Bankruptcy and Redoing Mortgage terms

This was an interesting story. From a legal perspective, bankruptcy courts are courts of equity, and could, conceivably, be granted this power.

But there would have to be some limits. The story presented in this article is very real and the terms of the mortgage smack of fraud which could be rectified by the suggestion being made by Judge Leonard.

Homeowners are the only ones who cannot modify the terms of their secured debts in bankruptcy. Corporate America flocks to bankruptcy courts to do precisely this -- to restructure and reamortize loans whose conditions they find onerous or can no longer meet. Airlines are still flying and auto parts makers still operating because they have used this powerful tool of the bankruptcy process. Lehman Brothers will surely invoke it. But when the bankruptcy code was adopted in 1979, the mortgage industry persuaded Congress that its market was so tightly regulated and conservatively run that it should be exempted from the general bankruptcy rules permitting modification.

How far we have come.

For more than a year, a number of legislators, academics and judges have advocated removing this ban on home mortgage modification to help stem the increasing number of foreclosures. I have twice participated in briefing sessions organized by the House Judiciary Committee, where I was lectured by lobbyists for the mortgage industry about the sanctity of contracts. I have listened to their high-priced lawyers make fallacious constitutional arguments based on discredited cases from the 1930s. (This is, incidentally, an industry that is not particularly concerned about its own contractual obligations as it tries, through various Treasury-aided programs, to stay afloat.)

There are a couple of ideas presented here.

First, yes, in certain circumstances, the terms of a mortgage as a long term debt can be restructured, if the debtor can show 1) fraud or 2) inability to pay the current terms.

Second, if any mortgage lender wants government bailout help--see Countrywide--they don't get to oppose any effort by a debtor to restructure the mortgage loan.

Judge Leonard's proposal makes sense, but such a change will result in the flooding of the courts by supposed debtors who simply don't like the terms of their mortgage but othewise are not debtors.

Althouse: Dont'

Ann Althouse links to an NPR stroy of an immigrant real estate speculator saying:

Don't give this man or anyone like him any of our tax money. Why should he be helped to live in a $1.5 million house? Try to picture the collection of characters NPR considered before deciding Njoku was the one to do a big human interest story about.

But here's the thing, Njoku a black, Nigerian Immigrant is just the sort of person who will get help from an Obama administration and the government. And that is the problem.

Making the Crap Sandwich Palatable

Intersting reading:
* Sec. 105. Energy credit for geothermal heat pump systems.
* Sec. 111. Expansion and modification of advanced coal project investment credit.
* Sec. 113. Temporary increase in coal excise tax; funding of Black Lung Disability Trust Fund.
* Sec. 115. Tax credit for carbon dioxide sequestration.
* Sec. 205. Credit for new qualified plug-in electric drive motor vehicles.
* Sec. 405. Increase and extension of Oil Spill Liability Trust Fund tax.
* Sec. 309. Extension of economic development credit for American Samoa.
* Sec. 317. Seven-year cost recovery period for motorsports racing track facility.
* Sec. 501. $8,500 income threshold used to calculate refundable portion of child tax credit.
* Sec. 503 Exemption from excise tax for certain wooden arrows designed for use by children.

I sense a theme a bit here, lots of energy tax credits. Not a bad thing really, but it is apparent that these credits are there to make that crap sandwich a lot more palatable.

Bankruptcy is Not a Dirty Word

That is the message from OpenMarket.org, earlier in this week, and I would think the message would not change all that much.

The bailout plan being touted by the Treasury Department and the bloody awful, shambolically stupid ban on short selling, means that govnerment is preventing the natural cycle of business, that is, growth and death, making money and losing money,

Business failure is not only a permissible outcome of capitalism, it’s a necessary one. As the great economist Joseph Schumpeter has written, the process of “creative destruction” is essential for the market to function. For innovation to flourish and the standard of living of the populace to improve, the market must be free to reward success and punish failure.

