By Paul Christison
EZdesk, Inc.

4-16-2007

Hand ringing, finger pointing, more government regulation, and billions and billions of dollars in losses are being directed against mortgage brokers.

Why?  Mortgage brokers are an easy target.  They are mostly independent, with impotent representation.  

If you take all the mortgage broker associations  and combine their membership, they represent less than 10% of the industry.  The broker has been apathetic towards the well being of his industry.  Too busy gorging on the available food source.

The associations have been more concerned with product marketing revenue (peddling their mailing lists) and more regulation (national registry) than about educating their membership or representing the small business interest of mortgage brokers.  

Most "mortgage broker" associations are actually just a mouth piece for their "real" clients . . .  wholesale lenders.    Wholesale lenders front most of the money for most "mortgage broker" associations.

Mortgage Brokers are easy targets except for the facts.

Mortgage brokers do not have any input on what type of loan products investment banks will securitize and sell to their investors.  They have zero input into product design.  In essence, brokers are the sales force that moves the product into every economic and social structure.  The job banks refused to do as their charters required.   Brokers broke racial and neighborhood barriers because they are comprised and reflective of our society.   They are "Green" driven, before being "Green" was cool.

The Mortgage Broker simply sells what the consuming public demands.   Which is; "What is the lowest payment I can get today without a downpayment?" 

Of course, mortgage fraud & crime at the retail level is terrible.  There are no excuses.  Brokers do not have the infrastructure and nor evidently the desire to police themselves.

The mortgage industry has been infiltrated by foreign nationals with ties to major crime groups from Nigeria to suspected Islamic extremist and terror groups to Russian and Indian freelancers.  This is due to the lucrative nature and low start up cost of entering the sales force.   No one talks about it.  I'm sure someone will label me bigot or some such name for stating the well know observation out loud.   Well funded organized group crime dwarfs the "normal" volume of "individual" white collar fraud and embezzlement. 

Mortgage Brokers are Investment Bankers perfect "fall guy".     Sure, Investment Bankers get pushed by the wholesalers to expand the product guidelines, but the Investment Bankers are the supposed experts of the nation in managing money and risk.   At least they are suppose to be.  That is what they represent to their clients.

The root problem in subprime is Investment Banking fraud.  It is FRAUD to design a product which is intended to encourage consumers to cheat.  It is FRAUD to create a product totally dependent on continued inflation instead of being dependent on the borrower combined with the value of the real estate.

This is the third "bust" since non-prime loans began to be securitized in the 80's.  Each "bust" came when the real estate market leveled or retreated.  Obviously we all know that markets surge and retreat.  Our products must be made to recognize that truth.

The investment banking community then shove this garbage down the throat of their investors with exotic "credit enhancements" to maintain fee income and volume.  This fraud is in the 100's of billions and is where the real damage is done.  As with any product, when it loses sight of its consumer base, it is only a matter of time, before there is trouble. 

A product such as the wage earner "stated" is a design problem.  There is no reason for a wage earner to go stated OTHER than to inflate income.  This can not be a QC issue.  It is obvious what the real intent of the product it targeting and consumers will be baited into using it.  When you bait someone with temptation, it is ludicrous to act surprised when people respond as a kid left overnight in a candy store.

Complex underwriting and credit scores are all about pushing the limits of volume and PRODUCTION.  More important, making more credit available to more people wanting to buy a home. 

That part of the story is a success.   Home ownership has skyrocketed as a result or production line economics and mortgage brokers being set lose in the market place.

But success became driven by the greater fool theory.   Each success generated a broader and wider loan product with more and more risk.   The investment banking community and large subprime wholesalers conveniently "forget" lessons of the past trying maintain loan volume and falsely extending natural business cycles. 

Further, risk on a loans is very simple to measure . . . You do not need credit scores.   You do not need complex underwriting to write a safe loan.   Mortgages are at least 4 or 5 thousand years old.  A safe mortgage investment was figured out long ago.  The basic home loan at 80% Loan-to-value, reasonable borrower credit, is a safe loan for the lender, the borrower, the investment banker and the buyer of mortgage securities.

But, the risk elevates dynamically with each "feature" you add to the loan.   Here are the features that has the MOST impact on increase default risk for subprime loans.

1. High Loan to Value
2. Adjustable Rates in first 5 years of loan life
3. Long loan terms
4. Low Credit Grade

When you combine the extreme of these factors, you design a "bomb", not a loan product.  Everyone of these factors are controlled by the design of the loan product.  No different from the design of an airplane. 

Loan performance AND quality MUST be built into the initial engineering of the product.

The basics of QC is building the quality into the product from the beginning concept, not attempting to patch and repair it after it is completed.  If the initial designers (investment bankers) create a bad product (airplane, home loan), all the quality control (QC), sales training and  government regulation in the world will NOT make it a good product. 

Meanwhile, government regulators run in tighter and tighter circles putting multiple laws and regulations as Band-Aids on the end of a production chain (retail) when they should be regulating the loan product design (Investment Banking). 

Cut off the flow to public securitization of certain products and within days, the poorly designed product disappears from the market.  No capital, no product.  Simple.  Effective.  Less intrusive into consumers lives.  Minimal intrusion into small business. 

But Investment Bankers have lobbyist and large amounts of cash to spend, so politicians play games with price controls and mortgage broker regulation.   90% of the impact of fraud can minimized at the supply source, where it is easy to regulate . . . but don't hold your breath.