Matrix Blog

Last week the appraisal community was up in arms about a $55 “appraisal” product that was an appraisal but no self-respecting appraiser could complete the report completely, be USPAP compliant and still make a meager living. The consensus is that it will attract shysters and promote short cuts. There is a rabid discussion forum on this topic right now on LinkedIn if you are a member of the group.

A new product by First American has now appeared which is explained in technicolor by Tyler King, our resident Phish fan and hipster over at Commercial Grade called an AVPO:

So to recap: The (licensed) appraiser looks at a set of comps, from these comps logical adjustments are made, and the appraiser formulates a value opinion. Yes…I see…that sounds nothing like an appraisal.

aside: First American owns eAppraisIT, who’s slogan on their web site, incredibly, is “Redefining Value.” For those who may have forgotten, NYS AG Andrew Cuomo filed suit against eAppraisIT back in 2007 for conspiring with Washington Mutual to inflate real estate appraisals.

First American claims “this is not an appraisal” to which the Appraisal Foundation replies:

While it is not within our purview to determine whether any particular product or service complies with USPAP, we can tell you that, as far as USPAP is concerned, the product appears to qualify as an appraisal or an appraisal review assignment. The press release states, in part:

“While this is not an appraisal, a licensed appraiser confirms the specific set of values determined by a local Realtor® by looking at comparable sales and verifying accuracy. If discrepancies are found, the appraiser provides a new set of values, complete with an explanation of how they were determined.”

If an appraiser is required to comply with USPAP (such as a licensed appraiser in a state that mandates such compliance), the above product would have to comply with STANDARDS 1 and 2, or STANDARD 3.

Best regards,

John S. Brenan
Director of Research and Technical Issues
The Appraisal Foundation
www.appraisalfoundation.org
(202) 624-3044

Tags: Appraisal Institute, Miller Cicero, NAR, National Association of Realtors

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Since appraisal management companies are now responsible for the super majority of appraisals being ordered through lenders for mortgage purposes due to HVCC and AMCs are not a regulate institutions, the consumer is exposed more than ever to the potential for low quality appraisals, continuing to undermine the public trust in the appraisal profession. I suspect trend this has the potential to push errors and omissions insurance rates higher and provide more exposure to the mortgage lending system.

I firmly believe that 5-7 years from now we will be looking back to today’s AMC trend and will be saying: “if we only did something about it.”

Admittedly I know very little about surety bonds and this is no sales pitch or a solution to the AMC problem. I am more interested in understanding ways to protect the consumer against negligence and instill confidence in the appraisal process. To require AMCs to pay for surety bonds in order to operate in a state sounds like it provides an easier way for consumers to go after AMCs for negligence. Feedback or suggestions welcome.

According to Wikipedia, a surety bond is a contract among at least three parties:

• The obligee – the party who is the recipient of an obligation,
• The principal – the primary party who will be performing the contractual obligation,
• The surety – who assures the obligee that the principal can perform the task

I was contacted by Jay Buerck of SuretyBonds.com who wrote provided the following post on surety bonds and appraisal management companies. He indicated that 6 states brought about new AMC legislation last year and it is expected to grow in the coming years. His article is simply trying to make everyone aware of this fact.

States nationwide are introducing tougher oversight and regulation of appraisal management companies. The push is part of a growing effort to bring more consumer protection and transparency to the home-purchasing process.

In all, six states: Arkansas, California, Nevada, Louisiana, Utah and New Mexico ó ushered in new AMC legislation in 2009. Industry officials expect another 15 to 20 states to consider adopting similar measures this year.

Appraisal management companies are becoming increasingly important because of sweeping changes to regulations for home valuations nationwide. The stricter regulations are geared toward boosting consumer safety and stabilizing the housing market.

“There is a significant belief out there that mortgage fraud played a significant role in the meltdown in the housing market, and any unregulated entity that is out there presents the possibility for mortgage fraud to creep back into the system,” Scott DiBiasio, manager of state and industry affairs for the Washington, D.C.-based Appraisal Institute, a global association of real estate appraisers, told Insurance Journal this winter. “I think legislators recognized that this was a gaping loophole that needed to be corrected.”

Taking consumer protection a step further, Arkansas became the first state to add a surety bond requirement to its appraisal management statutes. The new legislation requires that AMCs post a $20,000 surety bond with the stateís real estate appraiser board.

Surety bonds are essentially three-party agreements that ensure businesses or people follow all applicable laws and contracts. A surety bond also provides consumers and tax payers who are harmed by the business with an avenue of financial recourse.