There is no doubt Lehman’s failure will be difficult for the firm’s employees, investors and others affected by the firms’ dealings. But Wall Street and the U.S. economy has survived similar failures before and come back to prosper. The investment banking firm Michael Milken’s Drexel Burnham Lambert, a powerhouse of the ’80s, went bankrupt in the early ’90s. The ’90s decade still roared, and many of the innovative companies financed by Drexel, such as Turner Broadcasting, still continue to prosper to this day.

Times are going to be tough for the big investors, but honestly, aside from money market mutual funds, most investors are not going to be touched directly by this crisis. Will interest rates go up, will it be more difficult to get consumer loans? Yes, and that really is nothing new. It happens in cycles throughout financial history.

From everything I have read, we as a society are reaping what we have sown by trying to expand homeownership. That is a noble and perhaps valuable goal, but really, it means risks and those risks carry the chance of failure. No one put a gun to the heads of these financier and told them to invest in mortgage backed securities which included risky subprime mortgages. They made that decision and they need to bear the costs of it.

I am not so much of a fool as to believe that in the short term, I am my family will be unaffected by the credit crunch. But I am not willing to sacrifice the financial future of myself and my family in order to cushion the blow of the marketplace on risk taking financiers.

Ugh! Secretary Paulson Proposes Something New: The First National Bad Bank of the United States

This plan gets worse the more I read about it.

Bailouts Continue?

Bailouts may continue for the biggest financial companies for the U.S. has apparently become addicted to government intervention.

Global stock markets roared higher on Friday after news of a possible U.S. government plan to rescue banks from toxic mortgage debt raised a collective sense of hope amid the world's worst financial crisis in decades.

Europe exchanges, which had spent nearly all of this week drowning in declines responded with ferocity to the possible plan, surging as battered bank stocks rebounding along with them.

The news of a likely U.S. lifeline, along with new changes to short-selling in the U.S., Britain and Ireland, also helped push markets higher, analysts said.

Early Friday, the U.S. Securities and Exchange Commission took the dramatic step of temporarily banning the routine practice of betting against company stocks, announcing the move on its Web site.

The commission said it was acting in concert with Britain's Financial Services Authority in taking emergency action to "prohibit short selling in financial companies" to protect the integrity of the securities market and boost investor confidence.

"The short-term changes to short selling are certainly giving markets and regulators room to breathe," said Keith Bowman, equity analyst Hargreaves Lansdown Stockbrokers. "But there are going to be a significant number of hurdles to overcome for this temporary measure to prove useful at solving the fundamental problems over the long term."

Another factor were moves by the European Central Bank, Swiss National Bank and Bank of England to offer up more cash Friday. The three banks put a combined $90 billion into money markets in a lockstep move.

I don't mind pumping money into the economy, that is what central banks are for, in part, but bailing out companies is not the proper course of action.

Lehamn Fallout in Lega Community

From the ABA: 42% of Lawyers Surveyed Fear Career Fallout from Lehman Woes.

Forty-two percent of practicing lawyers responding to a survey through the blog Above the Law said the recent bankruptcy of Lehman Brothers and the sale of Merrill Lynch would harm their careers. Only 27 percent felt that way when the government bailed out Bear Stearns.

The survey, sponsored by legal recruitment firm Lateral Link, got 830 responses. Most of those who answered were associates, the National Law Journal (sub. req.) reports.

Of course, bankruptcy creditor's attorneys are going to make a mint.

Did McCain Forsee the Fannie Mae/Freddie Mac Mess

maybe says Betsy Newmark and Ed Morrissey. In a 2005 speech,

McCain managed to predict the entire collapse that has forced the government to eat Fannie Mae and Freddie Mac, along with Bear Stearns and AIG. He hammers the falsification of financial records to benefit executives, including Franklin Raines and Jim Johnson, both of whom have worked as advisers to Barack Obama this year. McCain also noted the power of their lobbying efforts to forestall oversight over their business practices. He finishes with the warning that proved all too prescient over the past few days and weeks.

Read both posts, it is well worth it.

