(emphasis mine) [my comment]
Agency's Proposal To Package S&Ls;' Assets Questioned;
RTC Securities Aid Investors, Not Taxpayers, Critics Say
By Susan Schmidt, Washington Post Staff Writer
Thu, 12 Nov 92 04:42:06 EST
The federal government is turning increasingly to Wall Street to unload the enormous loan portfolio it has inherited from failed savings and loans, a strategy that some experts say looks good now but could cost taxpayers billions of dollars over the next few years if it backfires [typical Washington solution]. Instead of selling the loans directly to investors, the Resolution Trust Corp. is packaging loans together and selling bond-like securities backed by income from the loans. The difference is, when the government sells a loan, it usually takes a loss on the transaction but it also washes its hands of the problem. Under the new plan, called "securitization," there is a greater risk that losses could continue to show up years from now.
Albert V. Casey, the RTC's chief executive and a champion of the strategy, said it is the cheapest, fastest way to dispose of the RTC's $128 billion stockpile of S&L; assets, most of them troubled loans and real estate.
But other RTC officials fear that government guarantees attached to the securities to make them more attractive to investors will prove far too generous. [The government response to EVERY banking crisis is to throw government guarantees at the problem rather than paying the true cost]
The draft of an internal RTC study on sales strategies quotes one agency official predicting that investors will take advantage of the guarantees to dump "tens of thousands of loans" back on the government. That would raise the cost of the S&L; cleanup to taxpayers and cause it to drag on for years more.
By taking hard-to-sell assets to Wall Street, "the RTC takes major risks," according to the study team, which has prepared its report for top Treasury and RTC officials.
The investments the RTC is creating are modeled after the securities sold by institutions such as the Federal National Mortgage Association (Fannie Mae) [the "securities sold by Fannie Mae" were created by the government to solve a past banking crises], which are backed by conventional home mortgages, with the monthly payments providing income to the investors.
The RTC, however, is taking this approach in an entirely new direction with its offerings of securities backed by large commercial loans of varying quality. [Notice this: the government leads the way towards insane financial innovation. The treasury dealt in OTC derivatives in the 1960s. The government's desire to patch up the banking sector has been the leading force behind securitization. Etc...]
Even riskier are soon-to-be marketed RTC securities backed by problem loans whose borrowers are not making payments or have defaulted. Dubbed "Ritzy Maes" by Wall Street because of their resemblance to Fannie Mae securities, the RTC bonds pay a higher rate of return than U.S. Treasury securities.
The value appears to far outweigh the risk of loan defaults to investors, some Wall Street experts say. "It's absolutely a great deal," said one of New York's most sophisticated securities buyers.
In fact, most of the risk stays with the government [It has acted FAR more recklessness than EVEN the worst financial institutions]. Buyers point to a number of guarantees, including one on most of the bonds issued so far stating that the underlying loans from defunct S&Ls; were "proper" and "prudent" when originally made. Because the RTC has only scant information about many of the loans, it can't know how many loans were in fact improper or imprudent, and thus it could end up paying much more to the investors than it expects, according to experts, including some interviewed by the RTC study team.
If a loan goes into default, for example, investors who can show that the information about the loan was wrong or incomplete may be able to claim a 100 percent refund from the government, experts said. If a claim against the guarantees is successful, the government is stuck with the loan loss.
Underlying the debate is an even more fundamental question about the mission of the RTC, a temporary agency created to clean up the wreckage of the more than 700 defunct S&Ls.;
"There will be some liability, but I think when the economy recovers it will be little liability."
Others see potential hazards in the way the RTC is proceeding.
Deputy Treasury Secretary John Robson said he and members of the RTC's Cabinet-level oversight board favor exploring new ways of selling the worst of the agency's assets, including marketing securities on Wall Street. But, added Robson, the agency's moves into riskier securities "raise some serious questions that you really want to take a look at."
Some RTC officials, along with critics on Capitol Hill and in the real estate industry, said the RTC could get as much or more for commercial and nonperforming loans (those that are not earning interest) by selling them outright, without the risks of Wall Street sending bad loans back to taxpayers. [This makes no sense. Loans with government guarantees will always sell for more.]
An investor who "buys" a security backed by loans assumes the original role of the lender, using a loan servicing company to collect income from the borrower.
