Mortgage REIT Cram Down Gathers Momentum

by REIT Wrecks on January 9, 2009

A Thursday afternoon deal between Citigroup and Senate Democrats will help push forward legislation allowing for bankruptcy judges to “cram down” altered mortgage terms on beleaguered lenders.

In the Mortgage REIT world, it’s just one more crack in the edifice of the “safety” of contractual cash flows underlying already shaky REIT dividends. And it’s even more erosion of the moral hazard, this time for homeowners who jumped into the market at the peak, many obviously hoping to turn a quick buck. Roughly 8.1 million homeowners, about 16% of all homeowners, are at risk of foreclosure, according to the Senators who made the announcement on Thursday.

The value of these loans have already eroded so much that there was barely a “so what?” response in the credit markets. The CMBX Index fell about 3.6% late Thursday and declined a bit more on Friday, while ABX indexes declined to about 23 cents on the dollar as of Friday morning from 23.6 cents on Thursday, a 2% decline.

A key provision of the bill is that the cramdowns would only be extended to borrowers who prove that they’ve asked their lender for a loan modification before filing for bankruptcy, and who received their loan before the bill goes into effect.

The deal is an about face for Citigroup, and it could pave the way for the measure’s inclusion in the economic stimulus package Congress will take up after the inauguration on January 20th.

The proposed change in the nation’s bankruptcy laws was a major dispute last year when the housing crisis began to threaten millions of homeowners. Democrats sought to give homeowners who are “underwater”, those who owe more money on their homes than the homes are worth, a way to strike a more favorable deal with banks. But giving bankruptcy judges the power to “cram down” mortgages has been strongly opposed by congressional Republicans and mortgage lenders, who warned that it would make providing loans riskier and, because of that, reduce the amount of credit available to buyers.

Citigroup’s about-face suggests momentum is building to include the measure in the stimulus legislation. By supporting the bill, Citi evidently hopes to avoid an even bigger “cram down”: being subjected to loan modification legislation that is drafted without any input from the Masters of the Universe at 399 Park Avenue. Evidently, Citi sees this legislation as all but inevitable, and it’s “support” is just a practical attempt to limit the damage from a train that has already left the station.

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