A Fairly Understandable Explanation of the Financial Mess and What It Means

Steven Levitt of the Freakonomics blog admits he can't explain the mess on Wall Street and the federal governments' apparent mish-mash response. So Levitt asked his colleagues, who put together a pretty good description. They admit that this is a most extraordinary moment and a remarkable invervention into the financial markets by the federal government, perhaps teh biggest since the Great Depression (as much as I hate saying that phrase.

I would like to point out, that the financial crisis is not necessarily the worst since the Great Depression, but the government's response, i.e. intervention, probably is, so there you go.

2) Why did these things happen?

The common denominator in all three cases was the ability of the firms to secure financing. The reasons, though, differed in each case.

The explanation is somewhat long, but fairly understandable even to non-economists. A little heavy on some lingo, but if you can read it, you can understand it--probably.

5) What does it mean for the Fed and Treasury going ahead?

A reasonable reading of the recent bailouts suggests a simple rule: if a firm is on the verge of collapse and its ties to the financial system will lead to a cascade of chaos, the firm will be saved. A bankruptcy will be permitted only if the failure can be contained.

Assuming the level of chaos is sufficiently high, this dichotomy is probably consistent with the mandate of the Federal Reserve. The rescue of A.I.G., however, raises some major challenges.

One is where to draw the line. A.I.G. was an insurance company, not a bank or a broker dealer, so the Fed had no special relationship with A.I.G. Presumably, if a very large airline or automaker had been involved in the C.D.S. market, the same reasoning that led to the rescue would apply.

A second challenge comes with defining the acceptable level of chaos. We will never be able to find out what would have happened if A.I.G. had been allowed to fail. Furthermore, there are some reasons to believe that even if A.I.G. continues to operate, the fundamental stress in the financial system will remain. If the rescue does not mark a turning point, the bailout may be viewed quite differently down the road.

And this, I think, is going to be the biggest challenge, that is where to draw the line and how much market chaos to accept.

Yes, the market is pretty chaotic, but there are patterns to it and those patterns provide the ability for firms, investors and ultimately the government to determine when and where to intervene. From this description, I am a little more comfortable with the A.I.G. bailout, but still nervous. Will size matter? Will the manner in which their debt is financed matter?

Right now, my belief is that the government is not pursuing a rational course of action. Not in terms of bailouts anyway, since I am not sure whether or not there are criteria for intervention. That is the fear, not that bailouts are needed, but that bailouts will be given for little or no reason nor any consistent reason. And no, I don't like the "too big to fail" descriptor as it implies that any big company has a case for intervention to protect it from its own stupid decisions.

Economists Tell Us Not To Worry About Manchester United and AIG

A relief for Manchester United fans since that sponsorship deal is not small potatoes.

A.I.G., the largest insurance company in the world; perhaps best known to most of the world as the shirt sponsor of Manchester United soccer club, A.I.G. has assets of over $1 trillion and over 100,000 employees worldwide. The Fed has the option to purchase up to 80 percent of the shares of A.I.G., is replacing A.I.G.’s management, and is nearly wiping out A.I.G.’s existing shareholders. A.I.G. is to be wound down by selling its assets over the next two years. (Don’t worry, Man U will be fine.)

Reid: "No one knows what to do''

Bloomberg is reporting that Congress may adjourn rather than face the crisis.

My cynicism radar just went into high gear.

First, I and the voters of America elected these people to represent us and help address these issues. Now I believe they should do nothing to fix the matter since it is not a problem that can be fixed by government regulation.

But that doesn't mean that there is not other business of the people that needs to be addressed and abandoning their job is a problem of the greatest magnitude. I want their pay to be forfeited for the days they are out of session.

Second, contrary to what I think should be done, the fact of the matter is that Congress is going to pass some sort of legislation to "address" the financial "crisis." I am not so much of a fool as to believe something won't happen. That being said, then Congress needs to stay in session and work the problem.

Third, by looking to get out of town in the midst of a crisis, the Democrats are hoping the Bush Administration will screw the pooch (a pretty likely possibility given that any response will be too rash to be considered properly). That gives them the cynical position of being able to be critical without having to offer something up themselves.