Robson agrees with the critics, in part. "It's really not a sale all the risk is with the RTC," he said. "It's somewhat more costly than selling whole loans," but that, he said, "will take you from now till kingdom come."
Casey and his assistants say they can get more for the loans through Ritzy Mae sales. The RTC averages only about 70 cents on the dollar selling sound commercial loans outright, but will end up with 85 to 90 cents on the dollar turning those loans into Ritzy Maes, they said. [See? Rather than bite the bullet and sell loans for 70 cent on the dollar, the government chose to reduce the cost using government guarantees, at enormous risk]
"Our experience in selling commercial loans in whole loan form, even better quality portfolios, was that we we got either no bids or very low bids," said RTC securities sale s chief Michael Jungman. There are "just not a lot of buyers of commercial loans out there in the world today."
There is wide disagreement on that point.
The FDIC, which has a much smaller portfolio of loans to sell than does the RTC, continues to favor direct sales of the loans to investors, rather than the RTC's approach.
And Casey and other top officials get an argument from some inside RTC.
"The field offices feel capable of selling most assets (directly), and think that they could maximize recovery values," according to the RTC's sales strategy study.
"RTC-Washington, on the other hand, has taken control of most assets and is packaging them to achieve maximum volume of sales." [Washington wants to quickly deal with the problem with government guarantees]
Bond-rating agencies require the RTC to set aside large cash reserves from the proceeds of their Ritzy Mae sales, usually 25 percent to 35 percent, to protect investors against losses if some of the underlying loans go bad.
The RTC's risk is intended to be limited to the amount of those reserves. If loan losses exceed the reserve amount, the investors are supposed to suffer the loss.
But the risk can shift back to the federal government because of its guarantees known as representations and warranties that the information it provides investors about the condition of the loans is true.
If it's not, the government and ultimately, the taxpayer can be required to reimburse investors when borrowers stop paying.
These guarantees have helped make the Ritzy Mae securities exceedingly popular with investors but have conjured up fears of a "black hole" of potential liability for the RTC.
"A lot of pension funds are buying this stuff because they (the RTC) will never be able to defend their reps and warranties," said one large investor.
The RTC staff report quotes one official as saying 10 percent of the loan pool sold on Wall Street is expected to come back to the agency through representation and warranty claims.
Investors actually have a perverse incentive to pursue such claims because the value of their bonds can improve if they are successful in dumping the bad loans back on the government.
"I'd say it's an open secret. Wall Street [and Washington] knows exactly what's going on," said one investment banker who believes RTC securities will come back to haunt taxpayers.
Top RTC officials, however, have denied that they are exposing taxpayers to huge future liabilities. [this is called lying]
"On the reps and warranties issue, I mean that's like the big lie floating around," said Lamar Kelly, vice president of the RTC for asset sales. "And I guarantee the people you're hearing it from are the people who want to buy on a whole loan basis. And guess what? They want to make their dime off the government too."
Kelly said investors have made few claims against the RTC based on the guarantees. But if a wave of claims is indeed coming, it won't be for a year or two more after the guaranteed loans default and turn into losses.
CNN reports about the need to speed up the S&L; cleanup.
TIME TO SPEED UP THE S&L; CLEANUP Another crisis looms unless Congress votes more money for regulators to close down failing thrifts. Delay is costing taxpayers hundreds of millions.
By Mark D. Fefer REPORTER ASSOCIATE Antony J. Michels
November 16, 1992
(FORTUNE Magazine) — AFTER THE ELECTION, Congress will finally have to face something it has been avoiding for more than six months: appropriating the funds to continue cleaning up the savings and loan industry. That effort has been stalled since April because the House of Representatives has refused to vote more money for the Resolution Trust Corp., the agency charged with mopping up failed thrifts. According to the Treasury Department, each day of delay adds some $6 million to the final cost of the cleanup, which means that congressional inaction has cost taxpayers nearly $1 billion so far.
The irony is that the RTC, after a stumbling start in 1989, is doing good work, creatively shucking properties, loans, and securities to recover the money lost when the S&Ls; welched on depositors. It can continue selling off its bloated inventory through 1996, but next September it passes the job of covering the losses of thrifts that go under to an industry-sponsored insurance fund called the SAIF (Savings Association Insurance Fund). The SAIF is also effectively broke and ill equipped to finish the job. Unless these agencies get the money they need, a climate of crisis could overtake the S&L; industry again.
