Thursday, January 17, 2008
Deal Fees Under Fire Amid Mortgage Crisis: WSJ
Letter to The Wall Street Journal:
I found your article in The Wall Street Journal to be very interesting. However, while you touch upon many of the factors that fueled the lending excesses, I question your emphasis on the role that the fee structures in the lending and mortgage industries played. To be fair, you discuss both the fee structure in these industries and the subject of executive compensation, which I believe to be two distinct problems. I am only addressing the first.
The core of my disagreement with your emphasis is that I believe the problems are systemic and you favor an approach which searches for the culprit and assigns blame. Unfortunately, most of the blame under your analysis will fall on the "little guy", the mortgage broker who "pushes" his product on the under informed borrower and walks away with a commission for a loan that is likely to be in default within months or years, at best.
The problem in the industry is that there are inadequate controls over the sales people selling the product, in this case money for mortgages, or securities that bundle mortgage obligations. This is aggravated by the fact that the credit decisions are either not properly made or the lending criteria are relaxed or ignored. Except in the case of fraud, the "culprits" are really the lending institution executives who make lending policy and credit committees, not the sales people. Every business man knows that if he doesn't enforce limits on his sales people, either by way of minimum prices below which a product can't be sold, or explicit authorization which must be sought, it will only be a matter of time before his sales people put him into insolvency. Credit checks and controls conducted by typical businesses are never conducted by the sales force. In fact, the better and proactive your sales team, the more likely it is that management will have to be vigilant and on occasion reign them in. This is a healthy dynamic of a system with adequate checks and balances.
We have moved to a financial system that requires an endless supply of money, and a high level of liquidity to survive. You correctly note that mortgages used to be held primarily by the originating entity. With the birth of techniques for continuously re-cycling capital, greatly promoted by the Resolution Trust Company in the wake of the Savings and Loan crisis in the late 80's and early 90's, a lending institution which securitizes and sells off its loan portfolio, creates a virtually never ending supply of capital to make additional new loans. This liquidity means that money chases product and inevitably leads to a lowering of credit criteria until we find ourselves in a crisis.
Two years ago, I had an employee in Virginia Beach who was a foreign national, employed on a temporary work visa. One day he proudly announced that he purchased a home and was able to walk away from the closing with $2,500 because he had obtained a mortgage that was $2,500 in excess of the cost of his home, including the mortgage costs and fees. I congratulated him and told him that he was witnessing the end of the local housing boom. He is now in back in Israel, his house recently sold in a foreclosure sale for considerably less than his purchase price. His mortgage broker was a genius; his banker was the idiot. Unfortunately, you and I will bear the tab.
