455 posts categorized "Financial Institutions"

SPOE: Backdoor Bailouts and Funding Fantasies?

posted by Adam Levitin

I'm thrilled that Jay Westbrook has finally come into blogosphere with his posts on Single-Point-of-Entry.  I've blogged a little on SPOE already, but I want to highlight what I still think are two critical problems with SPOE.  In keeping with Jay's spirit, let's call them "Backdoor Bailouts" and "Funding Fantasies". 

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Translating the Warren-Yellen Exchange

posted by Adam Levitin

Senator Elizabeth Warren surprised a lot of people by laying into Federal Reserve Board Chair Janet Yellen as hard as she ever laid into Timothy Geithner. I think this was a really important exchange. But it's easy to miss exactly what's being communicated in it. Senator Warren's comments can basically be translated as follows:  

"Janet, I like you, but let me level with you. You need to replace your General Counsel, pronto. He's not on the same page about regulatory reform, and it's a problem. There's really no place for obstruction by Fed staffers, even the General Counsel. It's time for him to go."

There was a further subtext, though, that I think should be highlighted, and that's "What you do about your GC is a shibboleth about whether you're serious on regulatory reform."

Continue reading "Translating the Warren-Yellen Exchange" »

TBTF and The Single Point of Entry (SPOE): Part Two

posted by Jay Lawrence Westbrook

In an earlier post I described the FDIC’s proposed SPOE approach to resolution of SIFI banks and other financial institutions under Title II of Dodd-Frank. That post discussed two of the three components of SPOE: control of the process by the regulator and no bailout for management or owners. This post lays out the role of the third component, the “forlorn hope” debt. Shutterstock_95970961

That debt is unsecured debt owed to a bank holding company (BHC) and predestined to get little or nothing in case of the failure of the BHC. It serves in effect as a debt reserve to buffer the financial distress of the bank group. By being dumped, it would make the group as a whole solvent. By contrast, legislation already passed by the House would ignore the need for the reserve, thus setting up another bank bailout. The reserve debt component of SPOE awaits a strong rule from the Fed to make it a reality. This post discusses what the rule must do.

Continue reading "TBTF and The Single Point of Entry (SPOE): Part Two" »

Busted Banks: TBTF and the Single Point of Entry

posted by Jay Lawrence Westbrook

Shutterstock_95970961A Single Point of Entry (SPOE) sounds like the route of a returning astronaut or perhaps a building’s security plan or even a sex guide, but actually it is the FDIC’s proposal for saving the financial system when a giant financial institution strikes out on the derivatives market or discovers it has a school of London Whales. SPOE is important because the FDIC and the Bank of England have agreed on it as the best approach to a global resolution of a failing SIFI, the polite term for a TBTF bank. That agreement is crucial, because the largest banks can only be resolved on a global basis.

SPOE is a method of resolution of a SIFI in financial distress without having to choose between a government bailout or the collapse of the global financial system. By contrast, legislation passed by the House would privatize the SPOE process and likely result in future bailouts. The legislation is being marketed under the term SPOE, but bears little relationship to the FDIC proposal. The three key aspects of the FDIC plan are that a) the resolution process will be controlled by the regulator; b) there will be no bailout of the SIFI’s owners and management; and c) the creditors of the parent holding company will be tossed overboard, returning the bank group to solvency by erasing debt and lessening the need for government money to make the process work. This post discusses the first two points, control and no bailout, while a second post will talk about the debt dump. 

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A 21st Century Trust Indenture Act?

posted by Adam Levitin

MBS investors suffered a serious legal blow a couple of months back when the Second Circuit held that the Trust Indenture Act of 1939 doesn't apply to MBS

The Second Circuit's decision hinges on treating a "mortgage" as a "security." That's rather counterintuitive.  The Trust Indenture Act doesn't define "security," but refers to the Securities Act's definitions. The Securities Act defines "security" to include "any note" but the definition bears the caveat "unless the context otherwise requires." I'd think that the context would have pretty easily counseled for reading "note" not to include residential mortgages. What the Securities Act is trying to pick up are issuances of corporate notes.

Frankly, I think the Second Circuit's reading (and the resulting decision) are absurd.  First, it is hard to see any context in which "note" should be read to include "residential mortgage" (especially in light of all of the other things that constitute a "security" under the Securities Act, when Congress could easily have included a "mortgage" in the definition).  Second, the Second Circuit's reading arrives at an absurd policy result.  It excludes from the Trust Indenture Act the very sort of securities (proto-MBS) that were the driving force behind the creation of the Trust Indenture Act of 1939 (and the NY state Trust Indenture Act of 1935 before that).  The groundwork for the federal Trust Indenture Act was a 1936 SEC report authored by William O. Douglas, Jerome Frank, and Abe Fortas (among others) that documented in incredible detail the abusive role of trustees in mortgage bond reorganizations.  (While bankruptcy scholars have tended to focus on the railroad reorganizations chapter of the report, the real estate chapter is just as important, and goes a long way to understanding why Douglas was such a champion of the absolute priority rule.)

The point here isn't to belabor a questionable decision by the Second Circuit (which did not mention the policy issues in its decision, but I don't know if they were argued), but to underscore the ruling's consequence. At least in the 2d Circuit, it's now clear that MBS investors are not protected by the Trust Indenture Act, and that's a bad thing. This decision means that there's very little (if anything) protecting investors from wrongdoing by MBS trustees, whether acts of omission (e.g., failing to police servicers) or commission (e.g., entering into sweetheart settlements of rep and warranty liability). This is exactly what the Trust Indenture Act was supposed to prevent. If Congress cares about investor protection, it's time to devise a 21st century Trust Indenture Act. 