[Congress Responded By Passing The RTC Completion Act Of 1993, Which Extended The Receivership Authority Of The Rtc From September 30, 1993 To January 1, 1995, And Provided It With $18.3 Billion To Finish Its Cleanup Operations. This Additional Funding And The Extension Of The RTC's Receivership Authority Were Important First Steps In Placing The Saif On Sound Footing. However, Further Legislation Will Be Required Before Taxpayers Have Any Measure Of Safety From Failed Thrift Losses.]
It's not hard to see why politicians run from the S&L; mess: It's enragingly expensive and poorly understood by their constituents. The government pledged $60 billion to shore up the old savings and loan insurance fund, FSLIC, back in 1988. Since then, the Resolution Trust, which took over from FSLIC, has spent $84 billion more. Now RTC chief Albert V. Casey wants another $43 billion from Congress, promising that this is his last request. But no one has bothered to explain to the voters where all this money is going and why they should support the process. The public perception is that the S&Ls; are another bailout a la Chrysler, where government gets involved in propping up a failing private business and rescuing fat-cat executives. But the truth is that this so-called bailout is nothing more than making good on the government's promise of deposit insurance. The fat cats [ie: the politicians which deregulated the industry and let the problem fester and grow.] already had their free ride in the Eighties, when lax regulatory oversight allowed them to fritter away depositors' money. Now the government has to cover those deposits, most of which are fairly modest -- the average being $9,000.
Here's how the cleanup has been working: The Office of Thrift Supervision, which regulates the S&Ls;, takes over failing institutions and then hands them to the RTC to sell or liquidate. These sorry thrifts usually have a negative net worth, meaning the value of their assets (loans, securities, real estate, and so forth) falls short of their liabilities (chiefly customer deposits). To dispose of a thrift, the RTC has to make up that difference. Since the agency's pockets are empty, it has to hang on to and manage the money losers sent from the Office of Thrift Supervision. They now number 70 and counting.
The agency has shifted its marketing strategy to play to its strength: the sheer volume of merchandise it has for sale.
It has deemphasized the retail approach of flogging assets piece by piece in favor of auctions, securitizations, and bulk sales to unload hundreds of millions of dollars of assets in a single deal.
Says Gary R. Horning, a principal with Richland Interests in Houston, which is bidding for the Great American package: ''It's true that some of these assets will sell at a discount just because they're in a pool. But some won't be sold for ten years unless they're pooled.''
Sweeping assets off the books -- fast! -- is Casey's goal. An empty office building can easily cost the RTC 20% of its book value annually for maintenance, taxes, and insurance without providing any income in return. Upkeep on the agency's largest piece of real estate, the 23,250-acre Banning- Lewis ranch outside Colorado Springs, Colorado, has already run the government $1 million since regulators inherited the property in 1989.
''It's just too expensive to carry this stuff,'' says Casey. ''We've got to get it off our books.'' But selling real estate today can result in embarrassing discounts. GE Capital bought those 47 shopping centers for less than their construction cost. The asking price for the Banning-Lewis ranch has been cut in half over the past year to $24 million, 10% of the land's book value.
Most experts agree with the Casey approach.
Edward J. Kane, a finance professor at Boston College, has argued from the beginning that the RTC should not be in the business of buffing up dingy real estate, hoping for the market to turn around.
''It's important to move these assets into the private sector,'' Kane says. ''The properties need a firm entrepreneurial hand to maximize their long-term value.''
In fact, Bert Ely, a banking consultant in Alexandria, Virginia, believes that a turnaround in the real estate market depends on a quick inventory clearance by the RTC. He says, ''Prices stay depressed as long as you have that overhang.''
The high-volume approach is also helping get rid of commercial and residential mortgages, which are roughly half the RTC's remaining assets. Since June 1991 the agency has sold nearly $30 billion of securities backed by pools of these mortgages.
Kenneth Bacon, the former Morgan Stanley investment banker who heads up the RTC's securitization program, says proudly: ''Every month we come to market with $1. 5 billion to $2. 5 billion in new issues. And we're the gang that supposedly couldn't shoot straight.'' Known on Wall Street as Ritzy Maes, these pass-throughs have been absorbed into the more than $1 trillion dollar mortgage-backed securities market with little impact on prices [not a natural phenonmenon (ie: gold leasing picked up big time)].