The Financial Industry Mess

Steve Verdon breaks out a good Star Trek reference with "Its dead Jim," but the pointshe makes are solid. Riffing off this essay by Robert Samuelson, Verdon writes:

Then there is leverage–i.e. borrowing money to invest in securities. Really more of a sophisticated form of betting.

Finally, investment banks rely heavily on borrowed money, called “leverage” in financial lingo. Lehman was typical. In late 2007, it held almost $700 billion in stocks, bonds and other securities. Meanwhile, its shareholders’ investment (equity) was about $23 billion. All the rest was supported by borrowings. The “leverage ratio” was 30 to 1.

Leverage can create huge windfalls. Suppose you buy a stock for $100. It goes to $110. You made 10 percent, a decent return. Now suppose you borrowed $90 of the $100. If the price rises to $101, you’ve made 10 percent on your $10 investment. (Technically, the price has to exceed $101 slightly to cover interest payments.) If it goes to $110, you’ve doubled your money. Wow.

Wow indeed. Lehman could have made a huge killing if the market hadn’t turned against them. Of course, that huge killing would likely induce them to gamble again. And again, and again, and again until finally the party went sour.

That is what we are really talking about here, incentives, risk and reward/consequences.

So here is a scenario of the three big financial stories of the past week, Lehman Brothers, Merrill Lynch and AIG, and of Fannie Mae/Freddie Mac, which entity will learn its lesson best?

Put your money on Merrill Lynch, why? Because it doesn't exist as its own entity any more. Sure, Bank of America will probably keep the name around (maybe), but you can be sure that Bank of America will a) keep a tight lease on their leveraging and b) make sure that profits Merrill makes in the future are distributed to Bank of America stockholders, not Merrill stockholders and traders. In short, the market forced the demise of all of htese entities, but only Merrill Lynch has not been sheilded from its failures.

You could argue that Lehman Brothers will learn a lesson, but that is not exactly a sure thing. Bankruptcy, which is not a bad word by the way, can sometimes cause a company to rethink its strategy, but unless more analytical heads prevail at Lehman, the blame will be affixed to the market breakdowns rather than a failing in the business judgment of Lehman's leadership.

Certainly AIG and Fannie Mae/Freddie Mac are going to learn anything in my opinion other than to run to Uncle Sam when the excretment hits the wind producing machine.

Reminds me somewhat of the internet/tech bubble in the 1990’s. People had this wacky notion of the “New Economy”. They had all sorts of goofy ideas such as it higher growth rates were now possible. Negative growth wasn’t really possible. It wasn’t the number of people at work that mattered, but the number of processors. Of course, that all came to an end.

How Wall Street restructures itself is as yet unclear. Companies need more capital. Merrill went to Bank of America because commercial banks have lower leverage (about 10 to 1). It seems likely that many thinly capitalized hedge funds will be forced to reduce leverage. Ditto for “private equity” firms. In time, all this may prove beneficial. Financial firms may take fewer stupid and wasteful risks — at least for a while. Talented and ambitious people may move from finance, where they were attracted by exorbitant pay, into more productive industries.

And there in lies the danger of bailing these firms out. The people who made these mistakes are then insulated from their mistakes. There is no or reduced downside. Being stupid is not longer horrible, just unpleasant and maybe a tad embarassing.

And therein lies the problem. The federal government determined that Fannie/Freddie/AIG were "too big to fail" or occupied too important a position in the economy to be allowed to fail. But I don't really think that is the case. They should be allowed to fail since by preventing their failure, these companies have not been subjected to the brutality and mistake correcting influences of the market place.

The market place is not a neat and tidy place, but it is a wonderful teacher of lessons, and the most important of lessons are usually the most brutal. But if the lesson is not taught, it can't be learned and if the lesson can't be learned, you can bet that it will be repeated and it will surely be worse next time.

AIG Also Too Big to Fail

The U.S. Govnerment just became an owner of AIG, in an $85 billion bailout.