[Update:  A state securities regulator emailed me to draw my attention to the Supreme Court's 1990 decision in Reves v. Ernst & Young.  That decision expressly adopted an older 2d Circuit case's test regarding what is a security. That case excluded residential mortgage loans from the definition of "security" in the context of a securities fraud action. The 2d Circuit cited to its older decision (but not the Supreme Court's subsequent adoption of its test), but said that the context was different. Unfortunately, the 2d Circuit didn't think it was necessary to explain what about that context was sufficiently different to merit a different result. I can't see any plausible contextual distinction. There's really no context in which loans made for personal, family, or household purposes should ever be considered securities. They are subject to entirely different regulatory regimes, they are part of different markets, and no one would ever think to refer to such loans as securities. Except, apparently the 2d Circuit. It's one thing to arrive at the wrong conclusion after a serious analysis, but I am troubled that the 2d Circuit didn't bother to explain itself in this context.]  

 

Size Matters: Community Banks' Real Problem

posted by Adam Levitin

Community banks are ailing.  Over the past decade many of them have failed or been gobbled up by larger banks. What's going on? 

A new study by a fellow and a masters student at the Harvard Kennedy School of Government thinks it has found the culprits:  Dodd-Frank!  The CFPB!  Regulation! Not surprisingly, this paper is already getting circulated by bank lobbyists as a prooftext for their anti-regulatory agenda. 

Let me make no bones about this study. It is gussied up to look like serious academic research, with footnotes and working paper series cover page, but don't let looks fool you. The study doesn't conform with basic norms of scholarship, such as discussing contrary evidence and having conclusions flow from evidence. Instead, the study is really a mouthpiece for a big bank anti-regulatory agenda that pretends to really be looking out for community banks.  

I'm not going to spend the time on a full-blown Fisking of this piece, but let me point out some serious problems and then talk about the real problem facing community banks and how big banks exploit community banks' problems to advance their own agenda. 

Continue reading "Size Matters: Community Banks' Real Problem" »

Just How Dead Is the Private-Label MBS Market?

posted by Adam Levitin

Pretty darn dead. In 2014, there were all of 22 private-label RMBS deals. These deals provided $5.67 billion in financing for 7,342 mortgages. Let that sink in for a second. The private-label market financed fewer home mortgages than were made in the District of Columbia last year.  

Perhaps the private-label market's defenders will finally accept that it is a seriously broken market and that fixing it isn't just a matter of interest rates moving a few basis points. This is a market that needs to take major steps to restore investor confidence, and that means, among other things, a total redesign of servicing/trustee compensation structures and roles and a major standardization of deal documentation so that investors won't have to worry about what language got snuck in on page 73 of a 120 page indenture.

Antonio Weiss Nomination Post-Mortem

posted by Adam Levitin

There've been a bunch of post-mortems of the Antonio Weiss nomination in the press the last few days (see, e.g., here, here, and here). When I read them I often feel like I'm reading a story about a kid who went to a fancy eastern boarding school, where he was head of the literary society, lettered in three sports, and did lots of charity work, but didn't get into the Ivy League school where all of his family and family friends went. The result: shock and outrage that the kid was denied his birthright! 

Being nominated for Undersecretary of the Treasury isn't quite like getting into Harvard (or even Yale). Yet reading Weiss's defenders' (and their all-too-willing jouralist abetters), one would think that's the story. And that underscores precisely what the problem was with the Weiss nomination, and what Weiss's defenders just don't get (or want to admit they get): the assumption that Wall Street success entitles someone to an important policy position for which they have no apparent qualifications.

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A Good Question

posted by Stephen Lubben

In today's Short View Column, Dan McCrum examines falling oil prices and the futures market, and then concludes:

But the point of this story is not that some think they know what will happen next. Rather, it is that the price of one of the most widely used and heavily traded commodities has been able to halve in a matter of months.

The oil price is not some arcane derivative tied to dodgy mortgages, or a stake in an internet start up. It is the price of an industrial input paid by thousands of large and well-informed buyers. Low oil prices are not an unimaginable abstraction, merely something not seen for a while.

So, a question presents itself: if financial markets can be so wrong about the price of oil, what else are they missing?

 

Safe Banking

posted by Adam Levitin

Just in time for the new year, I've got a new article called Safe Banking up on SSRN. The article is a first principles reexamination of the industrial organization of financial services. It identifies the institutional combination of deposits and lending as the key problem in our financial system. We've developed an enormous financial regulatory state to attempt to hold these lending and deposits together, but it might be time to admit that bank regulation just doesn't work and can't. Our bank regulatory system is simply too complex and too politicized to work flawlessly as it must.

My solution is a radical, yet conservative structural change that has become possible because of recent technological and market changes: mandate the institutional separation of deposits from lending in both traditional and shadow banking markets, a reform I call "Pure Reserve Banking". Pure Reserve Banking means 100% reserve banking plus withdrawal of the entire panoply of government support and subsidization of shadow banking products. There's a host of financial stability and political economy benefits that would flow from such a change, but at core Pure Reserve Banking means ending the subsidization of a volatile growth economy in which gains are privatized and losses socialized and shifting to a more stable—and inherently equitable—growth economy.

The abstract is below the break:

Continue reading "Safe Banking" »

For the Soul of the Party: the Budget Showdown and Financial Reform

posted by Adam Levitin

Will we have an appropriations bill before a government shutdown? The fight over the 2015 Appropriations Bill is now focused on one of the non-appropriations measures stuck onto the bill by the House GOP. That provision would repeal section 716 of the Dodd-Frank Act, which prohibits bailouts of swap entities and pushes certain types of particularly risky swaps out of insured depositories. Section 716 might be thought of as the "Banks Aren't Casinos" provision of Dodd-Frank.