Most of the new AMC legislation requires companies to make sure their appraisals are in line with the Uniform Standards of Professional Appraisal Practice. Theyíre also responsible for ensuring they use certified and licensed appraisers only.

There are also some financial disclosure and transparency requirements in some states.

“We need to have and the public deserves to know who owns, operates and manages these appraisal management companies,” DiBiasio said. “I think the $20,000 surety bond is really there to provide some minimal protection to consumers.”

Tags: Appraisal Management Companies, HVCC, Appraisal Institute, AMC

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I authored the following article for RealtyTrac which appeared on the cover of their November 2009 subscriber newsletter called Foreclosure News Report. It features a column for guest experts called “My Take.”

When Rick Sharga invited to write the article, he provided the previous issue which featured a great article by Karl Case of the Case Shiller Index and I was sold.

I hope you enjoy it.

Appraisers and Foreclosure Sales Bring Havoc to Housing Markets
By Jonathan Miller
President/CEO of Miller Samuel Inc.
11-2009

In many ways, the quality of appraisals has fallen as precipitously as many US housing markets over the past year. Just as the need for reliable asset valuation for mortgage lending and disposition has become critical (fewer data points and more distressed assets) the appraisal profession seems less equipped to handle it and users of their services seem more disconnected than ever.

The appraisal watershed moment was May 1, 2009, when the controversial agreement between Fannie Mae and New York State Attorney General Andrew Cuomo, known as the Home Valuation Code of Conduct, became effective and the long neglected and misunderstood appraisal profession finally moved to the front burner. Adopted by federal housing agencies, HVCC, or lovingly referred to by the appraiserati as “Havoc” and has created just that.

During the 2003 to 2007 credit boom, a measure of the disconnect between risk and reward became evident by the proliferation of mortgage brokers in the residential lending process. Wholesale lending boomed over this period, becoming two thirds of the source of loan business for residential mortgage origination. Mortgage brokers were able to select the appraisers for the mortgages that they sent to banks.

Despite the fact that there are reputable mortgage brokers, this relationship is a fundamental flaw in the lending process since the mortgage broker is only paid when and if the loan closes. The same lack of separation existed and still exists between rating agencies and investment banks that aggressively sought out AAA ratings for their mortgage securitization products. Rating agencies acceded to their client’s wishes in the name of generating more revenue.

As evidence of the systemic defect, appraisers who were magically able to appraise a property high enough to make the deal work despite the market value of that locale, thrived in this environment. Lenders were in “don’t ask, don’t tell” mode and they could package and sell off those mortgages to investors who didn’t seem to care about the value of the mortgage collateral either. Banks closed their appraisal review departments nationwide which had served to buffer appraisers from the bank sales functions because appraisal departments were viewed as cost centers.

The residential appraisal profession evolved into an army of “form-fillers” and “deal-enablers” as the insular protection of appraisal professionals was removed. Appraisers were subjected to enormous direct and indirect pressure from bank loan officers and mortgage brokers for results. “No play, no pay” became the silent engine driving large volumes of business to the newly empowered valuation force. The modern residential appraiser became known as the “ten-percenter” because many appraisals reported values of ten percent more than the sales price or borrower’s estimated value. They did this to give the lender more flexibility and were rewarded with more business.

HVCC now prevents mortgage brokers from ordering appraisals for mortgages where the lender plans on selling them to Fannie Mae or Freddie Mac which is a decidedly positive move towards protecting the neutrality of the appraiser. Most benefits of removing the mortgage broker from the appraisal process are lost because HVCC has enabled an unregulated institution known as appraisal management companies to push large volumes of appraisals on those who bid the lowest and turn around the reports the quickest. Stories about of out of market appraisers doing 10-12 assignments in 24 hours are increasingly common. How much market analysis is physical possible with that sort of volume?

After severing relationships with local appraisers by closing in-house appraisal departments and becoming dependent on mortgage brokers for the appraisal, banks have turned to AMC’s for the majority of their appraisal order volume for mortgage lending.

Appraisal management companies are the middlemen in the process, collecting the same or higher fee for an appraisal assignment and finding appraisers who will work for wages as low as half the prevailing market rate who need to complete assignments in one-fifth the typical turnaround time. You can see how this leads to the reduction in reliability.

The appraisal profession therefore remains an important component in the systemic breakdown of the mortgage lending process and is part of the reason why we are seeing 300,000 foreclosures per month.

