Mortgage Losses Build Team Spirit

More institutional investors are joining efforts to recover losses on battered mortgage portfolios amid concerns about sloppy mortgage servicing and underwriting practices.

Nearly 200 investors are expected to attend a meeting in New York on Wednesday called "Robosigners and Other Servicing Failures," said David Grais, a New York securities lawyer who is sponsoring the conference and represents two Federal Home Loan Banks that have filed lawsuits over mortgage-backed securities they own.

Crisis Meanwhile, Talcott Franklin, a securitization lawyer in Dallas who has been organizing bond investors to pursue their claims against mortgage-loan servicers and sellers, says he has "been picking up two to three [investors] a day" as the foreclosure mess deepened in the past two weeks.

Richard Barrent, a former Wells Fargo & Co. executive who now analyzes loans packaged into securities for possible defects, says he is getting "a spike [in calls from] investors who want to know how can we hold servicers and originators accountable."

The moves show how investors in mortgage securities are venting their frustration with rising losses and questions about how mortgage companies are handling troubled loans. Some of those investors also are sizing up potential strategies for trying to recoup losses and trying to shield themselves from the cost of any settlement between mortgage-servicing companies and state attorneys general, who are investigating mortgage-servicing practices.

"Investors' frustration has reached a boil in response to monthly loan losses, unexplainable bond write-downs, stonewalling access to loan files, inequitable treatment of first- and second-lien mortgage loans and ineffective loan modifications," said Jonathan Lieberman, a managing director with Angelo, Gordon & Co., which invests in mortgage-backed securities.

The most public display of bondholder unrest came last week when a group of large investors objected to the handling of 115 bond deals issued by affiliates of Countrywide Financial Corp., now part of Bank of America Corp. The investor group includes government-owned mortgage companies Freddie Mac and Fannie Mae, the Federal Reserve Bank of New York, BlackRock Inc. and Allianz SE's Pacific Investment Management Co.

Potential losses to banks from the repurchase of troubled loans could reach $55 billion to $120 billion, according to bond analysts at J.P. Morgan Chase & Co.

Some investors in mortgage-backed securities say the 50-state investigation is giving a push to efforts among investors to join forces. "The possibility of a ... settlement imposing additional losses for the negligent conduct of servicers upon our retirees has galvanized investors to organize and fulfill our fiduciary responsibilities," Mr. Lieberman said.

Patrick Madigan, an assistant attorney general in Iowa, which is leading the investigation, said such concerns are misplaced because any deal involving loan modifications would be structured in a way that would benefit investors. "We are only interested in modifications where the cash flow from the modified payment exceeds the expected proceeds from a foreclosure sale," he said.

Mr. Talcott's group and the Countrywide investors are seeking to recoup losses under contracts that govern mortgage deals. One key challenge: Such agreements typically require that investors gather 25% of the voting rights in the deal to formally trigger their ability to get the trustee to consider action against the mortgage servicer¡ªand to bring their own action if the trustee declines. Trustees are charged with administering the securitizations on behalf of investors.

Another approach being taken by some investors, including several Federal Home Loan Banks, is to file securities lawsuits seeking to force Wall Street banks to buy back mortgage-backed bonds. That option is typically open to investors who bought their bonds at or near the time of the public offering, but not to those who purchased the securities much later in the secondary market, says Mr. Grais.

Organizing investors has been difficult, partly because of trouble getting access to loan files and proving that any defects have materially hurt bondholders. Still, an analysis by Mr. Grais's firm of 48 bond deals with a total of 111,552 loans found that more than one-fourth of the loans had inflated appraisals at the time the mortgage was made. In 21% of the loans, evidence suggested the owner didn't live in the property.

"There's a large amount of uncertainty around the risk," said Jack Micenko, a banking analyst with Susquehanna Investment Group. He expects the potential liability to expose banks "to headline risk for a long time to come."