending on the exact circumstances, but the point was the same either way. A lot of modified loans defaulted, or rather re-defaulted… that was the point.

I immediately wanted to figure out why that would be the case. Why, you ask? I’m not sure… it just seemed like an awfully high percentage in an awfully short period of time. I mean, even hard core dead beats make it more than six months, right? A year, maybe?

So, I dove in to the data, trying to see if there were any reoccurring themes that would lead me to that “Ah ha!” moment for which I was hoping. I tried to see if there were any patterns as far as the borrowers were concerned… but nothing popped out. I tried to see if the numbers presented a path to follow… again nothing looked indicative of anything special. I even tried to find out the average credit scores or whether there was a geographical consistency, like maybe a whole bunch of the borrowers lived in Michigan. Nope, nothing.

So, feeling a little bit lost, I called a friend of mine who used to be a big time corporate treasurer at a Fortune 100 company. He’s smart as a whip, and I wanted to see if he had any ideas. He didn’t. But he did offer to refer me to a senior executive at PIMCO, which to me sounded like the transmission place ‘Aamco,’ but without the horn honking at the end. The CEO’s name is Bill Gross, and he’s a zillionaire.

PIMCO is like the world’s largest bond holder, or something like that. I never even bothered to look them up. I just called the woman my friend recommended and said hello.

My friend was right… she was double sharp and knew everything about the whole mortgage mess. When I mentioned the bond ratings agencies she immediately got hot under the collar. She almost raised her voice saying “They should be in jail.”

“Really,” I said. “How so?” And she went on to explain the intricacies of the bond market as it related to securitization and derivatives. She laughed towards the end of her rant, which woke me up and luckily she wasn’t asking a question so I was free to get back at my original topic of interest: loan modifications.

She had no idea why borrowers would default in such high numbers and so quickly. She did however express surprise that the investors had let Credit Suisse or UBS modify their loans, and she told me that PIMCO wouldn’t let one of their servicers do that.

I asked why, a little hesitantly now, and she explained…
“The banks don’t own the loans,” she explained. “Investors like PIMCO do, and why would an investor allow a servicer to cut into their profitability, just because someone wasn’t making the payments on their mortgage?” Foreclose, was her answer. I mentioned that the costs of foreclosure in this market were rather high, but she wasn’t having any of it. Foreclose, and that’s that. Well alrighty then… interesting.

Then I suggested that a cost comparison could be done using a net present value calculation as compared with the costs of foreclosure and her attitude changed.

“Oh, well… that would be different, I suppose,” she was clearly softening at the mere mention of a “net present value calculation,” bond people are so easy. “If someone showed us a net present value calculation as compared with a foreclosure costs and the data was solid, I suppose we’d have to take a look at it.” Bingo.

Maybe this would be a good time to try First Nationalized Bank again. What do you think? No? Okay, let’s give them a few more minutes, then we’ll call back. I’m sure we’ll get someone. Anderson Cooper said so.

I thanked my new net present value oriented friend and hung up. Next I would need to find a homeowner whose loan had been modified directly by the bank as a result of their request. This wasn’t easy. Lots of refinancing, but no modifications. Finally, I found an older gentleman who said that he asked his bank about modifying his mortgage and they did.
“Perfect,” I said to him on the phone. “How’s tomorrow?”

The next day I found myself driving out to Palm Springs. It was crisp and sunny… a beautiful day and I was anxious to see how he had done it and why he had chosen to do so. I spent the entire afternoon with the old guy; we drank a couple of martinis and drove around a golf course in his private cart. It was fun and I genuinely liked him. He told me how it went, and answered all of my questions. I started to think that maybe the banks weren’t so bad after all.

As I was leaving, I stopped by a glass case by the hallway leading to the home’s main door. There was a plaque that read “Employee of the Year… Bank of America… 1965.” Uh oh. “Were you with Bank of America before you retired” I called out to him. “Yes,” he replied, “44 years,” he said with great pride. So, I guess when you called B of A for your loan modification, you knew exactly who to call, right? And they took your call because they saw it was you, right?”

“Oh absolutely,” he said. I was the Senior Vice President of Consumer Loans and Mortgages for 21 years… when I retired, there were more than 1,000 people at my party. They held it at our loan-processing center in Pasadena. Want to see some pictures?”

“Maybe next time,” I said. It was getting late… so, I said my goodbyes and got back on the road toward home, kicking myself that I hadn’t thought to ask about that before driving for two hours to interview Mr. Bank of America Ret. Oh well… people are losing their homes to foreclosure, who am I to complain about a little extra driving.

Alright, so let’s give old First Nationalized Bank a call… it has to work, the guy on Sixty Minutes was sure of it. And even President Obama said we wouldn’t need to pay anyone for help… okay, one more try…. here goes… dialing now…

Ring… ring… ring… Thank you for calling First Nationalized Bank. If you know the extension of the person you are calling you may enter it now. For the company directory, press 9. (Silence…)

If you are calling about a checking or savings account, press 1. For credit cards, press 2. Other callers, press 3.