On the surface, the fight about section 716 looks like a partisan squabble. But the real issue is the internal Democratic Party struggle going on because if the Democratic leadership doesn't force party discipline in opposing the appropriations bill with this provision, the appropriations bill will likely pass. The outcome of the internal Democratic debate is frankly more important than whether section 716 gets rolled back. (I write that because I don't think the no-bailouts prohibition in section 716 is credible or that any prohibition on bailouts can be credible. When things get hairy, we'll bail, law be damned.) No, what matters here is how Democrats line up. The fight over section 716 is a struggle for the soul of the Democratic Party.

Continue reading "For the Soul of the Party: the Budget Showdown and Financial Reform" »

What Qualifies an Investment Banker to be a Regulator?

posted by Adam Levitin

As the Antonio Weiss nomination contest heats up, I'd like to pose a question that seems to be taken for granted by Weiss's supporters, namely that he's obviously qualified for the job.  As far as I can tell, Weiss's chief qualifications are that (1) he's an investment banker and (2) he's a major Obama donor, who (3) professes Progressive sympathies. (It's awesome that he bankrolls the Paris Review, but surely that's not what qualifies him.)  

Weiss isn't Obama's only donor, and his Progressive bona fides seem to consist of co-authoring a Center for American Progress piece in favor of progressive (small p) taxation.  So really the case for Weiss's qualification comes down the the fact that he's an investment banker. His investment banking experience appears to be in mergers and acquisitions, and at an investment bank that does not have a depository.  Why on earth does that qualify him to be the Undersecretary for Domestic Finance?  

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Local and State Treasurers Can Build Wealth in Struggling Communities

posted by Nathalie Martin

Sometimes you can beat the door down with efforts to get Federal and State officials to tackle problems, but at the end of the day, locals can best get the job done, quietly and quickly. A story in Monday’s New York Times bears this out.  For example, San Francisco City Treasure Jose Cisneros noticed that families who finally took advantage the of the earned income credit, the country’s largest public benefit program, often had no bank accounts in which to deposit their refunds. This meant losing a portion of this important public benefit to check cashers and others.

Because of this problem, Treasurer Cisneros started a program called Bank On, that helps people on the financial fringes open bank accounts and develop credit histories. This model has spread across the country, leading the Treasury Department to conclude that Bank On has “great potential” to “create a nationwide initiative that attends to the needs of underserved families and works to eradicate financial instability throughout the country.” In 2010, Mr. Cisneros also started Kindergarten to College, a program that automatically opened a bank account with $50 ($100 for low-income families) for every kindergartner in public schools. The city pays for the administration and initial deposits, while corporate, foundation and private donations provide matching money to encourage families to save more. His office even figured out how to open bank accounts for thousands of children without social security numbers.

These and similar effort have now been replicated in more than 100 cities, showing that even mundane public races might make a big difference in the health and well-being of citizens, if not the entire U.S. economy.

QRM's Missed Opportunities for Financial Stability and Servicing Reform

posted by Adam Levitin

There are three major new regulations shaping the housing finance market:  QM (qualified mortgage), QRM (qualified residential mortgage) and Reg X.  QM is a safe harbor from the statutory ability-to-repay requirement that applies to all mortgages.  QRM is a safe harbor from the statutory risk retention requirement that applies to mortgage securitization.  And Reg X are the new mortgage servicing regulations.  It's important to understand how these three regulations interact and how they're going to affect the housing finance market.  (There's also new TILA/RESPA disclosure stuff, but I don't think that's particularly impactful, in part because I don't think disclosure regulation is especially effective in most real world circumstances.) 

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Are You Sure That's Your Testimony?

posted by Adam Levitin

Yves Smith has had some great coverage of the AIG bailout trail over on Naked Capitalism.  While the litigation, as Yves has characterized it, is a bit like a brawl between the ugly stepsisters, it's telling us all kinds of stuff we didn't know (or at least couldn't document) about the 2008-09 bailouts.   

Today's coverage is a must-read piece by Matt Stoller about the civil service regulatory capture at the Fed, as personified by its general counsel.  The AIG trial has highlighted some of the worldview problems at the Fed. It has also included some jaw-dropping exchanges like the following:

Q: Would you agree as a general proposition that the market generally considers investment-grade debt securities safer than non-investment-grade debt securities?
A: I don’t know.

You can't make this stuff up.  I'll let readers draw their own conclusions. 

Unseal the Doomsday Book!

posted by Adam Levitin

When I first heard about the NY Fed's Doomsday book, my initial thought was, "Wow, they've got a comprehensive survey of land titles, so MERS really isn't an issue!" Then I realized it was a Doomsday book, not a Domesday book. Apparently the Doomsday book is some sort of "in case of emergency" do-it-yourself bailouts manual that outlines the steps the NY Fed believes it can legally take to stave off economic Armageddon. 

I'm rather puzzled by the NY Fed's claim that it should be kept under seal.  I guess we'll find out more of the Fed's reasoning soon enough, but it hardly seems to be particularly sensitive of secret information.  This isn't the Coca-Cola recipe or some sort of trade secret. It's hard to believe that we didn't see the full panoply of the Fed's bailout powers on display in 2008, and perhaps then some. (A colleague has suggested that they might be developing some sort of secret, stress-tested, boilerplate clad bailout machine in the basement of the NY Fed. Of course such a bailoutbot would exercise its own free-living-will. Its only vulnerability would be following a haircut.)

