Talcott Franklin wants homeowners in distress to know they have more in common with the big institutional investors who hold their mortgages than they might imagine.
Both would benefit if the servicers who act as middlemen offered loan modifications, even forgiving principal, rather than foreclose.
And both would like to see the banks that created explosive mortgage-backed securities take more responsibility for their role in the housing collapse.
Franklin, a Dallas lawyer, represents a growing number of investors who are pushing for those goals.
In the past, these investors would have had little recourse. They didn't own enough of the securitized package — the huge bundles of home loans they invested in — to push for payback. They also had no way to identify their co-investors. But last year Franklin, an expert in securitization and former partner at Patton Boggs, made this pitch: Hire me to pursue your collective interests.
Today Franklin's unusual "clearinghouse" represents about one-third of all subprime investors, who hold more than $500 billion in 6,700 deals. And Franklin, 45, is trying to use this clout to apply heat to the financial institutions that devised these investments.
"The major investment banks didn't do the right thing, and they haven't made up for it yet," said Franklin, who has written two books on securitization. "They blew up this country and yet now they're making more money than ever. Explain that to me."
In an interview with the St. Petersburg Times, Franklin discussed why the battle between big banks and big investors matters.
Why should the average person care about the fate of these investors?
Because it's the average guy's money. Do you own a life insurance policy? If so, then you are almost certainly an unsuspecting investor in residential mortgage-backed securities. Almost any fixed income investor will be invested in (residential mortgage-back securities).
And a lot of damage being done to these securities today isn't going to manifest itself for many years. What I worry about is that someday a teacher is going to retire and find out her pension is not there. That's a real risk if we don't get a better handle on this.
Who bought these investments and why?
Mortgage-backed securities are fixed-income investments, which means they pay out over a schedule on a monthly basis. The idea is that you want to predict what your income is going to be over time because you have tied it to some obligation you have. Obvious examples would be a charity which is required to give away a certain percent each year or a pension fund which has obligations to people who have yet to retire or insurance companies who will have to pay on policies.
But if mortgage-backed securities are being pilfered by servicers and serviced in a manner so they will not produce returns down the road — by overpaying fees, putting borrowers into default or not recognizing losses — that mucks up the whole payment scheme.
What are servicers — the companies that collect payments during good times and foreclose when things go bad — doing that delays the impact?
If you are not recognizing losses as they occur, even though those losses are very real, then you are overpaying investors during an earlier period.
If you are pretending there is money in the trust that isn't there or it is clear won't be there … if you don't recognize the losses, then eventually you have an insolvency situation which is very bad, particularly at a time when there are going to be more retirees than ever.
Who determines which investors get paid?
Typically the servicer really controls the deal. He is the one in contact with the borrower, collecting the funds and making the judgment on things, to manipulate them to his benefit or to the benefit of others. One of the biggest problems investors have is there is really no effective way to monitor these servicers. …
Investors are put in a very bad position because it is questionable whether you can trust some of these servicers at this point.
How do servicers make money?
They make their profit on certain fees charged to the borrower for default-related services. One of the tricks, according to the (Federal Trade Commission), is for the servicer to have an affiliate hire somebody to mow the lawn (on a foreclosed house). That $75 cost is billed back to the affiliate, who marks it up to $150 and passes it along to the servicer who then tries to bill the borrower. The borrower can't pay, so they pass it through to the investors. You're talking a substantial amount of money and those fees to the servicer generally are paid first when a property is sold, before investors are paid.
Why is it hard for investors to pursue claims against banks?
Before an investor can sue, they have to get 25 percent of the outstanding certificate holders to agree to the action. These investors don't know each other and this information is highly proprietary, so it's very difficult to organize a collective action. That's why a clearinghouse is necessary, so investors can get together. We now have over 3,000 deals where we represent 25 percent or more of the investors.
What response have you received from banks?
We've sent a number of letters to say, "We would like to work with you, here are some concerns we have." By and large, that approach has been ignored, which is disappointing because I don't think it benefits anyone to have massive, long-term, expensive litigation, particularly while the country is falling apart around us due to a housing crisis.
Would you like to see the banks or servicers put more effort into modifications?
If modification makes sense, all investors I've talked to say, "Do it." The banks and the servicers want to promote this myth that investors don't want modifications. But that's not accurate in terms of the investors I've talked to.
Frankly, both the investors and the borrowers are in a bad loan and would like to get out of it. The unfortunate thing is the investors and borrowers can't work one-on-one; there is an intermediary — the servicers — that has a lot of self-interest, that makes it very difficult for the borrower and the investor to have a good resolution.
Shouldn't investors have been aware of the risks they were taking when they bought sub-prime mortgage-backed securities?
These investments came with warranties (from the bank) that basically said, "If the borrower committed fraud, I'm going to buy the loan back." You hear people saying, "These are people who bought a Vega who are now saying they bought a Mercedes." That's not true at all. The Vega and the Mercedes both come under warranty and the maker of the Vega has to make good on the warranty.
Why is resolution important?
I hope and pray that someday securitization comes back, because without it, we are never going to have a robust and healthy lending market. The question I have for those who refuse to make good on these warranties right now is, "Who is going to buy a loan again from you next time?" Investors are not going to trust you.
Times researcher Caryn Baird and freelance producer Ilyce Meckler contributed to this report.