the house down the road…

…has been unoccupied since the financial crisis of 2007. As I understand it, someone bought it during the heady housing-boom days of 2006, when it would have been worth about $150,000, but in short order mailed the keys back to the bank that held the mortgage and left town.

There were a couple of early, unsuccessful attempts at sheriff sales to recover unpaid property taxes. But the property has lain dormant since, until the mortgage owner held an online auction a month or so ago.

The most interesting part of this to me is that there had been a lien against the house of around $600,000, or almost 4x the eventual selling price.

I presume this loan was part of a larger package sold to institutions, the nuts and bolts of which I have no idea about. I think the rationale for keeping it on the books for such a crazy amount must have been:

–the 2006 mortgage could have been for, say, $300,000. If so, the major purpose for seeking the original loan was to take the money and run, but the mortgage-holding entity never detected this and relied on the original appraisal

–the entity that held the loan continued to accrue unpaid interest and penalties, showing this in the accounting statements either as income or an addition to reserves, even though no money was coming in. …making a big minus into an apparent plus

–there was no mechanism in the package for regular portfolio pruning–seizing a non-performing property, paying accrued taxes and selling it

Please comment if you have any ideas.

Two conclusions:

–I think we’re in the early days of a cyclical shipwreck of unusually large size in the office building market in the US. My guess is that we’ll be seeing a similar period of loan holder reluctance to write either office building asset value or the loans they secure down to fair market value

–my guess is that this mortgage is part of a large package that has come to the end of its life and is being liquidated. It would be a lot worse if banks were clearing the decks of housing exposure to accommodate a large inflow of dud office building loans.

3 responses

  1. Accounting rules, financial regulations, frauds, multiple mortgages, tax liens…I’ve seen muttiple houses in my neighborhoods in NY and FL fall into decay and lose market value…for mysterious reasons.

    • Thanks for your question. I’m not a bank expert (I try to avoid them as investments in the US, if I can), but I can tell you how things worked. Who ultimately made money, other than loan originators, is less clear. This blog post on the resulting crisis is pretty good.

      In the broadest terms, if I want a home mortgage loan, I go to a mortgage broker or a bank, where I pay a processing fee and get the loan if I qualify. The broker/bank immediately resells that loan, either to a government-related entity like Fannie Mae, or to a big money center bank. If the latter, bunches of loans are bundled into big fixed income securities (Collateralized Mortgage Obligations (CMO)) backed by the loans. The CMO is sliced into tranches according to perceived risk and most of it sold on to institutional money managers (who sometimes work for other banks).

      I get the benefit of getting a mortgage. The issuing bank gets a fee for initiating the loan. The bank that creates the CMO gets fees as it sells the tranches, plus a maintenance fee for servicing the CMO.

      The housing boom started after the Fed dropped interest rates to a low of1% in late 2002 to fight the recession triggered by the bursting of the bubble in early 2000. The FFR stayed below 2% until the tail end of 2004. The low cost of a mortgage started the subsequent housing boom. So everyone in the sales chain was making a lot of money at first.

      Sometime in 2005-06, the housing industry was still booming, but basically everyone with pristine credit already had a mortgage (or two). So to keep the party going, lending standards started to slip. Ultimately, the three ratings agencies were played against one another to get AAA ratings for iffy CMOs. I’ve also read assertions that some CMO issuers even got ratings for a specified set of loans but substituted inferior securities in the CMOs they sold. By mid-2007 a significant number of the homeowner/borrowers were having trouble making their loan payments, which made the CMOS look a lot riskier. By early 2008, Bear Stearns was in bankruptcy, with Lehman following later in the year.

      Who made money? …the mortgage brokers and the bank that originally issued the loans collected lots of fees and had little exposure to the dud loans. PNC, a very shrewley-run bank, kept out of the CMO business, so its good reputation was burnished when the wheels fell off. Investors who shorted the late CMOs made a huge amount. Presumably the brokers and investment bankers who promoted the CMO boom made out well, too, based on commissions they earned in the earlier days. My impression is that the worst of the CMOs found a home in continental European banks, who would have been the ultimate big losers.

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