The fact that the Doomsday book apparently contains legal advice is not a seal issue--that's a privilege issue. Once that privilege is waived (I'm guessing it has been), I can't see why the fact that the document includes legal advice presents cause for remaining under seal. 

Courts have a lot of discretion in what they can allow to remain under seal, but I just don't see the Doomsday book as fiting into traditional categories of sealed documents. But as I said, we will see.  

Would it Surprise You to Know

posted by Stephen Lubben

That I still think the "safe harbors" as currenlty drafted are a bad thing?

Hacking and Systemic Financial Armageddon

posted by Adam Levitin

The revelation that 76 million JPMorgan Chase consumer accounts were compromised by hacking should be scaring the heck out of us. The Chase hacking is a red flag that hacking poses a real systemic risk to our banking system, and a national security risk as well. Frankly, I find this stuff a lot scarier than either ISIS or our still largely unregulated shadow banking space.  

Consider this nightmare scenario:  what if the hackers had just zeroed out all of those 76 million Chase accounts and wipes out months of transaction history making it impossible to determine exactly how much money was in the accounts at the time they were zeroed out? The money wouldn't even have to be stolen.  Just the account records changed.  What would happen then?

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Markets?

posted by Stephen Lubben

Some thoughts on how much faith we should have in the debt markets, and whether they are actually markets at all, over at Dealb%k.

Rants and Book Recommendations

posted by Stephen Lubben

IMG_4527Just back from European Law and Economics, where the big topics at the coffee breaks were the Scottish vote, until that was resolved, sort of, Argentina, which is widely seen as a self-created mess for the U.S. courts, and the Air France strike, which caused presenters and chairs to miss sessions at random throughout the conference.

I also came home to find that the Financial Times had revised its paper format to make everything look like a "Special Advertising Section." Sigh.

But the flight home was helped along by a good read:  Money and Tough Love, by Liaquat Ahamed. It's an inside look at the IMF in action, and while not quite as intimate as some of the other books in the same series from publisher Visual Editions, it was a great read. The second third of the book provides a very nice overview of the Irish situation in particular.

Single-Point-of-Entry: No Bank Left Behind

posted by Adam Levitin

Last December the FDIC put out for comment a proposal for a Single-Point-of-Entry (SPOE) Strategy to implement its Orderly Liquidation Authority (OLA) under Title II of Dodd-Frank. Single-Point-of-Entry has gotten a lot of policy traction. The Treasury Secretary supports it and there’s huge buy-in from Wall Street.  And it’s an approach that is likely to ensure financial stability in the event that a systemically important financial institution gets into trouble.  There’s just one problem with it.  SPOE means “No Bank Left Behind”.  

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MBS Settlements--Following the Money

posted by Adam Levitin

Financial crisis litigation has been going on for several years now and has been resulting in lots of piecemeal settlements. As a result, it's easy to miss the big picture.  There's actually been quite a lot of settlements covering a fair amount of money.  (Not all of it is real money, of course, but the notionals add up).  

By my counting, there have been some $94.6 billion in settlements announced or proposed to date dealing with mortgages and MBS.  

Continue reading "MBS Settlements--Following the Money" »

Lessons From Postal Banking's Past

posted by Pamela Foohey

Post OfficeMehrsa Baradaran (University of Georgia) has a short piece in Slate tracing the history of the U.S. Postal Banking system. In sum, post offices once were banks, the system was in place for over 50 years, and post offices can be banks again. Indeed, at its height, the postal banking system was used by millions of Americans. Then banks moved into the majority of cities and towns and offered customers a more attractive option than using postal savings depositories. But when these banks began leaving low-income neighborhoods in the 1970s, the postal banking system already had died a quiet death, leaving the market open to payday lenders and check cashing operations. As Adam pointed out in his op-ed in American Banker from earlier this year, and as Mehrsa's piece highlights, postal banking may be the key to the current lack of financial inclusion. The piece is a quick and interesting read.

Post office building image courtesy of Shutterstock.

The Problem of Centrality

posted by Stephen Lubben

The Harvard Law School Forum on Corporate Governance and Financial Regulation has a feature on my new paper about the resolution of CCPs (aka clearinghouses).

Once More, With ... Something

posted by Stephen Lubben

So we are again treated to what has become an annual tradition:  the analysis of Dodd-Frank on its anniversary.  The Republicans trot out a report critical of the Act, and the Democrats defend it.  Yawn.

Actually, this year the Republican report is not half bad.  Sure it contains the usual rubbish about the Community Reinvestment Act, which really had nothing to do with the crisis.

But in many respects, it raises good points and real concerns about whether Dodd-Frank actually solved the "too big to fail" problem, and whether regulators got off too easy by saying they needed new powers, while barely using the ones they already had.

The name on the cover will scare off some Slips readers – Chairman Hensarling's politics are rather strident, to put it mildly.  But the report deserves to be read.

On the other hand, former Congressman Frank's retort that "[t]he Dodd-Frank Act is clear:  Not only is there no legal authority to use public money to keep a failing entity in business, the law forbids it" is something of a head scratcher.

The law against bailouts is binding on Congress in the same way that Conan Doyle was bound by his decision to send Holmes to Reichenbach Falls.  

Dodd-Frank was a start, but we should not pretend it is perfect.  The Republican report raises some very important questions – I likely disagree with them about how to address those questions, but that does not take away from their importance.

