A year since the true beginning of the subprime crisis bankers still can't agree what went wrong and what to do about it. At the American Securitization Forum's annual conference in Las Vegas last month, most of the panel discussions wound up talking about this central theme (see also page 10). Some blamed poor underwriting at the point where mortgages were originated. Some blamed inept analysis when those mortgages were sold into the wholesale market. Many blamed both.
When it comes to how to correct these failings, three options are put forward. The first applies to rating agencies, blamed by many for poorly assessing mortgage securitisation structures. The argument goes that raters were not incentivised to look properly for faults in deals because they are paid by issuers rather than investors. The raters reply that they carefully manage conflicts and it is unrealistic to expect those conflicts to be eliminated entirely. Nevertheless, they have announced measures to improve in this area (see Cover story, page 14).
A second, and related, option is to empower investors to carry out better due diligence themselves. This can be done by providing buyers with more and improved loan level data relating to the mortgages underlying the securities they hold. Armed with this, they might rely less blindly on ratings. Already, data providers are working on ways to make such information more widely available.
The third option is to introduce controls on origination to prevent irresponsible lending. This is the route the Federal Reserve has taken in its proposals for new anti-predatory lending rules. The essence of the Fed's plan is that originators are forced to qualify fully the ability of riskier borrowers to pay. By improving standards of lending, the Fed hopes also to restore investors' trust in the market.
But perhaps more could also be done to encourage sensible lending by realigning the interests of originators with end investors. One way to do this, suggested by mortgage consultant Andrew Davidson in a recent paper*, would be for loans to carry an origination certificate verifying that the loan was originated in accordance with the law, that underwriting data was accurate and that the loan met all required underwriting standards. The certificate would remain with the loan over its life.
By tying the loan to its originators, the certificate would make them responsible for the quality of the origination process. Doubtless some would say this proposal is unworkable. But it provides a useful reminder that securitisation separates originators from investors, weakening the influence of the latter on the actions of the former. Drawing the two closer together is a useful idea to add to the debate on what can be done to put the industry back on its feet.
Rob Mannix, editor
* Reinventing securitization: If it ain't broke don't fix it. But what if it is broken? (www.ad-co.com).