The National Association of Realtors and The National Association of Home Builders were among the first organizations to notice the growing problem of “low appraisals”. The dramatic deterioration in appraisal quality swung the valuation bias from high to low. The low valuation bias does not refer to declining housing market conditions. Despite mortgage lending being an important part of their business, many banks aren’t thrilled to provide mortgages in declining housing markets with rising unemployment and looming losses in commercial real estate, auto loans, credit cards and others. Low valuations have essentially been encouraged by rewarding those very appraisers with more assignments. Think of the low bias in valuation as informal risk management. The caliber and condition of the appraisal environment had deteriorated so rapidly to the point where it may now be slowing the recovery of the housing market.

One of the criticisms of appraisers today is that they are using comparable sales commonly referred to as “comps” that include foreclosure sales. Are these sales an arm’s length transaction between a fully informed buyer and seller is problematic at best. While this is a valid concern, the problem often pertains to the actual or perceived condition of the foreclosure sales and their respective marketing times.

Often foreclosure properties are inferior in condition to non-foreclosure properties because of the financial distress of the prior owner. The property was likely in disrepair leading up to foreclosure and may contain hidden defects. Banks are managing the properties that they hold but only as a minimum by keeping them from deteriorating in condition.

In many cases, foreclosure sales are marketed more quickly than competing sales. The lender is not interested in being a landlord and wants to recoup the mortgage amount as soon as possible. Often referred to as quicksale value, foreclosure listings can be priced to sell faster than normal marketing times, typically in 60 to 90 days.

The idea that foreclosure sales are priced lower than non-foreclosure properties is usually confused with the disparity in condition and marketing times and those reasons therefore are thought to invalidate them for use as comps by appraisers.

Foreclosure sales can be used as comps but the issue is really more about how those comps are adjusted for their differing amenities.

If two listings in the same neighborhood are essentially identical in physical characteristics like square footage, style, number of bedrooms, and one is a foreclosure property, then the foreclosure listing price will often set the market for that type of property. In many cases, the lower price that foreclosure sales establish are a function of difference in condition or the fact that the bank wishes to sell faster than market conditions will normally allow.

A foreclosure listing competes with non-foreclosure sales and can impact the values of surrounding homes. This becomes a powerful factor in influencing housing trends. If large portion of a neighborhood is comprised of recent closed foreclosure sales and active foreclosure listings, then guess what? That’s the market.

Throw in a form-filler mentality enabled by HVCC and differences such as condition, marketing time, market concentration and trends are often not considered in the appraisal, resulting in inaccurate valuations. As a market phenomenon, the lower caliber of appraisers has unfairly restricted the flow of sales activity, impeding the housing recovery nationwide.

In response to the HVCC backlash, the House Financial Services Committee added an amendment to the Consumer Financial Protection Agency Act HR 3126 on October 21st which among other things, wants all federal agencies to start accepting appraisals ordered through mortgage brokers in order to save the consumer money.

If this amendment is adopted by the US House of Representatives and US Senate and becomes law, its deja vu all over again. The Appraisal Institute, in their rightful obsession with getting rid of HVCC, has erred in viewing such an amendment as a victory for consumers. One of the reasons HVCC was established was in response to the problems created by the relationship between appraisers and mortgage brokers. Unfortunately, by solving one problem, it created other problems and returning to the ways of old is a giant step backwards.

We are in the midst of the greatest credit crunch since the Great Depression and yet few seem to understand the importance of neutral valuation of collateral so banks can make informed lending decisions. Appraisers need to be competent enough to make informed decisions about whether foreclosures sales are properly used comps. For the time being, many are not.

Tags: Case-Shiller, Appraisal Management Companies, HVCC, Appraisal Institute, AMC, NAR, National Association of Realtors

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It is nice to see the appraisal process move front and center after being on the back burner for the past 7 years during the credit bubble. The appraisal process in mortgage lending is like politics and making sausage – its not pretty when you look at it up close (except for my photo, of course).

Vivian Toy pens a great article which talks about the disconnect between the ideals of the appraisal profession and what is being forced on the profession by the lending community and regulators in this weekend’s real estate section cover story called New York Appraisals Get Shortchanged.

And without a stockpile of comparable sales for reference, Mr. Miller said, “you have to really know the local market, so you can go beyond the raw sales data and use all the subjective factors you can to really tell the story about a property.”

