Following up on my recent post about big time shakedown prosecutions, I thought I would look in a little more depth at the latest settlement of the government with Bank of America, just announced a few days ago. The headline number is that Bank of America will pay close to $17 billion to some combination of the federal government, six states that joined in the settlement, and a "consumer relief" fund. Is the settlement a bona fide resolution of legitimate claims, reasonably related to the claims settled, or is it just a shakedown, in other words an extortion of a large arbitrary number by threats to abuse government power?
My verdict: shakedown. I'll lay out my reasons, but by all means you should read some of the stuff they have released and form your own conclusions. Here is a link to the Justice Department page announcing the settlement. That page contains several other links with additional information. The most important are the Settlement Agreement and the so-called "Statement of Facts" that accompanies the settlement.
If you think this settlement must have something to do with advantage-taking committed against low-income and subprime borrowers, you are wrong. That alleged conduct has been the subject of multiple other investigations and proceedings, but not this one. This one is supposedly about "fraud" and "misrepresentations" committed against purchasers of mortgage-backed securities. Weren't those purchasers largely sophisticated mutual funds and hedge funds that are very capable of looking out for themselves? Yes -- but why would you think that just because the settlement is a recovery for wrongs allegedly done to those sophisticated investors, that those investors will benefit in any way from it? In fact, as far as I can tell there is no effort at all to tie the recovery to losses actually suffered by anyone, and furthermore none of the money is going to any of the supposed "victims" here. A better way of looking at this is that those investors are just the excuse for Holder and a group of state AGs to get their name in the papers attached to a big number.
The "Statement of Fact" is 30 pages long, and excruciating reading, but actually relatively short for this kind of thing. Of the various items discussed, all but a couple relate to the activities of either Merrill Lynch or Countrywide, entities that the government pressured BofA into taking over as the financial crisis got going. I'll give you a few exemplars of the conduct the government thinks warrants this kind of settlement. As the first example, from one of the few instances relating to BofA itself, on page 2:
Bank of America did not have third-party, loan-level due diligence conducted on the specific mortgage loans collateralizing the BOAMS 2008-A securitization. This was contrary to its past practice. . . . Bank of America did not disclose in the BOAMS 2008-A offering documents that third-party, loan-level due diligence was not conducted on the loans collateralizing BOAMS 2008-A.
Or try this from page 11 (conduct of Countrywide):
During the period from August 2005 to 2007, Countrywide received information regarding the performance and characteristics of loans that it originated under various products and programs and securitized into RMBS. That information suggested that certain products had the potential to perform poorly, particularly in a challenging economic environment.
Imagine that! Or from page 16 (again conduct of Countrywide):
Although Countrywide disclosed in certain of its SEC filings (i) the attributes of Pay-Option ARMs that were held by CB and (ii) the increasing volume and dollar amount of loans that were experiencing negative amortization, the Offering Documents did not disclose that certain Pay-Option ARM loans included as collateral were loans that CB had elected not to hold for its own investment portfolio because they had risk characteristics that CFC management had identified as inappropriate for CB.
And believe me, I'm not cherry-picking here. It's one pile of nothing after another. They even quote from several emails. You would think that after subpoenaing what must have been millions of emails they would have at least a few dozen embarrassing admissions to throw back at BofA, but again they have literally nothing.
So who gets the money from this settlement? Go through the Settlement Agreement, and you find that of the $17 billion, about $10 billion goes to some combination of the federal government and the six participating states. There's no specification of what office or fund gets the money to spend. So is it just a slush fund to spend on whatever pet project Justice may want to have free from any oversight? Sure looks like it. Then there's $7 billion for what they call "consumer relief." Wait a minute -- I thought this settlement had nothing to do with injured consumers. And what does "consumer relief" consist of? Supposedly there's a description in "Annex 2", but when you go there you find that the whole thing consists of this one cryptic paragraph:
Eligibility: The Consumer Relief eligibility criteria shall reflect only the terms set forth below and the following principles and conditions: (1) Consumer Relief will not be implemented through any policy that violates the Fair Housing Act or the Equal Credit Opportunity Act; (2) Consumer Relief will not be conditioned on a waiver or release by a borrower, provided that waivers and releases shall be permitted in the case of a contested claim where the borrower would not otherwise have received as favorable terms or consideration; and (3) Eligible modifications may be made under the Making Home Affordable Program (including the Home Affordable Modification Program and the Housing Finance Agency Hardest Hit Fund) and any proprietary or other modification program. Nothing herein shall preclude the implementation of pilot programs in particular geographic areas that do not violate the Fair Housing Act, the Equal Opportunity Credit Act, or any other federal or state civil rights law.
