More on BofA Employee Damaging Admissions re Failure to Convey Mortgage Notes

We’ve had a series of posts (see here, here, and here) on the judge’s decision in a case called Kemp c. Countrywide, which provided what appeared to be the first official confirmation of what we’ve long suspected and described on this blog: that as of a certain point in time post 2002, mortgage originators and sponsors simply quit conveying mortgage notes (the borrower IOUs) through a chain of intermediary owners to securitization trusts, as stipulted in the pooling and servicing agreements, the contracts that governed these deals. We say “appeared to be” because Bank of America’s attorney promptly issued a denial, effectively saying that the employee whose testimony the judge cited in his decision, one Linda DeMartini, a team leader in the bank’s mortgage- litigation management division. didn’t know what she was talking about. As we discussed, this seems pretty peculiar, since she was put on the stand precisely because she was deemed to be knowledgeable about Countrywide’s practices.

Today, an article appears in Bloomberg, and it appears to be a rehash of this now week-old story, so I was puzzled to see it run now. But buried in the article is the probable reason for this piece, namely, that the Bloomberg reporters saw that BankThink had purchased and posted the trial transcripts, and quoted more of DeMartini’s testimony. And it isn’t pretty. From Bloomberg:

The judge asked DeMartini whether the notes ever move to follow the transfer of ownership, according to the transcript of the August 2009 hearing.

“I can’t say that they’re never moved because, I mean, with this many millions of loans as we have I wouldn’t presume to say that, but it is not customary for them to move,” DeMartini said.

This is in keeping with the judge’s recap, and also underscores the notion that it was Countrywide’s practice to not convey the notes. We have been told separately that a senior industry executive also said that no one in the industry transferred the notes. If true, this has very serious implications. As we’ve indicated, it means that residential mortgage backed securties are not secured by real estate, or as Adam Levitin put it, they are “non mortgage backed decurities. Bloomberg provides further comments along those lines:

“It may mean investors who think they bought mortgage- backed securities bought securities that aren’t backed by anything,” said Kurt Eggert, a professor at Chapman University School of Law in Orange, California.

With the ramifications so serious, expect industry denials to continue apace until the evidence becomes overwhelming.

Instead of Actually Stabilizing the Economy By Reining In the Giant Banks, Governments Just Launching More Faux Stress Tests as a P.R. Stunt

The big banks caused the financial crisis, and are continuing to drag the world economy down the into a black hole.

So what are the governments of the world doing to address this core problem? Breaking up the giant banks? Nationalizing them? Holding them accountable for their criminal acts? Making them write down their bad debts? Reining them in? Making them act more responsibly?

Of course not!

The governments of the world are instead launching more faux stress tests as a P.R. stunt.

Well-known British economic writer Jeremy Warner said last week that the European stress tests were a sham:

European stress tests weren't worth the paper they were written on ...

Most of us said at the time that the tests had been designed for banks to pass, yet the fact is that it is now hard to believe they took place at all. Conditions have no where near deteriorated as far as the tests had assumed, yet still Allied Irish looks essentially bust. In other words the tests were a lie.

If the Irish stress tests were a sham, what about the rest of the eurozone?

As the Wall Street Journal notes today, Europe is launching a new round of stress tests.

Tyler Durden comments, quoting the Journal:

"As market sentiment toward the euro zone sharply deteriorates, European officials are planning a new round of bank "stress tests" that they say will be more rigorous than the widely discredited exams conducted earlier this year." Thank you for confirming the prior stress test, the one which found that not one Irish bank was impaired, was a bunch of bullshit. Of course, this being Europe, it will require another forceful intervention by the uber-propaganda czar Geithner to get European countries in line: "But the tests are already subject to bickering between countries. While some European leaders are pushing for next year's tests to be broader and more transparent than last summer's exercise, the agency that will oversee the tests says it might opt not to publicly disclose the results at all." And all will be proclaimed to be fine.

The American stress tests were, of course, no better.

As I pointed out last week:

American stress tests were a sham as well.