Here’s a key issue affecting all mortgage lending nationwide: APPRAISAL MANAGEMENT COMPANIES (all caps for emphasis beyond using bold).

The potential pitfalls are not exclusive to New York. “The least qualified and least experienced people are doing appraisals across the country,” said Jim Amorin, the president of the Appraisal Institute, a national trade group that represents 26,000 appraisers. He estimated that appraisal management companies now handle about 90 percent of the appraisal market, up from about 30 percent before May 1.

Mr. Amorin said he had heard of appraisers in California who travel 150 to 200 miles to do an appraisal.

It’s hard to believe that they could still be in their geographically competent area, he said. And in Manhattan it would be even harder if you have someone coming in from the suburbs, since things can be vastly different from one side of the street to another.

When you commoditize the appraisal profession as appraisal management companies do, you really get poor quality at a higher cost. The costs are measured in risk exposure, lost revenue from killing transactions that shouldn’t be, and AMC fees are often higher (remember the appraiser only gets about half of the total appraisal fee).

The irony here is that many of the appraisers who were the source of overvaluation during the boom times – cranking out a high volume of reports, mainly for mortgage brokers – are now getting most of the work through appraisal management companies. They are undervaluing because they are unfamiliar with the markets they appraise in and think the lenders want them to be low (they probably do). Remember that in either the high or low scenario, its all about making their clients happy – in other words – insanity continues to be pervasive in mortgage lending…but now it is costing the consumer directly.

The New York Times ran an A1 (page one) story back in August called “In Appraisal Shift, Lenders Gain Power and Critics.” Which talked about how good appraisers are being forced out of business because of the Home Valuation Code of Conduct agreement between NY AG Andrew Cuomo and Fannie Mae. Banks have all the power now and they are showing that they don’t understand the problem at hand.

Tags: New York Times, Fannie Mae, Appraisal Management Companies, Vivian Toy, Appraisal Institute, AMC

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Tags: HVCC, Appraisal Institute

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In other words, the institutional entities that are responsible for ordering, reviewing, approving and managing licensed appraisers, aren’t held to the same or similar standard – Appraisal Management Companies (AMCs).

One of the byproducts of New York State Attorney General Cuomo’s agreement with Fannie Mae (HVCC), was to prevent mortgage brokers from ordering appraisals for conforming mortgages that would be purchased by Fannie Mae. That’s a good idea in general. But by doing that, most national retail banks and many regional banks, are forced by necessity to manage the appraisal process directly. Few have the overhead to do this and therefore resort to appraisal management companies. Call an 800 number and order a report anywhere in the country.

Appraisal management companies are generally paid the same fee as an independent appraiser would be, so they have to find appraisers who will work for 1/3 to 1/2 the market rate (or 2/3 the rate as their trade group claims). To differentiate, they generally require 24 to 48 turn time per assignment, yet an appraisal is not a commodity like a flood certification – it’s a professional analysis by an expert.

Here’s a classic example of the new breed of unregulated appraisal oversight. It’s worth the read. Same problem as the mortgage boom days – pressure, sloppy work, crank it out – just a different type of institution doing the ordering.

And AMCs have a trade group called TAVMA (The NAR of AMCs), which does all it can to further their mission. Here’s their recent blog post saying their fees are 60% of the market rate rather than 50% as has been my experience as well as the appraisal organizations who testified in front of Congress.

Think about it – their argument is essentially this: Taking a 40% pay cut is a whole lot better than a 50% pay cut.

Whether it’s 40-20-10 [yet even more spin] or whatever percent the fee reflects what willing sellers (appraisers) and willing buyers (AMCs) in the local marketplace are willing to accept based upon their own self-interests. To try and draw a cause-effect relationship between fee and quality before congress is a little bit disingenuous, absent hard data.

Here’s the AMC fee logic in a nutshell:

If an employer posted a job listing with a starting salary 40% below the last hire’s salary – this will result in no measurable differences in the quality of job applications received? Forget the correlation/causation argument, what about common sense?

Good grief.

For once, I agree with NAR.

Appraisal management companies are not currently regulated at the federal level and regulation at the state level varies. Regulation would ensure that AMCs operate within the same basic guidelines and standards as independent appraisers. Further, this allows AMCs to be regulated within the existing appraisal regulatory structure, which avoids the need to create additional layers of government bureaucracy.

