Wednesday, October 13, 2010

Misery Loves Company

Recently, entrepreneurial lawyers have taken up the cause of renters who stopped paying their mortgages, as if they are somehow the victim in this mortgage crisis. The mortgage crisis has certainly generated a lot of damage, but those who bought houses with teaser rates with little money down are hardly victims (Michael Moore compares them to rape victims), but rather, scammers looking for a free lunch (buying a home with little money down is an underpriced option on home values).

A chart in the WSJ shows the increase in time it takes between when a homeowner stops paying his mortgage, and when a bank can actually take possession of the property. The average time over all states in 478, and the latest activity to help the non-paying renters will probably boost that further.

The families of the 9/11 victims averaged $1.8MM for their injustice, the 33 victims of the USS Cole that were killed by Al Quada got about $0.4MM, and those who were killed idiosyncratically generally received nothing. The key to being a successful victim is to be a victim others can empathize with.

I remember in my litigation I was a modestly rich guy fending off litigation from my former employer, a very (~100x more) rich guy. While I was in my career time out I spoke with a state legislator about state law, noting that unlike other states a party did not have to specify the intellectual property in question when alleging a violation of said property. Now, any proposed legislation would not affect me, but I thought the status quo was unjust. The law made confidentiality agreements perpetual non-competes for litigious parties with sufficient means (you can read more here). The legislator told me straight up: "it does not happen enough to a group anyone cares about'. True enough. Who cares about a hedge fund employee getting screwed? When my lawyer told the judge the allegations against me were costly and prevented my ability to work she said "Can't he golf?", and the courtroom laughed. Sympathy is for the historically disadvantaged, the poor, and people aligned with such groups, and sympathy often leads to specific redress if not subsidy.

On the other hand, when everyone is a victim, by definition you can't give yourselves a boatload of money, because it has to come from somewhere else. Thus, you have the Laffer curve of redistribution where if you suffer a bizarre injustice or injury, you get no money or sympathy, and if everyone suffers an injury, you have to suck it up (though, like our 'greatest generation' you can capture sympathy if not respect from future generations about your suffering later).

A key here is the conflation of injustice and injury. Injustice implies a third party was negligent or malicious, whereas injury is just random bad luck. From a societal point of view it makes a difference because we ought to compensate victims of injustice and they get to take the moral high ground, while victims of bad luck just get put into standard welfare programs. In practice, the difference is whether one side's affiliation can provide useful indirect support as a PR prop or voting block, or whether one party himself can provide useful direct support. The facts in disputes are pretty messy, requiring more effort than most are willing to apply, but the benefits are usually straightforward, and you can predict interested people's inference of messy facts pretty well based on which inference offers them greater benefits.

Currently, the homeowners are changing the mortgage contract ex post because lawyers and politicians find them useful muckraking props for their power and profit grabs. Prior default curves for mortgage cohorts are now totally irrelevant because there is now little stigma for defaulting on a mortgage--rather the opposite--and you get to live rent free for a longer time if you stop paying. Pre-2006 was a different world for mortgage behavior. Such expropriations are not free, however, they get built into current prices and contracts, and so make things much worse because sellers and lenders rationally anticipate lower recovery rates and higher default rates. The current housing morass will not get better until government stops 'helping'.


Michael Stack said...

Wow - the judge actually said those words? "Can't he golf?"

That's disgusting.

Anonymous said...

These are the people who bid up the price of everything using credit. Now they're in trouble and I'm supposed to feel bad? No, sorry. I will buy your stuff, if I want it, at fire sale prices to help you out. That's about it. You see, like you, I wanted a nice SUV for my family, and nice clothes, and a big house. I didn't buy all those things, even though my income would probably support it. I did not lever up, so for almost a decade, I felt left behind--like I was the asshole. Now it's their turn. The tide went out, we can now see who was swimming naked.

– BB

Unknown said...

I really agree with your arguments here. But I have to say, who in bl**** h*** was selling these people those underpriced options on home values, and why? Can we really feel sorry for THEM as victims of irresponsible (and/or fraud-committing) home buyers?

Eric Falkenstein said...

robert: Everyone made mistakes, but the rules have been altered in favor of the borrower ex post, not the investor. Further, the investor has been punished more than anyone else. After all, what's a worse punishment: having to move out of a home you didn't put a down payment on after 1 year, or losing 50% of your capital?

Unknown said...


Yeah, you're right. I'm not sure that everyone who was selling mortgages comes out smelling like a rose, but you're still right.

Anonymous said...

This is a complete straw man argument that is separate from the issue at hand -- the outright fraud taking place at these banks.

Anonymous said...

Agree with you about a lot, but you are dead wrong on this one. If real property rights become ambiguous, and servicing banks (not MBS investors) are able to foreclose without the proper docs there will not be a securitization market in real estate - ever again.

This isn't about giving people free houses (there won't be any - or at least not many) it's about making sure that there is really, truly something owed and owned. Without that, capitalism doesn't exist.

Michael Moore can bleat all he wants, but there is a deadly serious problem here.

J said...

Getting into excessive debt is a human weakness. We cannot help it. The Biblical Jubilee Year when all debts are erased allows everybody to start afresh. I dont know how it worked but we should institute something like that.

GW said...

FYI, you are mischaracterizing what's going on in the mortgage debacle.

Borrowers are not trying to change mortgage contracts ex post facto as you suggest.

What is a mortgage loan? It's a legal contract by which a creditor lends a sum of money to a borrower to the specific purpose of buying a real estate asset, and is secured by that asset itself if the loan should not be paid back. It is NOT an unlimited lien on the income of the borrower in perpetuity. There's also nothing in the loan contract that says the borrower MUST pay even if the borrower doesn't want to or can't. Plus, it's ONLY valid if it meets the requirements necessary for the contract to have legal standing (for instance, continuous chain of title on the note).

If the borrower fails to pay the money back, the lender's ONLY legal recourse is to foreclose on the property which collateralizes the loan contract. The borrower has NO OTHER OBLIGATION to the lender than to surrender the property if the borrower can't or won't pay as required in the terms of the loan contract. However, the lender can only foreclose on the property if he has a VALID CONTRACT UNDER LAW.

A lot of borrowers have been defaulting on their home loans. Whether they've been doing it voluntarily or involuntarily is irrelevant to the standing of the loan as a contract. We don't have indenture or debt slavery any more (though I'm sure lenders would like to change that). Thus, the lenders must foreclose.

But a lot of the mortgage loans that were originated during the boom years were created and transfered to other investors FRAUDULENTLY. Fraudulent contracts are not enforceable under law (nor should they be).

By your arguments here, you are de facto defending widespread mortgage fraud and condemning borrowers who are simply exercising their economic and contractual rights. Is that really what the defense of capitalism has come to these days?

Charles said...


There is little evidence that the people losing their home are being cheated out of anything. What we have is sloppy paperwork and corner cutting and not an intent to harm.

Yes, the contracts may be unenforceable legally speaking. The law however can create inefficiencies and unnecessary costs. The law can also create injustices.

I have no idea what the scope of this problem is and no idea how it can be fixed. But the potential to bring down the economy is frightening. Secure title to property is a cornerstone of the economy.

Anonymous said...

J said: "Getting into excessive debt is a human weakness. We cannot help it."
How do you say that in Chinese (or Japanese, or German, ...)?

Anonymous said...

I'm sure that most of those "improperly" foreclosed on will eventually be properly foreclosed on. They still have a right to due process. No contract law -> no capitalism.