As I noted in October 2009:

  • Time Magazine called the previous stress tests a "confidence game" and Geithner a "con man" for running them deceptively
  • Paul Krugman called the stress tests a mere "self-esteem class" for banks that no bank would be allowed to fail
  • Nouriel Roubini said the stress tests "fail the basic criterion of a reality check"
  • William K. Black called them "a complete sham"
  • The government has more or less admitted that the stress tests were meaningless (see this and this)
Indeed, the Federal Reserve itself has more or less admitted that the stress tests did not really measure solvency, saying:
"Even if the tests showed a bank needs more capital, that "is not a measure of the current solvency or viability of the firm".
So what is the Fed's bold new plan of attack for dealing with the deteriorating economy and the mortgage crisis?

More stress tests!

As the Wall Street Journal pointed out last week:
Fed Orders 2nd Round of Stress Tests

Officials Want Banks to Prove Viability in 'Adverse' Conditions; a Preface to Raising Dividend Levels


Concerns about the health of most large institutions have decreased, though investors remain nervous about the extent of losses banks face if they are required to repurchase flawed mortgages and mortgage-related investments. As part of its review, the Fed will require banks to assess their exposure to so-called "put-backs" of mortgages

Banks will also have to come up with their own set of metrics, including the ability to withstand "very severe" economic and financial-market events, the Fed said.

We are apparently expected to believe that this time will be different.

But the European and American stress tests will undoubtedly once again use overly-rosy economic assumptions, fail to account for the many trillions in debts hidden SIVs and other off-balance-sheet locations (see this and this) and duplicate the other core errors of the previous tests.

Postscript: Here's a funny Saturday Night Live video on the American stress tests:

„Portugal Insolvent“ says Citigroup Chief Economist; Why Ireland Will Default

Citigroup's chief economist, just threw fat in the Euro-fire with his statement ‘Insolvent’ Portugal Needs Loans Soon
Portugal is “insolvent” and will probably need soon to join the emergency-loan program from the European Union and the International Monetary Fund that’s available to Greece and Ireland, according to Willem Buiter, Citigroup Inc.’s chief economist.

“The market’s attention is likely to turn to Portugal’s sovereign, which at current levels of interest rates and growth rates is less dramatically but quietly insolvent,” Buiter wrote in a report dated yesterday. “We consider it likely that it will need to access the European Financial Stability Facility soon.”

“Despite the recent drama, we believe we have only seen the opening act, with the rest of the plot still evolving,” Buiter wrote. “Accessing external sources of funds will not mark the end of Ireland’s troubles. The reason is that, in our view, the consolidated Irish sovereign and Irish domestic financial system is de facto insolvent.” This means “either the unsecured non-guaranteed creditors of the banks, and/or the creditors of the sovereign may eventually have to accept a restructuring.”
Europe Debt Fears Hit More Secure Countries

As long as we are tossing fat in the fire let's discuss the fact that Europe Debt Fears Hit More Secure Countries
Fears among European bondholders spread Tuesday from the weakest members of the euro zone to other countries, including Italy and Belgium, spurring a stepped-up search for a solution to a crisis that is increasingly putting political as well as financial strain on Europe’s decade-old monetary union.

Despite the commitment of 200 billion euros, or $260 billion, in bailout funds to Europe’s two most stricken nations — Greece and Ireland — institutional investors were unimpressed with the rescue effort this weekend of Ireland and continued to sell bond holdings in the weaker euro-zone economies.

But what is worse for the European Union and an increasingly stretched International Monetary Fund is that investors have begun to disgorge some of their positions in Belgium, Italy and even Germany.

The recent bond market attacks on Ireland and other weak European debtors set off as soon as the German chancellor, Angela Merkel, broached the idea of requiring bondholders to take a share of the loss. They gathered speed this week when it became clear that Ireland, as well as Greece, would have to pay a still-steep 5.87 percent interest rate on their loans — a tacit acknowledgement on Europe’s part, analysts say, that even with its bailout package Ireland remains a significant default risk.