The Appraisal Institute announced the House version of bill 1728:

Furthermore, the bill requires separation and clear disclosure of fees paid to appraisers and fees paid for appraisal administration (i.e., fees paid to appraisal management companies); prohibits the use of broker price opinions in loan origination; and requires registration, and a regulatory framework, for Appraisal Management Companies, with mechanisms to prohibit infiltration by appraisers sanctioned by state regulatory agencies.

That specific wording “and a regulatory framework, for Appraisal Management Companies, with mechanisms to prohibit infiltration by appraisers sanctioned by state regulatory agencies” reflects the situation discussed in the St. Petersburg Times article.

Here’s usually the way the process works:

• To be approved, the appraiser submits a state license and in some cases, submits a couple of sample reports.
• The appraiser agrees to the half market rate fee structure and 24-48 hour turn time requirements (market rate is 5-7 days).
• The appraiser is placed in a computerized queue and is given an assignment
• The appraiser gets 1-2 calls by young kids out of high school making sure the appraiser will turn around the assignment in 24-48 hours
• The appraiser has to be very pushy to be able to get into the property in order to turn the assignment around in time.
• If there is a valuation problem or issue that needs interpretation by the AMC, the solution is often to just disclaim the problem in the addendum somewhere.
• Little if any interaction available from qualified appraisal professionals on AMC staff
• The appraiser gets more work if the jobs are turned around faster because the queue is set to have maximum amounts allowed by an appraiser at any one time.
• Remember, the fees are half market rate. In higher cost housing markets, the fees can be as low as 1/3 the market rate because the AMC appraisal fees are often set at national rates. In other words, appraisers in Manhattan would be paid the same as North Dakota even though the cost of doing business is 4x higher in Manhattan.

Now imagine the quality and reliability of this product, which is not a commodity, but an expert opinion prepared by a professional. It’s hard imagine much professionalism squeezed in this process, isn’t it?

HR 1728 H.R. 1728: Mortgage Reform and Anti-Predatory Lending Act was just passed by the House and Senate and is ready to be signed by POTUS. Here’s the appraisal portion.

It looks as though AMCs will be licensed just like appraisers will:

‘(7) maintain a national registry of appraisal management companies that either are registered with and subject to supervision of a State appraiser certifying and licensing agency or are operating subsidiaries of a Federally regulated financial institution.’

However, this will be more of a revenue opportunity by the states – licensing doesn’t have much to do with competence. Plus, I don’t see how states will have the manpower to provide meaningful oversight other than clerical aspects.

Mark my words here – this is an accident waiting to happen.

Tags: Conforming Mortgage, Fannie Mae, Appraisal Management Companies, HVCC, Appraisal Institute, AMC, TAVMA, REVAA, NAR, National Association of Realtors

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Guest Appraiser Columnist:
Jim MacCrate, MAI, CRE, ASA
MacCrate Associates
Appraisal & Valuation Issues Blog

Jim has worn many hats including a Director at PricewaterhouseCoopers in New York City and Chief Appraiser at European American Bank. He is a prolific writer on valuation issues and teaches a number of the real estate appraisal classes through the Appraisal Institute and New York University. I have had the pleasure of taking a number of courses taught by Jim.
…Jonathan Miller

Many so called real estate experts have been predicting the bottom to the real estate market will occur in late 2009 or early 2010. No one can predict with any degree of accuracy the future, much less the bottom of the real estate market in any metropolitan area. It is important for real estate professionals to remember that real estate markets vary by location. Some markets will do well while others are doing poorly. For example, the Detroit real estate market was depressed long before the recession was declared official by the federal government and the beginning of the decline in the New York real estate market. The real estate market in the New York metropolitan area has been driven low interest rates and by the growth of the financial, insurance, and real estate sectors of the economy which began in earnest in first quarter of 2004 as indicated in the following chart:

Total employment is now falling with the FIRE and construction sectors of economy taking a big hit in employment beginning with the collapse of Lehman Brothers. Real estate salespeople, brokers, and appraisers must stop listening to the noise from Washington, D.C., politicians, and others who have mislead us in the past. What we are witnessing, the economists and politicians have witnessed this before during the late 1920’s, the late 1950’s and early 1970’s. In order to properly value real estate, one must cut out all the outside noise and analyze carefully what the local real estate market data is telling you.

On a Macro Basis the Indicators are all Negative

The recent indicators reported by the government suggest that the economy is improving because the rate of unemployment is declining, consumer confidence is improving, the rate of decline in manufacturing is subsiding, etc. All of the above and other statistics still suggests that economy is not improving and real estate values will not begin to rebound until the economy turns over and employment begins to increase with an increasing payroll income and wealth. That is not bound to happen for awhile.