A Bubble in Deceptive, Abusive Subprime Auto Lending?

posted by Jean Braucher

In a long story in today's edition, the New York Times is reporting a bubble in often deceptive and abusive subprime auto lending on unaffordable terms, including very high rates of interest.  Although not quite the threat to the overall economy that the subprime mortgage bubble created eight or nine years ago, this apparent new bubble in lending for used vehicles has some similar features (targeting vulnerable consumers, lax underwriting, securitization, investors seeking high returns) and is causing significant pain for low income and unsophisticated borrowers.  A few regulators are mentioned in the story, but oversight so far seems to have been lax.

CFPB: Let Consumers Make Their Complaints Public; All Rejoice

posted by Dalié Jiménez

CFPBcomplaintsbyproductThis week the CFPB announced it's seeking public comments on a proposed policy that would allow consumers who file a complaint with the agency to share all of the (non-personally identifying) details of that complaint with the public as part of its Consumer Complaint Database. (Right now the database only identifies the financial product complained about, name of the company, and a category identifying the topic of the complaint).

As a researcher, I am beyond thrilled at the possibility of being able to drill down into the details of complaints. This might allow us to go even further than the CFPB or Ian Ayres and others did last year in analyzing the complaint database. 

Good players in the consumer finance space should be thrilled too: more data will allow us to really separate those who are doing right by consumers from those who aren't. It would allow the public or researchers to decide for themselves whether someone was making a mountain out of a molehill or if was identifying a real problem in their complaint. The fact that we currently don't have transparecy into complaints is a common (and justified) complaint by the debt collection industry. The CFPB is also proposing to make public the institution's response to the complaint (at their option). Anyone could then evaluate whether they think particular industries/institutions are responding appropriately to complaints. 

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Operation Choke Point Hysteria: Are Choke Point's Critics Responsible for the Account Closings?

posted by Adam Levitin

At today's House Judiciary Committee hearing on Operation Choke Point it seemed that Choke Point's critics are conflating a fairly narrow DOJ civil investigation with separate general guidance given by prudential regulators.  In particular, Rep. Issa attempted to tie them together by noting that the DOJ referenced such guidance in its Choke Point subpoenas, but that's quite different than actually bringing a civil action on such a basis (or on the basis of "reputational risk"), which the DOJ has not done.  

There is a serious issue regarding the bank regulators' use of "guidance" to set policy. Guidance is usually informal and formally non-binding, but woe to the bank that does not comply--regulators have a lot of off-the-radar ways to make a bank's life miserable.  This isn't a Choke Point issue--this is a general problem that prudential bank regulation just doesn't fit within the administrative law paradigm.  There are lots of reasons it doesn't and perhaps shouldn't, but when it is discovered by people from outside of the banking world, it seems quite shocking, even though this is how bank regulation has always been done in living memory:  a small amount of formal rule-making and a lot of informal regulatory guidance.  By the same token, however, compliance with informal guidance is enforced informally, through the supervisory process, not through civil actions, precisely because the informal guidance is not actionable.  Yet, that is what Choke Point critics contend is being done--that DOJ is using civil actions to enforce informal guidance.  

I don't think that's correct (or at least it hasn't been shown).  But the conflation of DOJ action with prudential regulatory guidance may be creating the very problem Choke Point's critics fear.  

Bank compliance officers may be hearing what Choke Point critics are saying and believing it and acting on it.  If compliance officers believe that the DOJ will come after any bank that serves the high-risk industries identified by the FDIC or FinCEN, not just those that knowingly facilitate or wilfully ignore fraud, they will respond accordingly.  The safe thing to do in the compliance world is to follow the herd and avoid risks.  The attack on Operation Choke Point may well have spooked banks' compliance officers, who'd aren't going to parse through the technical distinctions involved.  

What matters is not what the DOJ actually does, but what compliance officers think the DOJ is doing, and they're likely to head the loudest voice in the room, that of Choke Point's critics.  So to the extent that we are having account terminations increasing after word got out of Operation Choke Point it might be because of Choke Point's critics' conflation of a narrowly tailored civil investigation with broad prudential guidance.  Ironically, we may have a self-fulfilling hysteria whipped up by Choke Point critics, who shoot first and ask questions later.  

Operation Choke Point: Payday Lending, Porn Stars, and the ACH System

posted by Adam Levitin

Pop quiz:  what do payday lenders have in common with on-line gun shops, escort services, pornography websites, on-line gambling and the purveyors of drug paraphrenalia or racist materials?  

You can read my testimony for this Thursday's House Judiciary Committee, Subcommittee on Regulatory Reform, Commercial, and Antitrust Law's hearing on Operation Choke Pointo find out. Or you can just keep reading here.  

Continue reading "Operation Choke Point: Payday Lending, Porn Stars, and the ACH System" »

Me in DC

posted by Stephen Lubben

A quick note on a couple of events today that might be of interest to Slips readers:

First, I'm participating in an ABI webinar about "chapter 14" and related topics.

Second, I'll be testifying in front of the House Judiciary Committee on proposed legislation to add a subchapter V to chapter 11, for financial institutions.

Otherwise, resume your summer and I'll bother you no more.

Larry Summers' Attempt to Rewrite Cramdown History

posted by Adam Levitin

Larry Summers has a very interesting book review of Atif Mian and Amir Sufi's book House of Debt in the Financial Times. What's particularly interesting about the book review is not so much what Summers has to say about Mian and Sufi, as his attempt to rewrite history. Summers is trying to cast himself as having been on the right (but losing) side of the cramdown debate. His prooftext is a February 2008 op-ed he wrote in the Financial Times in his role as a private citizen. 