Look, I didn't like the Fannie Mae/Freddie Mac bailout, but at least I could justify it to a certain extent that the government was cleaning up a mess it made by failing to regulate entities created by the government.

But there is no such justification for the bailout of AIG. AIG could have gotten a buyer (maybe) and certainly could have declared bankruptcy.

AIG has 24 months to pay off the loan (like that is going to happen) and the loan is secured by other subsidiary assets, read stock and other assets of AIG companies.

I really don't like the idea of the government become what amounts to a commercial lender. That is what banks are for.

Jamie Gorelick, Mistress of Disaster

Doug Ross holds forth on Jamie Gorelick, one of the well-connected Democrats who made a mint at Fannie Mae.

Didn't know about the separation between counterintelligence and criminal investigations, but it doesn't look good.

Lots of Threads Pointing where?

Power and Control does good job brining lots of threads together with regard to Fannie Mae/Freddie Mac, the origins of the mortgage meltdown that brought those entities down, Congressional oversight failures, Barack Obama and ACORN.

It doesn't go anywhere, but it does seem like there is lots going on in and around this mess.

Who's Next

The mess that is the financial industry on Wall Street.

Financial Services Firms and Campaign Donations - The Caucus Blog - NYTimes.com

NY Times deals with campaign finance contributions from the financial services industry.

Mr. Obama has led the way in contributions during the presidential campaign from individuals associated with the securities and investment industry, receiving $9.9 million, followed by Senator Hillary Rodham Clinton at $7.4 million and Mr. McCain at $6.9 million, according to the Center for Responsive Politics.

But the industry is only Mr. Obama’s fourth largest contributor, while it is Mr. McCain’s third largest.

Mr. Obama has gotten some $370,000 from employees of Lehman Brothers, which has filed for bankruptcy, and members of their immediate families, compared to the roughly $117,000 Mr. McCain has received.

Individuals associated with Merrill Lynch, which agreed to be sold over the weekend to Bank of America, collectively are Mr. McCain’s largest contributor, giving nearly $300,000 to his campaign.

John A. Thain, Merrill’s chairman and chief executive officer, is one of the McCain campaign’s biggest bundlers of campaign contributions, collecting more than $500,000 for him.

Not that it really matters much since the reaction of both candidates is to regulate them more.

Bank of America Buys Merrill Lynch for $44 Billion

From the Wall Street Journal:

In a rushed bid to ride out the storm sweeping American finance, 94-year-old Merrill Lynch & Co. agreed late Sunday to sell itself to Bank of America Corp. for roughly $44 billion.

The deal, which was being worked out in 48 hours of frenetic negotiating, could instantly reshape the U.S. banking landscape, making the nation's prime behemoth even bigger. The boards of the two companies approved the deal Sunday evening, according to people familiar with the matter.

Driven by Chief Executive Kenneth Lewis, Bank of America has already made dozens of acquisitions large and small, including the purchase of ailing mortgage lender Countrywide Financial Corp. earlier this year. In adding Merrill Lynch, it would control the nation's largest force of stock brokers as well as a well-regarded investment bank.

A combination would create a bank of vast reach, involved in nearly every nook and cranny of the financial system, from credit cards and auto loans to bond and stock underwriting, merger advice and wealth management.

I know that Bank of America is pretty sound financially, but if Fannie Mae and Freddie Mac were "too big to fail," what does that make Bank of America?

Basic Description of Fannie Mae and Freddie Mac

When you strip down all the dressing, it is pretty easy to see how Fannie Mae and Freddie Mac got into their problem, and who really is to blame.

Look, I think home ownership is a great thing (I like owning my home), but admittedly my wife and I have come very close to getting in over our head and floundered for a while. That is our fault and we pay the consequences of it. But unfortuneately, there are people who don't take personal responsibility for their actions. But when government makes it easy to escape the consequences, whether you are a person or a corporation, it is very had to expect anything to change.

Fannie, Freddie Deflected Risk Warnings

Good story on the Fannie Mae Freddie Mac fiascos. Just getting caught upon weekend papers