In the New York Metropolitan area, the leading indicators for increasing real property values are all declining, including the following:

• Population is stabilized or falling
• Number of households has stabilized or is declining
• Total employment is declining
• Total payroll/income is declining
• Consumer confidence is negative
• Businesses are still contracting including manufacturing, retail and the financial services sectors of the economy.

The results of the 2010 Census should be interesting nationwide. Listen to what the leading indicators are telling you about the macro market.

Now, on a Micro Basis

Real estate is fixed and immobile. The value of real property is driven by local indicators which impact the demand for real estate in a specific location. All the macro indicators referred to above are also negative in the New York Metropolitan area. In order to determine if the real estate market is rebounding versus stabilizing at a much lower level of activity and prices, the following factors should be analyzed carefully in addition to the factors that generate demand:

• Sale price trends
• Increase/decrease in the number of sales
• Increase/decrease in the number of listings for sale
• Increase/decrease in the number of days on market
• Increase/decrease in sales concessions
• Response to for sale or for lease advertisements
• Increase/decrease in the number of foreclosures
• Increase/decrease in the number of loan defaults.

These trends are extremely important to watch, but the trends will not reverse until consumer confidence is positive and total payroll/income, employment and the number of households is increasing. It must be remembered that real estate prices remained depressed for several years after the recessions of the 1970’s and 1980’s. Why should this time be any different, and, in fact, it is already worse in many markets.

Tags: Europe, James MacCrate, Commerce Dept, Census, Appraisal Institute, Straight from MacCrate, Lehman

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Tags: HVCC, OFHEO, Appraisal Institute

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Back in June 2008, I had the good fortune to meet Dr. Sam Chandan when we appeared together on Fox News. An already accomplished economist, he recently started his own consulting firm known as Real Estate Economics, LLC.

He recently gave a well received presentation at an Appraisal Institute function and here are some key slides that were shown. I look forward to sharing more of his work as it relates to the real estate economy.

Sobering.

Tags: Appraisal Institute

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There was an interesting Op-Ed piece in the New York Times this week written by Howard Husock of the Manhattan Institute called Housing Goals We Can’t Afford.

The article points out that with all the housing and mortgage woes across the country, it’s pretty easy to point fingers. However, it gets more difficult when you point them at groups that tried to do the right thing.

The Community Reinvestment Act was passed in 1977 when bank competition was sharply limited by law and lenders had little incentive to seek out business in lower-income neighborhoods. But in 1995 the Clinton administration added tough new regulations. The federal government required banks that wanted “outstanding” ratings under the act to demonstrate, numerically, that they were lending both in poor neighborhoods and to lower-income households.

Banks were now being judged not on how their loans performed but on how many such loans they made. This undermined the regulatory emphasis on safety and soundness. A compliance officer for a New Jersey bank wrote in a letter last month to American Banker that “loans were originated simply for the purpose of earning C.R.A. recognition and the supporting C.R.A. scoring credit.” The officer added, “In effect, a lender placed C.R.A. scoring credit, and irresponsible mortgage lending, ahead of safe and sound underwriting.”

I remember at one point, quite a while ago, before digitally delivered appraisals, lenders were calling us to get the census tract number the property was located in. We soon discovered that the standardized binder that held the appraisal and other mortgage documents, required two holes punched at the top of the form. One of the holes covered the census tract number. This number was used to credit the bank with originations in lower-income neighborhoods. It struck home (no pun intended) how important it was for them to cover all the markets.

CRA is a noble endeavor. The solution to uneven lending missed a basic economic fact: banks were pressed to lend in areas with lower home ownership and therefore had to lower their underwriting standards to get enough volume to make the regulators happy.

The result? Higher default rates are experienced in these markets. Mandating quantity creates an environment of weaker quality.

If the Community Reinvestment Act must stay in force, then regulators should take loan performance, not just the number of loans made, into account. We have seen the dangers of too much money chasing risky borrowers.

An argument can be made here for encouraging renting when ownership is not affordable or simply creates too high of an investment risk. You can look around and see what happened when lending practices were not reflective of market forces. Bedlam – good intentions or not.

UPDATE: I got an generic but informative email from the Center for Responsible Lending, likely as a result of this post that contained the header: “Bashing CRA Doesn’t Help.” It provides tangible talking points that are informative. The sensitivity is very elevated over this topic and I wasn’t bashing – I just have a concern over the transfer of risk to lenders – it’s a brave new world out there and interpretation of risk has changed overnight.

