NPR Offers Remedial MBS Analysis for Regulators

I’m going all the way to the end of my limb to say, as often as possible, in as many different ways as I can, that I believe the Federal Deposit Insurance Corp. (FDIC) and the Securities and Exchange Commission (SEC) are misleading themselves and the American public by insisting that asset-backed securitization will resume if only they rewrite the current rules for disclosure. The enhancements they are calling for substantially exist already, and to call for them anew disingenuously implies that they don’t. It implies that the demand that fed the securitization bubble—that fed the non-traditional mortgage lending bubble—that fed the housing bubble—came from investors that read the prospectus. NO! It came from investors who bought based on yield and rating, and shrugged off the details of the collateral and structure. It ignores (deliberately?) the important fact that asset-backed securitization has resumed, (though the argument can be made that the proposed new rules will put the kabosh on it). What hasn’t revived is the securitization of private residential mortgages. So far this campaign of mine has generated a column for the May HousingWire magazine, “The ABS Disclosure Debate Is a Whale of a Red Herring,” (if you don’t get the pun, write to me care of HousingWire, and I’ll gladly explain) as well as last week’s “Money Managers Find Lobbying Is Good PR.” Today, I’m promoting an ongoing special series at National Public Radio that provides an edifying glimpse of the information and processes astute investors use to evaluate an investment in a private-label MBS. That information includes the prospectus (created under the SEC’s “old” ABS rules) and detailed performance data provided monthly by the servicers of the preponderance of private MBS deals outstanding today. Produced by NPR’s Planet Money team, “Planet Money’s Toxic Asset” is one of the best media pieces on “this mess” I’ve come across (up there in my book with a few of the pieces, like “The Warning,” which PBS’ Frontline produced on the financial crisis). They Bought a Toxic Asset, You Watch It Die Five members of the Planet Money team each contributed $200 a piece out of their own pockets to buy a toxic asset. Then, last January, a couple of them — David Kestenbaum and Chana Joffe-Walt — flew out to Kansas City, where Kestenbaum “knew a guy” named Wit Solberg, who used to work on Wall Street, but since has set up his own shop, Mission Peak Capital, in his home town. It took them two days of digging through bid lists from brokers around the country and lots of analysis of several promising prospects before they found a suitable bond. Solberg bought it for about 1 penny on the dollar or $36,000 and sold them a $1,000 chunk of it. Beginning with a 30-minute podcast on March 9, they’d been tracking their investment at NPR with a handful of shorter broadcast segments. The project even got some airtime at CNBC (the link to “Toxic TV” is on the “Planet Money’s Toxic Asset” page) and held a listener poll to name it – Toxie. Best, there is an interactive Web tool that tracks the credit performance of the underlying loan pool from December 2006. This is where you get to watch it die. I recommend the podcast and the CNBC interview for the full flavor of what they did and saw and learned, from Solberg and his compatriots at Mission Peak, from reading prospectuses and from the models (Solberg’s wife Brandy built one named for her that, among other things, sorts through the loan level data readily available from several third party vendors, but they also clearly use Bloomberg bond information). As of March 30, less than half the remaining loans in the pool are current, the rest in some stage of delinquency, foreclosure or liquidation. At the same time, the team has recouped $377 dollars on their investment. It they continue to receive payments through July 2010, they will break even. By Thanksgiving, if the bond remains outstanding, Solberg has told them they could double their investment. They have committed, by the way, to giving any profit on the investment to charity. So what did they buy? They bought a credit tranche – the B6 class of Harborview Mortgage Loan Trust 2005-10. According to the prospectus, it was “a condition to issuance” of the B6 class that it be rated at least “A3” by Moody’s and “A-” by S&P. Lookup at S&P indicates it is currently rated CC. It’s backed by MTA ARMs (the index is a 12-month moving average of the one-year constant maturity Treasury rate) originated by Countrywide and sold to Greenwich Capital. About 85% of the loans were made on limited or no documentation. As they explain (very clearly too) in the podcast, there are two lower rated tranches still outstanding between B6 and death (B7 and B8). I recommend they add a visual to their tracking page that shows losses eating away at their credit support. And add some detailed, at issue collateral characteristics, like documentation, property loan-to-value and borrower debt-to-income ratios, credit scores. Why Should Rule Makers Check it Out? The regulators who are itching to double down on disclosure requirements should spend 45 minutes with the Planet Money folks and Toxie. They need to hear Kestenbaum and Joffe-Walt talk about the prospectus. Or as Solberg refers to it, “the book.” The book, Joffe-Walt elaborates, “is a 604-page document no one ever expected anyone to read. It describes the bond in excruciating details.” That should be a “heads up” to rule-makers. There is plenty of information on which to make informed investment decisions. There always was. In the prospectus, on the Bloomberg and in the models. Burying another generation of MBS investors in more data will not get people to read the prospectus and take the data to heart. In the CNBC interview with Kestenbaum, the talking heads get right down to the facts. They want to know, “What does it look like?” “What does it look like? Here I’ll show you.” Holds up three inches of prospectus bound by a huge black clip. “It’s like 300 pages of boringness.” That got a laugh, but the CNBC crew came back to it. “A lot of the criticism was that people bought these things and they didn’t know what was inside. Now you have one. How hard is it to look through, see what’s inside? … is that kind of research that we’ve criticized Wall Street for not doing, is it possible?” Anyone who has heard the podcast or March 12 broadcast knows the answer to that question is yes. Says Kestenbaum, prospectus in hand, “I can understand why people fell asleep and just said ‘Look, it’s got a Triple-A rating on it, it’s probably fine’.” Some critics of private label securitizations will claim Planet Money makes a good case for simplifying deals. I say no to that. Complex deal structures reflected the diversity of investors looking for mortgage yields and the diversity of their maturity, yield, credit quality and other investment requirements. Imposing an artificial “simplicity” on structures just limits the potential demand. And it panders to the lazy. The ones who want the money to be easy. The ones who didn’t want to read the prospectus in the last round of asset bubbles. Reading a prospectus takes time, patience and effort. That’s the old fashioned way to make money, isn’t it?