Citigroup coins crisis "Foreclosures gone wild!"

Zero Hedge founder, Tyler Durden, and his crew have been (as usual) on point with the unfolding foreclosure/mortgage/title fraud fiasco, and yesterday they brought us another report:

"Citigroup Call on Implications on Foreclosure: "Just the Tip of the Iceburg."

You know things are getting interesting when Citigroup hosts a conference call during which their expert guest speaker, associate law professor at Georgetown University Adam Levitin, calls the current visible ramifications of the foreclosure/mortgage/title fraud crisis "just the tip of the iceberg" and suggests major unseen problems to come, and then Citi, one the largest and "most respected" (ha!) banks in the world, issues its an official report on the crisis and the conference call which the bank decides to title along the lines of "Girls Gone Wild" with a Citi spin: "Foreclosures Gone Wild."

I kid you not.

Here's the document, "Foreclosures Gone Wild," available for our scribd'ing thanks to the Village Whisperer. The following are what I think are the most telling parts of the Citi document...with a little bit of my take added for good measure:

1.) Curse those "arcane" laws-- they're always getting in the way of our fraud!

Page 1: The underlying issues which have recentlyerupted involve the proper transfer of paperwork in the mortgage securitization process. Real estate law is “arcane” and requires that paperwork be physically transferred when mortgage ownership is transferred (“assigned”) from one party to another party. It appears that in many instances during the mortgage securitization process over the past few years, the paperwork was not properly transferred. If the paperwork was not transferred in the legally required manner, it raises questions not only about who owns the mortgages in question but also about the validity and tax exempt status of the trusts in which the mortgages reside. All of these issues also bear directly on the role played by the title insurance industry.

My comment: the reason why so many "instances" over the "past few years" when "paperwork was not properly transferred" were able to manifest is because of the bank-funded MERS front operation, which "appears" to have been basically attempting not only to circumvent those "arcane" laws, but actually to supersede them. MERS was hailed as a "replacement" to these damn pesky laws--and if it wasn't for those meddling judges, it'd have gotten away with it!

2.) Don't worry--everything is under control: we'll just pay people to commit perjury!

Page 1: Banks have attemptedto remedy the aforementioned problems by having employees sign affidavits that they have personal knowledge that the trust was once in possession of the necessary documents. Two problems have emerged with regards to these affidavits. First, several news stories have reported that the people signing these affidavits had no knowledge of the matters in question despite the fact that there were legally swearing that they did. Second, the affidavits may be irrelevant because the issue is not that the documents were lost but they were never properly transferred at each step of the aforementioned securitization process.

My comment: "Having employees sign affidavits" is a very interesting way to phrase the robo-signing debacle. From whom the orders came, we do not yet know. But we do have an admission from the operations supervisor at JPM's Chase Home Finance, Beth Ann Cottrell, who gave sworn deposition on May 19, that she and seven other JPM employees signed approximately 18,000 documents per month, and that they did this for several years. These so-called robo-signers often used wildly different signatures from one document to the next, and an unconfirmed report is floating around that another confirmed robo-signer Marshe Craine's signature is even on some of President Obama's mortgage paperwork. People are searching the internet for the names of these individuals, and inspecting their own mortgage/foreclosure documents. Indeed it is "just the tip of the iceberg."


3.) C’mon, America--who do you trust: us, the criminal consortium of banks hell-bent on extracting every last drop of wealth we can out of you, your house, your investments, and most especially, your government, or those damn pesky “arcane” laws of yours?! We repeat, in case you didn't hear us the first time, your laws are just stupid and "arcane," and are unnecessarily complicating the massive international fraud-based housing system we are attempting to implement, dammit!

Page 2: The underlying problems center around the proper transfer of paperwork. It is important to appreciate that real estate law is arcane and requires the physical transfer of documents when ownership changes hands. In industry parlance this transfer is known as “assignment.”
When a mortgage is securitized and placed in a mortgage pool, there are typically four parties involved. The mortgage bank or lender originates a mortgage and then sells it to a “sponsor” who in turn sells it to a “depositor” who then sells it to the “trust” which governs the pool. Importantly, as noted above, the original paperwork must be transferred at each step of the process.
It now appears that in many cases (1) the paperwork was not properly transferred and (2) it is unclear in many cases where the actual paperwork actually rests today.

My comments: Citigroup, repeating opinions, such as calling laws "arcane", do not magically make them fact.


4.) And how dare you people demand that we pay taxes! Taxes?! How are we
gonna completely enslave you to our evil fiat system if we have to pay taxes?!

Page 3: Most mortgage trusts were set up as REMICs (Real Estate Mortgage Investment Conduits) which are special purpose vehicles used to pool mortgages. Under the IRS code, REMIC confers a special tax status in which the cash flows to the trust are not taxed. Investors in the trust pay taxes. The tax exempt nature is important. If the trusts were in fact to be taxed, the taxes would distort the yields required by investors.
To qualify as a REMIC under the IRS code and enjoy the beneficial tax treatment, the trust (1) must be passive and (2) cannot acquire any new assets 90 days following the trust’s creation. If, as described above, mortgage documents were never correctly passed through to the trust when it was established, then the trust may not actually own the underlying mortgages it purports to own. Although it is possible that this issue could be remedied by some legal maneuvering, doing so could violate the REMIC status since the trust would be acquiring assets long after the aforementioned 90 day period has expired. Such a violation in turn could trigger a sizeable tax burden for investors. Our speaker indicated that there are a handful of open questions on this front and that this is a legal gray area.