“We have created more doubts than existed before,” said Paul De Grauwe, an economist in Brussels who advises the president of the European Commission, José Manuel Barroso. “The interest rate now being charged for Ireland is a vote of no confidence for the package and it has obviously been inspired by a notion that we should punish our sinners. If we don’t succeed in containing this thing it could lead to a disaster in terms of the euro’s survival.”

Another idea that has gained some ground recently is a Brady plan for indebted European economies. The plan was recently put forward by a former Treasury secretary, Nicholas F. Brady, who led an effort in 1989 to help Mexico and other Latin American economies restructure their debt — requiring bondholders to take a loss of 30 percent in exchange for new, longer dated debt instruments that had lower rates and were backed by 30-year United States zero-coupon bonds. Much criticized at the time, the plan is now seen as the first step of Latin America’s recovery.

“The key was getting banks to write down their debt and accept a new security,” Mr. Brady said during an interview. “Why don’t people get to work and get something done?”
Why Don't We Get Something done?

Gee. That's a good question. Let's ask Christian Noyer, governor of the Bank of France, and ECB president Jean-Claude Trichet.

Noyer said "As far as I'm concerned, I exclude that there will be haircuts in the future" (yes, that's a real quote).

Trichet warned German Chancellor Angela Merkel not to "unsettle bondholders".

The ECB wants a free lunch but no haircuts. That's why nothing of merit gets done.

Moreover, the current scheme is guaranteed to blow sky high. Here's why: Ireland has to pay an average interest rate of 5.8% for the loans while shrinking its deficit from 30% of GDP to 3% of GDP.

It is impossible for Ireland to grow enough to pay back interest on the loan. Ireland will default.

Mike "Mish" Shedlock
Click Here To Scroll Thru My Recent Post List

Debt Bubble Chronicles: And Heeeeere’s the European “Lehman Event”

Earlier this year, I noted that the European debt crisis was mimicking the US’s 2008 banking crisis almost to a T. Greece was the “Bear Stearns” issue: a minor player that was swallowed up in the drive to maintain the appearance of stability.


Then came the $1 trillion bailout, the equivalent of the Fannie/ Freddie “blank check”: a massive sum of money thrown at a problem meant to convey the illusion that the powers that be have everything under control and that systemic risk is non-existent.


During the time of my first article, I stated that all we needed now was a “Lehman event” the event which proves beyond all doubt that contagion is occurring and that the entire system is at risk.


Well, it looks like we’re about to get it.


The ink on the Ireland bailout is not even dry and already Portugal, Italy, and Spain are crumbling. The market is no longer buying the “it’s only this particular country’s problem” jibe. The notion of systemic risk is finally beginning to dawn on investors. And as 2008 proved, once panic hits, it hits in a BIG way.


Indeed, as ZeroHedge recently noted, the yield on the latest Ireland bailout involved interest rates for the country at 6.7%, a full 1.5% higher that the interest demanded of Greek debt. In other words, the IMF and EU view Ireland’s bailout as more risky than that of Greece.


Does Ireland look worse than Greece to you?







$329 billion




$227 billion




So not only is Ireland deficit-to-GDP and debt-to-GDP ratios lower than Greece’s but the country’s actual GDP is smaller, so we’re talking about a lower nominal amount of money here too.


And yet Ireland is considered MORE risky than Greece?


Let’s be blunt here. Ireland is not riskier than Greece; it’s simply getting bailed out later in the game, when the world has begun to realize that all of the bailout funds are basically getting flushed down the toilet and ultimately default is the only real solution. None of this money is going to be paid back… so the higher interest rate is an attempt to recoup as much as possible before the inevitable default hits.


And Spain and Italy are next.


In plain terms, we are literally on the brink of the “Lehman” event in Europe. Everyone, even the dumbest bulltard on the planet, are beginning to wake up and realize that the plain obvious fact that you cannot solve a debt problem by issuing more debt. This has NEVER worked in history. It won’t now either.


I’ve been warning about the return of systemic risk for months now. If you haven’t already taken steps to prepare by now, WHAT ARE YOU WAITING FOR? Do you REALLY think the European debt Crisis will be “contained”? Last time the word “contained” in reference to a debt crisis was in the US in early 2008.


How’d that work out?


Good Investing!