The FT op-ed was, admittedly, supportive of cramdown. But that's not the whole story. If anything, the FT op-ed was the outlier, because whatever Larry Summers was writing in the FT, it wasn't what he was doing in DC once he was in the Obama Administration.

Let's make no bones about it.  Larry Summers was not a proponent of cramdown.  At best, he was not an active opponent, but cramdown was not something Summers pushed for.  Maybe we can say that "Larry Summers was for cramdown before he was against it." 

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Book Review: Jennifer Taub's Other People's Houses (Highly Recommended)

posted by Adam Levitin

I just read Jennifer Taub's outstanding book Other People's Houses, which is a history of mortgage deregulation and the financial crisis. The book makes a nice compliment to Kathleen Engel and Patricia McCoy's fantasticThe Subprime Virus. Both books tell the story of deregulation of the mortgage (and banking) market and the results, but in very different styles. What particularly amazed me about Taub's book was that she structured it around the story of the Nobelmans and American Savings Bank.

The Nobelmans?  American Savings Bank? Who on earth are they? They're the named parties in the 1993 Supreme Court case of Nobelman v. American Savings Bank, which is the decision that prohibited cramdown in Chapter 13 bankruptcy. Taub uses the Nobelmans and American Savings Banks' stories to structure a history of financial deregulation in the 1980s and how it produced (or really deepened) the S&L crisis and laid the groundwork for the housing bubble in the 2000s.

Continue reading "Book Review: Jennifer Taub's Other People's Houses (Highly Recommended)" »

Siphoning Value through Captives: Private Equity and Securitization

posted by Adam Levitin

Yves Smith has a fascinating post about how private equity firms (which, as she notes in the comments is largely a polite rebranding of "leveraged buyout firms") charge fees for services provided by captive affiliates to their portfolio companies.  On some level none of it is anything so new--part of the LBO game has always been to suck out fees and dividends from the target company, while gambling that the target would be able to service the debt incurred for its acquisition.  Even if the target goes bankrupt, the LBO sponsor may have still made money because of the fees and dividends. 

What I thought was really interesting here was to see the parallel with the private-label mortgage securitization market.  

Continue reading "Siphoning Value through Captives: Private Equity and Securitization" »

Regulation of Financial Politics

posted by Adam Levitin

I have a multi-book review essay on the financial crisis that is now out in the Harvard Law Review. Sadly, Timothy Geithner went to print to late for me to include his book. James Kwak has written a nice response to my essay here.   

The Politics of Financial Regulation and the Regulation of Financial Politics

posted by Adam Levitin

I have an new article, The Politics of Financial Regulation and the Regulation of Financial Politics, forthcoming in the Harvard Law ReviewThe article is a multi-book review essay that serves as a launching pad for a discussion about the role of politics in financial regulation. The basic point is that the real issue in financial regulation is one of neutralizing or harnessing politics. Without addressing the political problem in financial regulation, regulatory reforms will be incomplete and unsustainable.

Why Do Community Banks Carry Water for the Megabanks?

posted by Adam Levitin

A phenomenon that has puzzled me for the last several years is why community banks consistently carry water for the megabanks on regulatory reform issues.  I'm hoping that readers might be able to shine some light on this issue.

Continue reading "Why Do Community Banks Carry Water for the Megabanks?" »

Everything You Wanted to Know about CLOs, But Were Afraid to Ask

posted by Adam Levitin

Well, not exactly. But for anyone who is interested, here is my written Congressional testimony for a House Financial Services Committee, Subcommittee on Capital Markets and GSEs hearing on "The Dodd-Frank Act's Impact on Asset-Backed Securities".  If you've been dying to understand the Volcker Rule's impact on ABS and on CLOs in particular, then this testimony is for you! 

Four main points of interests to non-technical readers: 

(1) The loan/security distinction regarding CLOs (securitizations of high yield corporate loan syndication interests) seems silly, but it's also really hard to say what makes a CLO different from a hedge fund.  

(2) The ultimate Volcker Rule concern about any type of ownership interest in an investment fund (be it a hedge fund, a private equity fund, a CLO, or any other type of ABS) is that there will be an implicit guarantee and we'll have deposit insurance funding a bailout of an uninsured, speculative investment fund, like we had with the SIVs. 

(3) skin-in-the-game credit risk retention for securitizations is unlikely to work when dealing with too-big-to-fail institutions.  If downside is socialized, credit risk retention won't align incentives of securitizers and investors.

 (4) The SEC needs to start taking its systemic stability mandate seriously. You're not just an investor protection shop any more SEC! 

CapitalOne Contract Not Just Creepy But Illegal?

posted by Dalié Jiménez

Shutterstock_144867838CapOne's taken a lot of flack today over its apparent desire to check what's in your wallet by visiting you at home and at work.  The LA Times story got even bigger when it made it to Twitter and  great (and lots of bad, see previous sentence) puns started rolling in.

The company answer seems to be that language from a security agreement for snowmobiles got "mixed in" with the credit card language (and no one over there is reading their 6-page contracts). They are now "considering creating two separate agreements given this language doesn’t apply to our general cardholder base."  

I wonder if that means that they'll also revisit the part of the credit card agreements that takes a security interest in anything you buy from Best Buy, Big Lots, Jordan's Furniture, Neiman Marcus/Bergdorf Goodman, or Saks?  (I should note, your clothes are only in danger if you have a Saks "retail" card; if your card is a Platinum or World card not only is your interest rate likely lower but it seems your stuff is also safe).