Here’s their email text:

According to John Dugan, Comptroller of the Currency, “It is not the culprit.”

Federal Reserve Governor Randall Kroszner says, “It’s hard to imagine.”

They are talking about the wrong but persistent rumors that the Community Reinvestment Act, a longstanding rule to encourage banks to lend to all parts of the communities they serve, is the reason behind for the surge in reckless subprime lending.

First, CRA was passed into law in 1977, well before the development of the subprime market. The majority of lenders who originated subprime loans were finance companies, not banks, and thus not even subject to CRA requirements.

A recent study by the Federal Reserve points out that 94% of high-cost loans made during the subprime frenzy had nothing to do with Community Reinvestment Act goals.

A lump of coal to the media who perpetuate this myth. The sooner we stop finger-pointing and focus on real solutions, the better.

Tags: Commerce Dept, Census, Appraisal Institute, Sub-Prime

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Hey, after a gauntlet of market report releases for the month of July, I’ve been sort of AWOL for the past several days. Hey. It’s summer. Tomorrow I ride on a rollercoaster…literally.

Last week, the FASB decided to delay the proposed accounting rule that keep banks from hiding assets via special purpose entities (SIVs)

The rules were tightened, but criticism erupted again last year after some banks suffered large losses from structured investment vehicles and other entities that had been kept off balance sheets under the rule.

Everyone seems to want less regulation:

SEC Chief Warns against Investment Bank Regulations

“Rather than extend the current approach of commercial bank regulation to investment banks, I believe Congress and regulators must recognize that different regulatory structures are needed for oversight of these industries,” Cox said. “Put simply, regulatory reform should not, and need not, amount to the elimination of the investment banking business model.”

The Mortgage Bankers Association was relieved about the delay, likely because it will give them more time to modify or prevent the change from happening. Kieran P. Quinn, CMB, Chairman of the Mortgage Bankers Association commented in the press release about the impact of new rule on credit liquidity. (Incidentally, I am guessing this is the same Kiernan I spoke to fairly often as one of our mortgage clients. He was a straight shooter who was very loyal to firms who provided high quality appraisal work. So admittedly, I give more weight to what he says…). He today commented on the decision by the Financial Accounting Standards Board (FASB) to delay, by one year, implementation of a forthcoming proposal that would bring sweeping changes to securitization accounting.

Consolidation of securitization QSPE is likely to swell the balance sheets of the affected entities, adversely impact financial ratios, financial covenant performance and regulatory capital tests; and bring a new chill to credit markets at the exact time when all market participants are working to relieve the current credit crunch. We look forward to working with the FASB to implement the changes and make this transition as smooth as possible.

The full disclosure catch-22: If the accounting rule is implemented, the use of SIV’s and other off balance investments will be sharply curtailed,

1…causing the ratios to show an increased need for more capitalization which equals less liquidity in the market, which is just what the credit markets don’t need.

2…preventing what got us here in the first place – a lack of understanding about the true risk associated with a given lender.

So we need to ask ourselves a question…Do I feel lucky?” Well, do ya, punk? In other words, do we want greater liquidity to help housing out of its current mess, or do we instill the basics in a financial system that lost its way? I seem to remember last year at this time, we got in the credit mess because of the lack of disclosure, no?

If we feel lucky, we can ignore issues where we think there is a wide margin for error without the risk of serious consequences.

Or do we stand in line and get the new iPhone 3G?

Full disclosure: I finally got my Apple lemming fix and waited in line at the Apple Store. Was already in the store with my son getting a 6 year old laptop resuscitated (couldn’t) and stood, on a whim, in the line for the iPhone in front of the store. The Apple employee informed us the store had 7 iPhones left for the 10 customers in line. She also informed me that some of the people may not be able to get out their existing phone carrier contracts and may exit the line. A few minutes later, the first person left. 2 more to go. Was wishing I had a voodoo doll handy. 5 Minutes later, the next person in line was informed by his wife via phone that it would be a cold day in hell before he was buying another cell phone. One person in front of us in line with no one behind us. Like the man on the bubble position at the Indianapolis 500. The last remaining customer was speaking with ATT and getting more and more aggravated. My son and I winked at each other because the prospects looked good. 10 minutes of wrangling bringing the store manager to the phone, pleading and scolding the telcom rep were unsuccessful. An Apple employee came to me congratulating me as if I won the Publisher’s Clearinghouse Sweepstakes. A few cheers were made by Apple employees as I was taken into the store. The white 16 Gig iPhone 3G was mine…(as long as I bought an ice cream cone for my 9 year old who patiently waited the half hour with me).