Graham Summers

PS. If you’re getting worried about the future of the stock market and have yet to take steps to prepare for the Second Round of the Financial Crisis… I highly suggest you download my FREE Special Report specifying exactly how to prepare for what’s to come.


I call it The Financial Crisis “Round Two” Survival Kit. And its 17 pages contain a wealth of information about portfolio protection, which investments to own and how to take out Catastrophe Insurance on the stock market (this “insurance” paid out triple digit gains in the Autumn of 2008).


Again, this is all 100% FREE. To pick up your copy today, got to and click on FREE REPORTS.




US Mint Sells Record 4.2 Million American Eagle Silver Coins In November

In what is becoming a very sad development, the more money (pardon, monetary base) Bernanke prints, the more silver coins Americans buy. According to the US Mint, November sales of silver just hit 4.16 million ounces or coins, an all time record, since the introduction of the coin in 1986, and that does not even include the last day of the month. The number is roughly a 30% increase to the 3.15 million one-ounce Eagles sold in October, and well above the previous 2010 record of 3.6 million sold in May. So far in 2010, the mint has sold 32.8 million ounces of silver, higher than the previous full year record of 29 million coins set in 2009.

More from Reuters:

"The underlying, basic reasons for the silver market's rise are really gold-oriented, but the speculative element of silver continues to be a big driver," said Bill O'Neill, partner of New Jersey-based commodities firm LOGIC Advisors.

O'Neill said that a well established retail coin-dealer network helped increase sales of the silver Eagles. He called silver a "speculative playground" and does not recommend trading it due to high volatility.

Silver, gold and platinum group metals have benefited from the fiscal crises in Greece, Ireland that could also spread to other European nations, lingering worries about economic growth and inflation concerns.

Oddly, the scramble for precious metals was not mimicked in a surge for gold, which sold "only" 103k ounces,  including 99.5 one ounce coins. And to point out an error in the Reuters' article math, the June sales were not 452,000 ounces but coins, while the actual ounce equivalent sold was 151,500 ounces. So far the most active month in US mint gold coin purchases was May when 190k one ounce gold coins were sold.

We can merely speculate that the Krieger/Kaiser plan of bankrupting JPMorgan through a popular scramble for physical is if not working, then certainly getting ever more supporters.

QE2: Beware the Perils of its Success

FYI: I’ll be traveling to NYC with my wife next week to support my upcoming Little Book. (I’ll be on CNBC’s Fast Money on Monday).  We are going to be in NYC only for a few days, but I wanted to meet my friends and my growing number of readers.  So here is my solution –  please join me for the NY  version of Cheap Talk  on Wednesday Dec 8th at the Madison Club Lounge at The Roosevelt Hotel from 2-4pm.  We had Cheap Talk get together in Omaha two years in a row, it was a lot of fun.  If you want me to sign your copy of the Little Book, I’ll bring a pen.   Here is my latest article, it discusses QE2.  It took me three weekends to write it. Hope you enjoy it.  - Vitaliy


QE2: Beware the Perils of its Success

Over the next eight months the Federal Reserve will conduct QE2 – quantitative easing, the sequel.  It will buy $600 billion worth of US long-term bonds in the open market, close to 7% of all Treasury securities in public hands, or about the amount the debt that the federal government will issue over that time period.

The Fed has already taken short-term rates down to zero, pushing income-seeking investors and savers to higher-yielding (lower-rated) and higher-duration (riskier) bonds.   Now, with the magic of QE2, the Fed wants to drive long-term rates down to unseen levels and push all Treasury investors (short or long) towards higher-risk assets – junk bonds, real estate, stocks, and commodities.

The Fed also hopes (that is all it can do at this point) that low interest rates will nudge businesses to invest and to hire. That’s unlikely.  The value of any asset is the present value of its future cash flow.   As my favorite philosopher Yogi Berra (allegedly) said – “In theory there is no difference between theory and practice. In practice there is.”

