The Home Mortgage Business, Where Cheaters Always Seem to Prosper

Ocwen is a little company with a dream: to become the nation’s largest mortgage servicer. If they weren’t so uniformly terrible at mortgage servicing, they might even achieve that goal. And while state and federal investigations, multi-billion-dollar fines, and legal threats would seemingly throw a wrench in most companies’ high-minded plans for success, Ocwen is different. Because in America, rank incompetence need not impede a corporate quest, at least not in the financial services industry. As cracks in its public image continue to surface, Ocwen is attempting to pull off one of the most brazen schemes in recent memory: getting what amounts to a cash advance for the very work they can’t seem to do properly.

Let’s take a step back. Ocwen is the biggest of a group of “non-bank” servicers, which don’t originate loans themselves. They merely handle the day-to-day accounting of loans for other owners, usually big institutional investors—collecting monthly payments, making decisions on loan modifications and pursuing foreclosures when necessary. Previously, the lion’s share of mortgage servicing operations were housed within the biggest Wall Street banks. But those institutions were caught committing massive amounts of fraud in the foreclosure process, and were forced to pay tens of billions in fines. Legal settlements in the wake of this conduct led to a new set of servicing standards that increased compliance costs. And new global capital rules gave unfavorable treatment to mortgage servicing rights (or MSRs, as they are commonly known), making the business a balance sheet liability.

Big banks consequently wanted to sell off their MSRs, and Ocwen and other non-bank financial firms stepped in to purchase them. Ocwen suddenly became the fourth-largest mortgage servicer in America, growing 300 percent in two years by picking up MSRs from Goldman Sachs, Morgan Stanley, JPMorgan Chase, Ally Bank, and Bank of America. They are now the nation’s largest servicer of subprime mortgages. Overall, banks have sold off the servicing rights to over $1 trillion worth of loans since 2011.

The idea behind the government settling with big bank servicers was that the industry would finally have to treat homeowners fairly, thanks to the new standards for conduct. Instead, banks passed around servicing rights like a hot potato to companies like Ocwen, who were not bound by any settlement terms. Until recently, non-bank servicers were almost completely unregulated and had no processes to comply with regulations. Homeowners, who cannot choose their servicer, effectively got traded from one fraudulent set of banks to an even more shadowy, more fraudulent set of financial firms.

Predictably, Ocwen turned out to be good at buying MSRs, but bad at customer relations, following the law, or math. In December of 2013, the Consumer Financial Protection Bureau (CFPB) accused Ocwen of “violating consumer financial laws at every stage of the mortgage servicing process,” including routine overcharging, deliberate misplacing of homeowner documents, denying eligible borrowers loan modifications, forcing the purchase of unnecessary insurance policies, and so on. CFPB settled with Ocwen for $2 billion in principal reductions for Ocwen borrowers, which didn’t bother Ocwen much since they don’t own the loans anyway, and as such don’t take the hit when the principal gets cut.

By now we should be used to financial institutions receiving no penalty for criminal misconduct that harms hundreds of thousands of ordinary Americans. But state and federal regulators managed to take a special interest in Ocwen, damaging their reputation if not their profits. Benjamin Lawsky, superintendent of New York’s Department of Financial Services, indefinitely stopped a $2.7 billion MSR purchase between Ocwen and Wells Fargo (Ocwen happens to be chartered as a bank in New York state, giving regulators jurisdiction). Lawsky questioned whether Ocwen could handle the additional servicing load, probably because they couldn’t legally manage any of the other servicing they’ve ever purchased. “We need to make sure that these MSR transfers do not put homeowners at undue risk,” Lawsky said at the New York Bankers Association this month. “We have a vital responsibility to protect consumers.”

This blockage of the Wells Fargo deal created serious problems for Ocwen. Because they don’t make loans, Ocwen’s business is completely dependent on purchasing more and more MSRs. Older loans get paid off or refinanced or slip into foreclosure, meaning the business continually shrinks without fresh MSR injections. Unlike the CFPB settlement, Lawsky actually threatened Ocwen’s underlying business model.