Continue reading "CapitalOne Contract Not Just Creepy But Illegal?" »

The Public Option in Banking

posted by Adam Levitin

The postal banking idea has been getting a lot of attention.  See, e.g., here (David Dayen) and here (Elizabeth Warren). Yet, the more I think about it, the more I wonder if the postal part of the idea is actually convoluting things. The point of postal banking proposals is not any particular connection with the post office. Instead, these are proposals for a public option in banking.  I think it would be helpful to reframe the discussion in these terms, and not have it tie up with post office issues.  What follows is a sort of tenative case for a public option in banking plus some thoughts of what it might look like, including a right of first refusal for public capital (a put up or shut up provision). 

Continue reading "The Public Option in Banking" »

Postal Banking

posted by Adam Levitin

I've got an op-ed about postal banking in today's American Banker.  Basic point:  there's a tension between doing postal banking to generate revenue for the Post Office and doing postal banking for financial inclusion.  But it's an idea worth exploring.

The Basic Problem with "Chapter 14"

posted by Stephen Lubben

There has been a big push, from several different directions, to develop a more "free market" – as compared with Dodd-Frank's OLA – approach to financial institution insolvency, the Hoover Institute's "chapter 14" proposal being the most famous of these "pushes."

The problem is in the funding. Chapter 11 depends on private DIP funding, but even the largest DIP loans are much smaller than the liquidity needs of a SIFI.

And then there is another problem, highlighted in this morning's issue of the Daily Bankruptcy Review, which lists the top DIP lenders of 2013. Because the list is behind the DBR firewall, I'll let your know that it begins as follows:

  1. JPMorgan
  2. Credit Suisse
  3. Bank of America
  4. Goldman Sachs
  5. Citi

The Senate, Chapter 14, and a General Lack of Seriousness

posted by Stephen Lubben

Word on the street is that a proposal to add a chapter to the Bankruptcy Code to deal with SIFIs will be introduced this morning in the Senate. 

I had a chance to look at an early draft. My initial thought is that its quite hard to take the proposal too seriously when its bookended by (a) repeal of Title II of Dodd-Frank, otherwise known as OLA, and (b) a prohibition on any government provided DIP lending in a "chapter 14" proceeding.

In short, take away OLA and make sure the new replacement can't work either. The DIP loan any of these institutions would need would be at least ten times the size of the GM DIP loan, the largest on record. And remember who had to provide that loan ...

Isn't it about time that we have a serious conversation about these issues?

What's a Bailout?

posted by Stephen Lubben

Some thoughts over at Dealbook.

Fully Clothed CDS

posted by Stephen Lubben

Lots of questions about the Blackstone CDS trade that Bloomberg wrote a great piece on back in October, and that Jon Stewart has now brought (finally) out into the light.

In short, Blackstone buys CDS on a company's bond debt while giving the same company a new senior loan facility.  One provision of the loan facility is that the company promises to pay its bonds after the grace period – which constitutes a technical "failure to pay" under the ISDA credit definitions.

A few quick thoughts:

First, while the trade undoubtedly is valid by its strict contractual terms, I would not assume that it could not be challenged. Namely, if ever there was an opportunity to invoke the old implied covenant of good faith and fair dealing, it might be here. Normally the covenant is a last resort argument in finance transactions, but maybe, just maybe ...

Second, however, this is a relatively small trade and Blackstone's counterparties probably value Blackstone's overall business too much to litigate this one. But do future trades with Blackstone get priced with an eye to this trade? That is, will Blackstone pay in the long term?

And this is, of course, the very sort of manipulation that Skeel, Partnoy and your's truly predicted years ago.

Her Majesty, the Vulture Investor

posted by Stephen Lubben

So this morning's FT tells us that Royal Bank of Scotland is in hot water for allegedly playing hardball with its borrowers, in the hopes of acquiring some of their assets on the cheap. That is RBS has adopted something of a "loan to own" strategy.

That would be perfectly dull news if RBS were a distressed investing fund. And while banks continue to talk about client "relationships" we might not be too surprised if they – through a special arm of the bank, of course – did the same thing. 

The trick in this instance is that RBS is largely owned by the UK government since its bailout. And unlike the larger US firms, RBS does not look likely to get out from government ownership anytime soon.

The government criticizing its own portfolio company then does have a certain element of naval gazing

And it leaves the real question of what the plan is.  Does the UK government want RBS to act like a cutthroat, nasty old private bank? Or does it want it to be kinder, gentler?

Securitization, Foreclosure, and the Uncertainty of Mortgage Title

posted by Adam Levitin

I've got a new article out in the Duke Law Journal entitled The Paper Chase:  Securitization, Foreclosure, and the Uncertainty of Mortgage Title.  The article is about the confusion securitization has caused in foreclosure cases because of the shift in legal methods for mortgage transfer and title that accompanied securitization. 

The Paper Chase is not exactly a short article, but if you're the type that's into reading about UCC Article 3 vs. Article 9 transfer methods for notes and MERS, then this piece is for you. There's a lot of technical stuff in the article, but there's also a discussion of the political economy of mortgage title and transfer law, and some thoughts on how to fix the legal mess we currently have.  Abstract is below the break:

Continue reading "Securitization, Foreclosure, and the Uncertainty of Mortgage Title" »

Supreme Court Discrimination Case Settles

posted by Alan White

Banks and insurance companies are apparently gnashing their teeth at the news that the Mt. Holly case pending before the Supreme Court has been settled.  The case itself does not involve financial services; it arose from a Fair Housing Act claim that a neighborhood redevelopment plan would  have a discriminatory impact on black residents.  The legal issue is whether the Fair Housing Act permits discrimination claims based on disparate impact.  This issue has been resolved unanimously by 11 Circuit Courts of Appeal.   HUD, the agency charged with enforcing the FHA, recently issued regulations confirming its long-standing interpretation that disparate impact claims are permitted. The Supreme Court's grant of review in the case is a clear signal that at least 4 activist Justices were prepared to overrule all 11 Courts of Appeal and HUD, and insist on proof of discriminatory intent in fair housing suits. 