In theory lower interest rates decrease the rate that businesses use to discount future cash flows – making future cash flows more valuable today – and the Fed is betting on that.  In practice, however, the fickle source of lowered interest rates is not lost on businesses.  Rising debt on government and Fed balance sheets and an overheated money printing press don’t generate confidence about future cash flows.  High government debt eventually leads to higher taxation, higher interest rates, and lower growth.  So the Fed’s action may have an impact opposite to what they intend.

At some point quantitative easing will be followed by quantitative un-easing, as the Fed will have to sell all those bonds back, unless they are held until long-term maturity.  Either way, it will bring higher interest rates.

QE2 is like a drug prescription that comes with a list of side effects that are often worse than the disease it was supposed to cure.  It is difficult to know all the side effects and unintended consequences of QE2, but it may result in a substantial decline in the dollar, stagflation, lower economic growth and much higher interest rates.  Inflation will show up not where the Fed wants it – in house prices – but in higher prices for commodities like food, gasoline, clothing, and electricity, which could kill consumption.  Yes, paradoxically QE2 may actually result in higher interest rates – investors expecting higher inflation will demand higher rates.

Despite the Fed’s efforts, the dollar may not decline against the euro.  In this race to the bottom, the US may lose to the PIIGS rampaging through Europe.

The Fed’s artificial manipulation of short-term and long-term interest rates creates a long-term problem for the economy.  Since interest rates are set by the 12 people in the Fed’s boardroom, the free market is not allowed to discover what interest rates should be.  The Chinese communist government has been under attack by politicians, the media, and even yours truly for manipulating its currency.  We know its currency is undervalued relative to the dollar and euro, but the Chinese government doesn’t let the free market know by how much. Government intervention (be it Chinese or US) in the free market creates excesses that are not allowed to self-correct and thus leads to bubbles.

QE2’s possible success worries me more than its failure, because it will come with all the side effects I just mentioned, plus the eventual popping of newly created stock market and real estate bubbles.  The Fed wants to create asset bubbles, praying for the wealth effect – stock and real estate appreciation that will make people feel wealthier (at least on paper, for a while) so they will spend their phantom gains.  However, the Fed is like a Judas goat leading gullible (yield-deprived) savers to the slaughterhouse.  The paper wealth that is created will vanish as bubbles burst (they always do), wealth will be destroyed, and consumers will find themselves further in debt.

Japan was QEing from 2001 to 2006 and created a bubble in Japanese bonds that partially burst, but their economy did not lift out of stagnation.  Unlike our Fed, though, Japan stopped hiding its true intentions of propping up the equity market – on November 4th of this year the Bank of Japan announced it will be buying Japanese stock ETFs and REITs.

The Fed’s actions over the last two decades reminds of what Scarlett in Gone with the Wind used to say: “I can’t think about that right now. If I do, I’ll go crazy. I’ll think about that tomorrow.”   The gains of today will be repaid dearly with massive overdraft fees “tomorrow.”

What should investors do?

If the Fed “succeeds” and creates a short-term bubble in stocks and other asset classes, investors’ true time horizons and investment discipline (i.e., adherence to the investment process) will be put to the test.  Unfortunately, investors don’t have the tools to play in this Wall Street version of “looking for a bigger fool to buy your overvalued assets” game.

As was the case with the dotcom bubble, in the giddy phase of bubble expansion ignorance is wonderful bliss and knowledge and adherence to the investment process are a curse – as disciplined investors will always sell too soon and will not partake in the bigger fool game.  However, when the bubble bursts the money will flow to its rightful owners.  The Fed doesn’t want to you to be in cash, it wants you to reach for yield and speculate – but don’t.

In the absence of good investment opportunities, the worst thing you can do is take advice from the Fed.

P.S. QE1 vs. QE2 – They are very different!

Modern societies have fractional reserve banking systems where for every dollar deposited in the bank, roughly 95 cents are lent out.  This system functions fine as long as a bank’s losses are manageable and depositors believe in the continuity of the banking system – in other words, they expect their deposits to be there tomorrow.  However, even in the absence of any losses, if the presumption of banking system continuity is broken and depositors fear for their funds and withdraw their money, then even the best, most conservatively run bank that has zero loan losses, will go bust.  This is a run on the bank.  Because of financial leverage, banking is one of the few industries where (false) perception may lead to reality.