Tags: Appraisal Institute

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Did a lot of painting inside my house this weekend so I apologize if some of the paint ended up on this post.

The comment period has ended but the debate rages on within the appraisal profession: the new mortgage process that does not allow appraisals to be ordered by mortgage brokers will have the effect of enabling appraisal management companies and end up with an unreliable appraisal product. Two different paths taken to the same end: crummy collateral asset quality.

I am guessing the OCC is going to get busy, gaining back the limelight on the mortgage lending process from the NY AG’s office.

James Hagarty wrote a nice piece in the Wall Street Journal called Who Should Profit From Home Appraisals? about the political storm that has only just begun. What I find disappointing is how self-serving the players have become. Nothing wrong with advocating for your constituents, that is their job. The part that rubs me wrong is that it has become so predictable. The trade groups seem to be saying the old system worked just fine. Of course that is a complete disconnect from reality.

How does one explain how we got here? And are we going in the right direction?

• Appraisal Management Companies (Title/Appraisal Vendor Management Association) – banks pay them about the same fee as the appraiser would get but they keep 30% to 60% of the fee and work hard to find appraiser (form-fillers) who will work at fees that don”t allow them to do research in the appraisal process. It’s laughable that the trade group contends they pay market rate to appraisers. Market rate for AMCs, I think is what he means. The AMC model doesn’t work paying market rates. It has been my experience that most appraisals I have seen done for AMCs are usually not worth the paper they are written on. The lower caliber appraisers they are forced to use experienced a flood of business during the housing boom. It is going to be interesting to see how that caliber of appraiser fares in a tighter underwriting environment.

The AMCs keep a big share of the fees consumers pay, typically at least 30% and sometimes more than half, appraisers and AMC executives say. The AMCs say they provide a valuable service by maintaining networks of local appraisers and controlling quality. “The AMCs pay market rate” to local appraisers, says Jeff Schurman, executive director of the Title/Appraisal Vendor Management Association, a trade group.

• Mortgage Brokers (National Association of Mortgage Brokers) – they want the appraisal industry to self-police and get rid of appraisers who turned in falsified work. Yes that has worked so well already (sarcastic emphasis). While we are at it, let’s tell mortgage brokers not to press appraisers for a higher value than they know is right or withhold payment from an appraiser for not making the number. Unbelievable. This mortgage brokerage group should be ashamed of themselves for taking the scare tactic approach that consumers will be forced to pay much higher fees. How much has the current mess already cost consumers?

• Appraisers (Appraisal Institute) – Appraisers have flip-flopped on this issue. Initially they applauded the Cuomo agreement but were disconnected from what the industry wanted. The industry has been roiling for the past month over the empowerment of AMCs. I think this trade group, which is inherently commercial appraiser centric rather than focused on the plight of residential appraisers, is so worried about AMCs that they are willing to accept the lesser evil of allowing mortgage brokers to control the appraisal (bingo!). Loss of competent appraisers versus standing up to intense pressure to play ball. Not much of a choice.

• OFHEO (HUD) – They seem to be detached from this whole situation yet they are the oversight agency for the GSEs. Amazing.

• FDIC – No comments submitted (yet they insure lenders and provide bank oversight).

• Federal Reserve – No comments submitted (yet they manage the health of the banking system).

• Congress – proposing lots of ideas but most of them of no real help or will provide a benefit after it is too late. Hard to parse out grandstanding from heartfelt concern. I’d like to think they are really trying to fix it.

• OCC (Treasury Department) – No comments submitted and boy are they pissed off. Their turf has been stepped on. Actually, it has been stomped on. I’d expect a lot more statements from the OCC in the near future.

Bottom line: If we want the lending system to have the collateral value estimate free from corruption and influence, then appraisal management companies, bank loan officers and mortgage brokers have no business whatsoever, ordering appraisals directly because they have a vested in their outcome. I believe it is called commingling interests.

Comments or no comments, I find it hard to believe that OCC will allow this to happen without making their own agreement. Otherwise, they will become as non-existent as OFHEO was during the housing boom.

Also check out: The Housing Crisis & The Plague of Potomac Fever

Tags: Appraisal Management Companies, FDIC, GSE, OFHEO, Appraisal Institute, AMC

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