A guy named Eric Green is appointed to "monitor" the consumer relief. He's a fairly prominent guy in the mediation business, and maybe even a man of integrity. But is there any chance that this $7 billion will not end up being another slush fund going most or all to Democratic party activists of one form or another?
A couple more issues. There's no mention whatsoever in the Settlement Agreement or Statement of Facts that most of the indentures for mortgage backed securitizations contain provisions whereby when a loan is found not meeting the underwriting criteria of this trust, that loan can be put back to the issuer who then must substitute a conforming loan. The existence of such a provision would completely undermine the significance (if there otherwise would be any) of essentially all of the allegations of wrongdoing in the Statement of Fact. So what if BofA did inadequate due diligence on the loans that went in here if it has a duty to substitute a conforming loan on request? Now, I don't specifically know that all BofA indentures at issue here had this provision; but I am in this business, and all the indentures I have seen have them. Indeed, there is a huge amount of civil litigation going on around the country right now where buyers and trustees have sued issuers to force substitution of conforming loans. And suppose that some, or even many, of the BofA/Merrill Lynch/Countrywide indentures lacked this provision. Still, we know from the prevalence of the provision throughout the industry that the sophisticated buyers were able to demand it when they wanted it. The failure in the Settlement Agreement and Statement of Facts to address this issue is frankly an insult to the intelligence of public readers of the document. How can you ask us to evaluate whether this is a bona fide settlement versus a shakedown if you won't even tell us whether the supposedly defrauded buyers had the usual right to put back non-conforming loans for substitution? The fact that they don't mention the issue tells you all you need to know.
The federal government is getting about $9 billion out of the approximately $10 billion going to government entities. What's the theory that they deserve this money? Perhaps because Fannie and Freddie lost money guaranteeing many of these mortgages? Well, first, they don't say how many of these mortgages were guaranteed by Fan and Fred; and to the extent the mortgages were so guaranteed, that would mean that the MBS bonds were good, and would be inconsistent with the theory of the case that the buyers were defrauded. And didn't Fan and Fred have the complete ability to audit to their hearts' content any loans that they were guaranteeing? Well then, I can't think of any reason at all why the federal government should get a dime of this money. Oh, unless it's a shakedown.
Actually, Fan and Fred, egged on by Congresspersons led by Barney Frank and Mel Watt, were the prime sources pushing BofA, Merrill and Countrywide to make all these iffy subprime loans in the first place. And where are these players today? Fan and Fred are bigger than ever in dominating the mortgage guarantee and securitization business. No prosecutions there. Barney Frank has mercifully sailed off into the sunset. And Mel Watt? He's now the head of F/F's so-called "regulator," the FHFA. And hard at work pushing for another round of untenable subprime mortgage lending.
Then there are the six states participating in the settlement: California, Delaware, Kentucky, Maryland, New York, North Carolina. Did I mention that the AGs of all six are Democrats? Kudos to the Republican AGs of this country for not joining in on this pile on.
At Bloomberg News they're treating the settlement like some kind of important accomplishment for the government, and quoting the government spokesman without the slightest inkling that he is blowing smoke:
The government said Bank of America and its Merrill Lynch and Countrywide Financial units sold billions of dollars of mortgage securities backed by toxic loans and misrepresented the risks to investors. “It’s kind of like going to your neighborhood grocery store to buy milk advertised as fresh, only to discover that store employees knew the milk you were buying had been left out on the loading dock, unrefrigerated, the entire day before, yet they never told you,” Associate Attorney General Tony West said during the press conference.
If you think that's embarrassing, try the New York Times, where the entire angle is whether BofA may get away with paying less than the entire $17 billion (because some of it will be tax deductible, and some of the "consumer relief" may never come to pass). The article is larded with quotes from their activist buddies from places like the Urban Justice Institute and the Neighborhood Assistance Corporation of America.
Does anyone in the press actually look at whether this matter involves any actual wrongdoing or whether it makes any sense? Try Holder The Shakedown Artist at IBD.
Little by little the prosecutors of this country are forfeiting all the credibility that they ever had with that part of the public that pays attention.
Full disclosure: Willkie Farr represents Bank of America in some matters, although not in this matter.