Conventional Wisdom: Banks don't want to foreclose. Really?

[1932]

I hear this all the time, especially in the last couple months as people debate all the plans to keep people in their houses as ARMs readjust.

However, I'm not sure it's the case. Banks make money from two things -- interest on their loans, and from fees on the transactions.

So, how do they maximize their profits? Banks maximize their profits when people have leveraged all their equity (and, preferably, have leveraged beyond their equity), and when there's churn, so that they can get paid their fees.

Do banks want to keep you in your house with your equity increasing and your principal decreasing? I don't think so. They're better off if the person in the house is up to their eyeballs in debt and then gets out if they can't pay, and the next person comes in, pays the mortgage fees, and is also up to their eyeballs in debt. Mortgage lenders lose money if you stay in your house a long time and your equity increases.

[baldguy]

1. And if they don't make money on a loan, they sell it off to a finance company.

[1932]

2. Yeah, that's a good point. They're making money off of packaging the loans and selling them.

So they need to keep the product in the pipeline. The more loans there are, and the bigger they are, the better off they are. The ideal scenario is if everyone in America had a 110% mortgage which failed before it got too far below 100%.

[whistle]

3. Who says that, Bush? The large banks potentially could foreclose on a third of all

...mortgaged homeowners and would in a heartbeat if they could follow their own greed

meaning of "mortgage":

NOUN: 1. A temporary, conditional pledge of property to a creditor as security for performance of an obligation or repayment of a debt. 2. A contract or deed specifying the terms of a mortgage. 3. The claim of a mortgagee upon mortgaged property.
TRANSITIVE VERB: Inflected forms: mort·gaged, mort·gag·ing, mort·gag·es
1. To pledge or convey (property) by means of a mortgage. 2. To make subject to a claim or risk; pledge against a doubtful outcome: mortgaged their political careers by taking an unpopular stand.


Derivation of mortgage: The great jurist Sir Edward Coke, who lived from 1552 to 1634, has explained why the term mortgage comes from the Old French words mort, “dead,” and gage, “pledge.” It seemed to him that it had to do with the doubtfulness of whether or not the mortgagor will pay the debt. If the mortgagor does not, then the land pledged to the mortgagee as security for the debt “is taken from him for ever, and so dead to him upon condition, &c. And if he doth pay the money, then the pledge is dead as to the .” This etymology, as understood by 17th-century attorneys, of the Old French term morgage, which we adopted, may well be correct. The term has been in English much longer than the 17th century, being first recorded in Middle English with the form morgage and the figurative sense “pledge” in a work written before 1393.

[1932]

5. The only thing stopping them is that they do need to keep property values as high as possible

so that the loans are as large as possible. But I think that must be what all their MBAs and economists spend all day trying to figure out -- balancing flooding the market against keeping people up to their eyeballs in debt.

[LiberalFighter]

4. Seems to me that banks should be required to maintain all loans that they set up.

[whistle]

12. Somehow it does not make sense to me that a bank will never consider

...giving the homeowner with the mortgage by di counting the loan in anyway, but will turnaround and give another bank that discount. Beneath all of the wheeling and dealing among these bankers there is deep layer of slime mold!

[0007]

6. Financial Institutions are like blood thirsty vultures.

Preying on weakness is their strength. Bank do not lose.

[ThomWV]

7. I don't think so.

I will agree with you as soon as you show me a bank that has a forclosure department that has a larger staff than its loan department.

[1932]

8. I'll show you that when +50% of all mortgage are in foreclosure. Right now it's at record high of

around 1%, right? So that's no going to happen for a while (if ever -- see my previous post above).

[gratuitous]

9. They don't mind foreclosing from time to time

But when the drip-drip becomes a trickle, and the trickle becomes a freshet, and the freshet threatens to become a flood, even banks lose their stomach for foreclosures. Which is why a lot of mortgages get written by banks, then sold to another agency, which then becomes responsible for dealing with strapped buyers. The problem that is catching up with banks is the terms of the sale of their mortgages to the mortgage companies, many of which had certain guarantees that the mortgages being traded had been based on sound lending practices.

Well gee, and surprise! When 55% of the "creative" loans were written for people who qualified for more conventional loans, it turns out that a lot of lenders weren't engaged in sound lending practices, and the mortgage companies are coming back to the banks to give them back their useless loans and get their own money back from the banks.

As Atrios has characterized it, it is indeed a Big Shitpile.

[slackmaster]

10. Real estate loan investors are taking it in the shorts now due to falling market values

Mortgage lenders lose money if you stay in your house a long time and your equity increases.

No, the value of a mortgage-backed security is based on the likelihood that the homeowners will make their payments reliably. They crave predictability and stability; that's why loans are traded in portfolios rather than single notes. Mortgage lenders make money on transactions, but most mortgages are packaged with similar instruments and sold on the secondary market within a month of being funded.

Real Estate Owned (or REO) is a net liability on the books of an note holder even if values are stable. It costs money to maintain a house and keep it in saleable condition even when nobody is living in it. But the word on the street (I do work in the industry) is that the tight-fisted nature of financial institutions is causing them to behave in bizarre ways - Many are holding on to REO because they still have delusions of selling at yesterday's market values. Sooner or later they will wake up and take their medicine.

Do banks want to keep you in your house with your equity increasing and your principal decreasing?

The bank (or more properly, investor) who holds the note on your house wants you to keep making your payments on time, and not call them. Borrowers who bug loan servicers with frequent customer queries cut into profits.

[Gman]

11. No. The banks and/or investors want and need the cash flow from the loans

They make the vast majority of their money from the interest charged on the loans. Fees and other such things are just extra revenue. They have to be able to count on the cash flow (and the profit as well) from the loans. If you or someone quits paying, they're stuck with a piece of property that they have to sell at today's prices, even though as Slackmaster says above they may still think they can sell the property at yesterday's prices. Mortgage companies prefer to stay out of the real estate business. They would rather finance the loans for real estate. Banks or mortgage companies want you to keep paying on a loan.

The problem now is that they misrepresented the value and security of the packaged notes they sold to investors. These investors, many of whom are foreign, took it at face value that since these were securities that originated in the US, by definition they had to be good investments because of regulations and other checks that are in place to assure the propriety of these investments. However, there was widespread fraud and misrepresentation of the value of these packaged notes and billions upon billions of dollars of these notes are going bad and a lot of people are losing tons of money because of the fraud.

Therefore, the banks and mortgage companies want and need you or someone to stay in their house and keep paying their payments on time.

[backscatter712]

13. Foreclosure is bad for business.

Granted, if you fall too far behind on your mortgage payments, the bank (or whoever owns the mortgage) will foreclose to cut their losses, but they will eat a loss in a foreclosure. The house will go on auction, and likely be sold for a fraction of its value, and a fraction of what they loaned the ex-homeowner. While this is all happening, the former homeowner moves out leaves the house, and the house now goes without basic maintenance. If the bank's lucky, it'll only be abandoned for a few months, but it could be neglected for years if the bank can't sell it, and either the bank will have to pay to have someone come and fix things, or the house will deteriorate, which will make its value fall and make it even harder to sell, especially in the current housing market.

The point is that lenders really don't want to foreclose if there are alternatives. Traditionally, if you communicate with your lender when you start falling behind on payments, they will work with you, as long as you can find some way of getting back on track (maybe you lost your job, but they'll give you a few months to find a new job and start making payments again before they foreclose.) But if they think you're not able to get back on track, then they'll cut their losses and foreclose.