The 1968 Fair Housing Act is not new, nor is disparate impact analysis, i.e. establishing race discrimination without showing intent to discriminate. What has prompted an all-out assault by banks and their lawyers is the decision by the Justice Department under Attorney General Holder and by other federal agencies to use disparate impact analysis against mortgage lenders, and not just against realtors and landlords.  Banks and their allies in the business press are hysterical about disparate impact analysis because it forces financial institutions to be mindful of the impact their credit policies have on the huge and recently expanded racial wealth gap in this country, and to adjust lending policies to mitigate the racial divide.  Between 2005 and 2009, white Americans lost 16% of their net worth; black Americans lost 53% of their net worth.  Access to mortgage credit, and the interest rates paid for that credit, have a major impact on family wealth.

If realtors and landlords must avoid discriminatory policies to further the goal of equal housing opportunity, it seems only fair that banks, beneficiaries of continuing taxpayer subsidies and safety nets, should have some duty to advance the same public goal.

Still too big to fail

posted by Stephen Lubben


On the train back to NYC – with menus not often seen on the Northeast Corridor – after IMG_0748presenting my take on OLA after SPE (or SPOE, take your pick). All part of the Roosevelt Institute and Americans for Financial Reform's new report on what remains to be done with regard to financial reform.

The event was highlighted by a great speech on TBTF by former Slips blogger, Senator Warren.

In a Sea of Doubt

posted by Stephen Lubben
Questions about OLA after SPE (or SPOE if you prefer), over at Dealb%k.

Is Federal Preemption Assignable?

posted by Adam Levitin

Gretchen Morgenson had an interesting column today about judicial frustration with banks.  One of the opinions she references is a recent order by Judge William Young (Dist. Mass.) in a predatory lending suit.  The defendant Wells Fargo, as successor in interest to the lender, Wachovia FSB, argued that the state law causes of action on which the suit were based were preempted by a federal statute that governs federal savings banks.  Judge Young agreed, but ordered that:

Wells Fargo, within 30 days of the date of this order, shall submit a corporate resolution bearing the signature of its president and a majority of its board of directors that it stands behind the conduct of its skilled attorneys and wishes to avail itself of the technical preemption defense to defeat [the plaintiff homeowner's] claim.

In other words, the Judge wants to make sure that Wells CEO and board are aware of how it is evading liability.  This isn't the first time Judge Young has expressed his frustration with the mortgage industry. He authored one of the most colorful (and apt) descriptions of MERS:  the "wikipedia of land registration systems." Alas, as in this case, it was all in dicta. 

Putting aside the optics, I think there's an interesting legal issue possibly raised by the present case, Henning v. Wachovia:  does federal preemption under the Home Owners Loan Act (HOLA) apply to a mortgage that was made by Wachovia FSB, but is now owned by Wells Fargo, N.A.?  HOLA preemption only applies to federal savings and loans, not to national banks. So if a federal S&L makes a loan and holds it on balance sheet, it would seem clear that HOLA preemption would be relevant. But what if that federal S&L sold the loan to, say, me? Could I invoke HOLA preemption? That is, does HOLA preemption travel with the loan or is it personal to the federal S&L? 

I've got to think that the answer is that preemption is not assignable, but the law here is not as clear as it might be. The reason I think it has to be non-assignable is that it can produce a regulatory vacuum of preemption without regulation and because were preemption assignable, we'd face a problem of preemption laundering. I've written about this, at length, in an article considering, among other things, whether preemption rights travel with a loan when it is securitized (and is no longer held by a federally chartered depository of some sort, but by a state law entity, such as a trust). 

It was not clear to me from Judge Young's order whether the loan is currently owned by Wells Fargo directly or whether it is still held by Wachovia FSB as a Wells Fargo subsidiary or by some other entity. As far as I can tell, however, Wachovia FSB no longer exists.  The OCC's list of federal savings associations, as of August 31, 2013, does not lit a Wachovia FSB.  Therefore, it would seem that the loan is not currently owned by any entity that is regulated by HOLA and therefore entitled to HOLA preemption. 

There may still be a timing issue--is HOLA preemption determined at the time the cause of action arises or at the time litigation is brought or at the time of the decision?  I don't know what, if any, law exists on this.  Again, however, I don't know all of the facts of the case; I don't know if the attorneys for the plaintiff raised the question of whether Wells Fargo gets HOLA preemption via Wachovia, and don't know whether the issue is waived if they did not raise it. Preemption aside, it will be interesting to see how the order to the Wells Fargo board plays out.  

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  • As a public service, the University of Illinois College of Law operates Bankr-L, an e-mail list on which bankruptcy professionals can exchange information. Bankr-L is administered by one of the Credit Slips bloggers, Professor Robert M. Lawless of the University of Illinois. Although Bankr-L is a free service, membership is limited only to persons with a professional connection to the bankruptcy field (e.g., lawyer, accountant, academic, judge). To request a subscription on Bankr-L, click here to visit the page for the list and then click on the link for "Subscribe." After completing the information there, please also send an e-mail to Professor Lawless (rlawless@illinois.edu) with a short description of your professional connection to bankruptcy. A link to a URL with a professional bio or other identifying information would be great.

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