And Lawsky wasn’t alone. Two weeks ago, investors in mortgage-backed securities who own loans serviced by Ocwen let it be known that they were considering suing the servicer.. Ocwen had a nasty habit of not telling the investors—their bosses—anything about their servicing practices, which often damaged the value of the securities, especially when they led to unnecessary foreclosures. Investors also managed to figure out that they would end up paying all those CFPB fines against Ocwen.

More slings and arrows followed. The New York Times highlighted Ocwen in a study of non-bank servicing and the recurrence of wrongful evictions and homeowner abuse. The Financial Times noted that Ocwen’s offshore tax havens allowed them to enjoy an effective tax rate of just 12 percent. Representative Maxine Waters urged federal regulators to scrutinize all MSR sales to ensure companies like Ocwen “have the operational capacity to manage the increased volume.” And CFPB Deputy Director Steven Antonakes, in remarks before the Mortgage Bankers Association last week, delivered a remarkable broadside against the entire mortgage servicing industry, telling executives to expect tough examination and no leniency. Antonakes didn’t mention Ocwen by name, but he coincidentally highlighted almost every one of the fraudulent practices CFPB accused Ocwen of in December. “The notion that government intervention has been required to get the mortgage industry to perform basic functions correctly—like customer service and record keeping—is bizarre to me but, regrettably, necessary,” Antonakes said.

Despite all this, last week—amid a time of severely diminished public confidence, when Ocwen’s stock price fell from $43.62 to $33.65 before bouncing back—Ocwen decided to float a derivative offering that mirrored the kinds of securities that blew up the global economy back in 2008. Under a proposed deal called OASIS, Ocwen would package into bonds a sliver of the MSRs they’ve been scooping up faster than Little Bunny Foo Foo scoops up field mice. They would effectively get an advance on their business operations, paying back bondholders with revenue from mortgage servicing over a number of years.

Think about this: Ocwen has shown nothing but contempt for actually servicing mortgages, yet they want to securitize them. It’s like a dishwasher going to a restaurant owner to get an advance on years of salary—though the analogy only works if the dishwasher spends her days breaking every dish she washes. Apparently, some things are even too cynical for Wall Street, as investors priced the OASIS bonds “under expectations,” offering Ocwen far less than they wanted. But Ocwen hasn’t cancelled the deal as of yet, and regulators have yet to say a peep about this highly unorthodox approach.

I wish that the combination of corruption, ineptitude, and chutzpah on display here were only limited to Ocwen. Sadly, the whole business model of mortgage servicing invites such conduct. Servicing is a “high-touch” business, requiring lots of personnel to deal with troubled homeowners; the labor costs are fixed and simply cannot be automated away. The meager compensation structure rewards companies that defraud their customers to generate fees, as well as those that foreclose on homeowners instead of modifying delinquent loans. A servicing executive was a bit too honest recently when he said, “improving loan performance has become something of a two-edged sword as ancillary fees have significantly decreased, as well as other revenue-producing opportunities.” To translate from financier to English, homeowners actually making their payments hurt servicer profits. Servicers benefit financially from treating homeowners like garbage, and after a while, their executives probably think they can treat investors and regulators the same way, too.

As New York Superintendent of Financial Services Benjamin Lawsky said in a recent speech, “Rather than solely treating the symptoms of these problems through after-the-fact fines and enforcement actions—we also need to ask ourselves some deeper questions … how do we address the underlying problem itself?”

Appropriate regulation, argues financial writer James Kwak, must allow for the consideration of whether innovations in financial services—like the mass transfer of MSRs to non-bank firms—have any social value. It’s beyond clear that mortgage servicers like Ocwen have none; they exist purely to extract money from customers. That conclusion should lead regulators beyond technocratic tinkering and toward a complete overhaul of the industry.

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