The Federal Reserve System was established in 1913, following the 1907 Bankers’ Panic, a recession and collapse of several banks that led to runs on the country’s banks.  Then all-powerful JP Morgan directed a coalition of banks that backed the banking system and stopped the nationwide run.  This planted the seeds for the creation of the Fed.  The Fed’s job was to be the lender of last resort, to avoid future bank runs.  However, creating an institution that does its work only a few times a century was impractical, so the Fed was given additional responsibilities to regulate banks and to maintain stable price levels and full employment.

In the midst of the 2008 financial crisis, to prevent the freezing up of the US financial system and possible bank runs, the Fed put in place QE1 – it purchased over a trillion dollars of mortgage and agency debt.  Like JP Morgan in 1907, the Fed was the lender of last resort.  But QE2 is drastically different from QE1, because the banking system is far from choking, and the Fed wants lower unemployment and the economy to grow at a higher rate.

P.P.S. –The Vicodin Nation

Unfortunately, the Fed’s arsenal is missing the very important, must-have “do nothing” tool to fix the current problem.  This tool would let the economy self-heal, even if unemployment stayed at 10% while housing prices declined to their true level.  However, the tool is unlikely to be used, as it will inflict pain, something for which Americans have little tolerance.  After all, the most prescribed drug in the US is the painkiller Vicodin.  Regrettably, this is why QE2 is unlikely to be the last QE: as its effect wears off (assuming it succeeds at all), then QE3, 4 and so on will follow.  The US, like Japan, will be locked into unsustainably low interest rates.

Vitaliy N. Katsenelson, CFA, is Chief Investment Officer at Investment Management Associates in Denver, Colo.  He is the author of  upcoming The Little Book of Sideways Markets (Wiley, December 2010).  To receive Vitaliy’s future articles by email, click here.

Copyright Vitaliy N. Katsenelson 2010.  This article may  be republished only in its entirety and without modifications. 

Europe Update and more

On Europe:
• From the WSJ: Fresh Round of 'Stress Tests' Planned for European Banks
The [first stress] tests were largely discredited by revelations that they lacked rigor, including a Wall Street Journal report in September that the tests understated some banks' holdings of potentially risky sovereign bonds. ... "There was some variety in terms of rigor and application of [the initial] tests," European Economic and Monetary Affairs Commissioner Olli Rehn said in Brussels.
Oh yeah. Ireland's banks passed the initial stress tests in July! And we know how that worked out.

• From the Financial Times: Trichet hints at more bond purchases. The Financial Times quotes European Central Bank president Jean-Claude Trichet as saying “pundits are under-estimating the determination of governments” and “I don’t think that financial stability in the eurozone, given what I know, could really be called into question.”

• From Bloomberg: Italy-Germany 10-Year Yield Spread Reaches 200 Points, Widest Since 1997. That is just a sample of the headlines on European bonds. And everyone is trying to figure out how to add "B" to PIIGS.

And on a more positive note ...
• The Chicago PMI for November (released this morning) was stronger than expected. Production (at 62.5) "reached its highest level since February 2005", and new orders (67.2) increased "to a level not seen since 2007. The employment index increased to 56.3 from 54.6 in October. This continues the trend of stronger reports recently. I'll have an employment preview on Thursday, and I'll probably take the over again this month (consensus is 145,000 non-farm payroll jobs).

Adios, November

Well, one of the weirdest sessions in recent memory has brought November to a close.

My best buddy today? TLT. By far my heaviest concentration of shorts is in the interest-sensitive instruments such as BAB and LQD (the latter of which I amped up today). I day-traded TLT with excellent results.

My worst enemy? Oh, that's easy - FXE. My profit for the day would have been 50% higher were it not for my hedge (ha!) of being long FXE. The Euro seems to be heading for the same toilet paper status as we all assumed the US dollar was not long ago.

The last couple of days were really diluted badly by so-called hedges. I currently am unhedged (and maybe a little unhinged).

I'm going to get some distance from computers 'n' charts for a bit and will do a post later.


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