The RTC has been among the first to sell securities backed by commercial loans [lets congratulate the government for its wonderful contributions to the practice of securitization (sarcasm)], and in the process found a new group of buyers -- institutions. They wouldn't normally want mortgages on office buildings today, but they are willing to buy RTC securities backed partly by them. So are foreign investors, who typically lap up as much as a third of the offerings. Michael Jungman, vice president for Capital Markets at the RTC, maintains that, in general, securitization results in prices 9% higher than could be realized selling the underlying loans. [it is the government guarantee that adds the value, not securitization]
What's ahead for the cleanup? More institutions need to be shut down.
Timothy Ryan, director of the Office of Thrift Supervision, reckons that 31 S& Ls are now candidates for government takeover in the next two years, and another 50 are on the edge.
The Congressional Budget Office expects several hundred thrift failures through 1995. But the Savings Association Insurance Fund currently has less than $200 million in its kitty in preparation for taking over the cleanup next September. Norman M. Jones, head of the SAIF's Advisory Committee, estimates that the fund will require a $32 billion contribution from taxpayers over the next eight years.
But now that the money must actually be appropriated, the usual political paralysis has set in. The Bush Administration didn't include a contribution to the fund in its fiscal 1993 budget.
According to Assistant Treasury Secretary Mary C. Sophos, the Administration considers it ''more prudent'' to wait until fiscal 1994 to see ''whether taxpayer funds will actually be needed.'' The stage, then, is set for yet another dismal cycle of political inaction, mounting losses, and, ultimately, higher tax bills.
Even if Congress finally gives the RTC the money it has asked for, one more costly chapter in this saga is waiting to be written next September when the SAIF rattles its tin cup. Don't put your wallet away.
The Baltimore Sun reports about Tackling the S&L; Cleanup.
Tackling the S&L; Cleanup
December 03, 1992
President-elect Clinton has little choice but to tackle the savings and loan cleanup question early in his administration: Every day's delay costs the U.S. treasury $6 million-and prolongs the political and fiscal headaches for the new administration in coming to grips with this nightmare.
This isn't a popular issue. In fact, Congress would just as soon never vote again on another bailout bill. But the harsh reality is that between $25 billion and $50 billion are still needed to close insolvent savings and loans and pay off all the depositors. Anywhere from 50 to 400 more floundering financial institutions may have to be closed before it's over. That's an enormous burden which will only add to the mammoth federal deficit, but the sooner Mr. Clinton disposes of this problem, the better for everyone.
My reaction: Consider the situation in the early 1990s:
1) Through the government guarantees attached to RTC securities, the US was liable for BILLIONS if the economy slipped into recession.
2) Recession would force the closure of another 50 to 400 floundering thrifts, costing billions.
3) Recession and a worsening of the financial crisis would further depress the housing market, causing defaults on government backed mortgages to spike and costing billions.
4) Major commercial banks were ALSO bankrupt (because of the LDC debt crisis, more on this in a later entry) and their failure would bring down the most of the banking system, costing hundreds of billion.
Together, these factors risked feeding on each other, leaving taxpayers on the hook for close to a trillion and triggered a dollar crisis. The recession of 1990-91 would have turned into a great depression as decades of rot worked their way out of the system.
This didn't happen of course
A conveniently timed drastic drop in interest rates miraculously saved the day.
A conveniently timed drastic drop in interest rates miraculously saved the day.
The drain on the public purse continued into 1993. But market fundamentals in the form of the interest rate environment, and the bottoming out of regional economies and real estate markets, were beginning to turn up again for S&L; asset portfolios. From 1993 to 1995 the industry began to stabilise, and the portions of the industry that had survived the great S&L; crisis moved steadily back towards profit over the next few years.
With short term interest rates having dropped far below mortgage interest rates, insolvent thrifts were able to survive. Low interest rates also mean low defaults, and the government didn't have to make good on all its guarantees.
...and, instead of a great depression, the US economy started heading towards something much worse.
...and, instead of a great depression, the US economy started heading towards something much worse.
The government used the proceed gold leasing (ie: the sale of central bank gold) to lower interest rates (gold is sold and RTC's securities are bought) and temporarily propping up the insolvent financial system, setting the US down the road towards complete economic collapse two decades later (today).