I pressed 3. (Ring… ring… ring….) You have reached First Nationalized Bank. For questions about loans press 5… for questions (I pressed 5)

You have reached First Nationalized Bank. If you know the extension of the person you’re trying to reach, you may enter it now. (Silence…) To return to the main menu, press 1. (Silence…) To speak with an operator, press 0. (I pressed 0)

Ring… ring… ring… No one is available to take your call… If you’d like to leave a message press… (Click)

~~~

Okay, this is embarrassing… maybe I should have tried this earlier… don’t get impatient; we’ve got a lot more to cover anyway. Besides it’s getting close to lunchtime, maybe that’s the problem… they probably don’t answer as many calls around lunchtime.

So, getting back to my analysis of the disappointing loan modification data… through several interviews with borrowers and a few with bankers, I was able to ascertain what I referred to as my “7 Points of Blight” behind the high re-default percentages. It wasn’t the borrowers that caused the high numbers of re-defaults, it was the nature of the transactions. Banks simply were not handling loan modifications effectively, and none of the reasons for this should be the least bit difficult to understand.

Banks Negotiating Directly With Borrowers: 7 Points of Blight

1. Banks have a hard time getting in touch with distressed borrowers. As in: “Honey, it’s the bank.” “Tell them I’m not here.” Or mail that goes unopened. It’s just not that easy for a bank to get in touch with someone who is four months or more behind on their mortgage payments. And in many instances, by the time the bank did reach the borrower, it was often too late to stop the foreclosure process.

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2. Banks and loan servicers today are anything but overstaffed, as one might imagine. They certainly haven’t upsized this past year, right? So, as an industry, they simply don’t have the additional staff sitting around trained to handle loan modifications.

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3. Banks and servicers are set up to process tens or hundreds of thousands of mortgage statements and handle routine foreclosures and collections… all processes made possible by systems, more so than people. Loan modifications, however, are like a hand made car. One at a time… working with the borrower… putting the package together for submission to the lender… as a process it bears little resemblance to routine mortgage processing.

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4. Perhaps most importantly, I was able to determine that the negotiation between a bank and a borrower at risk of losing their home is not a negotiation at all. It’s more like having a gun to your head. Being at risk of losing a home is nothing if not frightening. Distressed homeowners who received an offer from their bank that allowed them to stay in their homes, too often, jumped at it… and understandably so. After all, I realized, if I was going to lose my home to foreclosure, I suppose six months from now beats the heck out of next week, right?

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5. Systems were lacking, as well. Banks and servicers had robust systems to handle the processing of payments, normal collections and even foreclosures, but loan modifications were another animal altogether. And few in the industry were prepared to invest in a system enhancement that would likely only be used for a couple of years. If you were a mortgage lender or loan servicer, would you invest in systems and people to handle loan modifications, when you saw that such modifications will only be a factor for a limited number of years? Exactly.

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6.Investors are reticent to give banks and loan servicers the authority to write down their assets. No standardized guidelines exist, and investors need criteria upon which such decisions are to be made. Otherwise, it seems safer to foreclose.”

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7. Compensation was another issue. Banks servicing mortgages are being paid to do so, but they weren’t being paid to handle loan modifications, and investors that we spoke with all indicated that in their opinion, mortgage servicers were over paid when times were good in order to cover times that were not. In other words, the investors weren’t all that hot on the idea of paying the banks anything extra to modify loans in order to avoid foreclosure.

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When I finished my analysis of why so many borrowers were re-defaulting six months after their loans were modified by their lender or mortgage servicer, I went around testing my theories with everyone who would listen. And guess what?

 

Everyone agreed, most said something equivalent to “Duh… like, of course.”

Meanwhile, the stories about modified loans re-defaulting were showing up everywhere. In fact, it was becoming an urban legend, for a while anyway. I’d show up at a meeting, the sub-prime crisis would come up and within a minute, someone would bring up the Credit Suisse or UBS data. Most of the time the person bringing it up didn’t even know from where the stats came. All they knew was that modified loans were re-defaulting 60% of the time after just six months. And that made homeowners at fault. How could they not be… if 60% of them couldn’t even make it six months after modification, although not much of a modification, if you ask me.

I went ahead and called First Nationalized Bank again, just in case the phone lines had cleared up, but obviously they must be having some kind of problem over there. It can’t be the norm, can it? Assuming it was just a bad phone day, I stopped in at a bank to see if they could answer a few questions about President Obama’s plan to rescue the housing market.

They said they didn’t know anything. Just that the paperwork hadn’t been sent out to banks as yet. One of the guys who worked for the bank asked me a few questions and I fielded them all. I gave them the government phone number from the Treasury Website, and I told them this:

“Whatever you do, don’t hang up… no matter how many times it rings, stay on hold… or they put you all the way back at the end of the line… so even if it takes an hour… just wait there… they’ll answer, it just takes time. And once they do, it’ll be really helpful… you’ll love it, they answer everything…”

Then I got into my car and laughed the buttons off my shirt… You’ve got to have a hobby… I think I’m going to take up making fun of banks.

For want of a refi the payment was lost.
For want of a payment the mortgage was lost.
For want of a mortgage the house was lost.
From too many lost houses the market was lost.
For want of a housing market the financial sector was lost.
For want of a financial sector the credit markets were lost.
For want of the credit markets the economy was lost.
For want of the economy prosperity was lost.
For want of prosperity the country was lost.

And all for the want of a sustainable loan modification?

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Mandelman out.