My comments: "...the trust may not actually own the underlying mortgages it purports to own," not to mention, it might not have any entitlement to the "underlying" asset, and if the asset was derived through fraud, those in the trust collecting through the fruits of fraud might themselves be liable for repayment. Just ask the Madoff "investors."


5.) Drat! We should have made our buddy Paulson force the taxpayers buy the title insurance companies—that's what we should have done! How dare they do this to us banks?! But its not too late---we'll show them. Call Timmy G!

Page 3: If a scenario emerges in which title companies are unwilling to issue title insurance, in those scenarios lenders may cease lending. When a home with a mortgage on it is sold, the mortgage must be released at closing by the current mortgage owner before a new mortgage with title insurance is issued. If it is not known with certainty who owns the mortgage in question, it cannot be released. If the title company is not satisfied that there is a good release on the old mortgage, it will refuse to insure the new mortgage.

My comment: we have now reached the "scenario" of title insurance companies refusing to issue title insurance, including the nation's largest title holding company, Old Republic, refusing Ally Bank (GMAC Mortgage) and JPMorgan. I'm sure title insurance companies are searching like mad for the titles they do insure, because many no doubt have fraudulent transfers on their hands, and in their books.


6.) So what we created MERS to help us commit fraud---you got a problem with that?

Page 4: MERS (Mortgage Electronic Registration Systems) functions as a centralized electronic registry of mortgages and tracks ownership of mortgages. MERS allows mortgage ownership to change hands efficiently and relatively quickly since it is electronic and allows all parties to forgo making a filing in local land records. Indeed, MERS was designed to function as a substitute for local land records.

My comment: Well, hey, what's wrong with designing a bank-funded front corporation to "function as a substitute for local land records," aka "laws"? Get outta here--I do it all the time! Just last week I finalized my latest system, "TERS" or Truck Electronic Reigistration System, which allows me to state what my rig weighs and that my axles are legal, and blah blah blah, and hit the road, baby! Its been working like a charm for all those 79,000 lbs copper loads--I just state my empty wieght as 1,000lbs! Pretty cool, huh? Oh, and wait till you see my other invention CERS--Currency Electronic Registration System--that allows me to register my junk mail are vertiable currency. Yo, let me tell you what--substitutes for laws and records are waaaaaay better than the real thing!


7.) Oh, this Levitin guys is just another one of those lawyers who are so concerned about “laws.” Doesn’t he know that laws for people, not banks?

Page 4: Although MERS was designed to enhance efficiency in the mortgage assignment process, Levitin argued it may not conform with the law. “Slowly but surely” courts are issuing decisions which “cast validity on the MERS process.” Although ~60% of mortgages list MERS as the “nominee” which owns the mortgage, a handful of recent court cases have ruled that MERS has no standing in foreclosure actions either because (1) physical paperwork must be transferred when a mortgage is assigned by one party to another or (2) MERS has no true economic interest in the mortgage in question since it collects no payments from the borrowers.

My comments: whooops.


8.) Whatever with your “laws:” we own the government, so we have you either way.
Page 4: Ultimately, if these issues do in fact escalate, the Administration may try to broker some sort of settlement. If such deal brokering does take place, Levitin believes that “some payment” will be exacted from the lenders and servicers. The Administration could bargain for more mortgage principal write downs.

My comment: in other words, the Administration could completely ignore the systemic fraud and outrageous criminal behavior of the banks, and placate the voters with a mortgage principal write down plan funded by other taxpayers, leaving the banks completely untouched for their several years-long fraud scheme, and further paving the path of the United States to certain doom. Of course, that is all to completely ignore that fact that the federal government has no jurisdiction over a particular state's mortgage filing rules, or its "arcane" law, but can only constitutionally intervene in cases of interstate transactions under the Commerce clause. But that's didn't stop the feds before, so why start now?

And exactly this is happening right now. The mysteriously well-greased Interstate Recognition of Notarizations Act (HR 3808) slid through both the House and Senate without even making the news, and just in time for the Congressional recess. As for now, the president has pocket-vetoed the bill by refusing to sign it, which now sends the bill back to the House (I say "as for now" because you trust this president about as much as you could trust the last one). The bill is just a couple of pages long, and sounds benign at first:

HR 3808, Section 2:
Each Federal court shall recognize any lawful notarization made by a notary public licensed or commissioned under the laws of a State other than the State where the Federal court is located if--

(1) such notarization occurs in or affects interstate commerce; and

(2)(A) a seal of office, as symbol of the notary public’s authority, is used in the notarization; or...

As this sounds a lot like each State recognizing the others' driver's licenses (it is not, but it sounds like that). Of course, the federal government would never allow the same argument with guns or drugs, but this doesn't sound too bad. However, then you get to (2)(B), the very next line of the bill, and see exactly why this slid through the most pro-bankster Congress in decades like a bankster's newly sharped and nicely heated knife through a large, mindless, cowardly block of butter:

... (B) in the case of an electronic record, the seal information is securely attached to, or logically associated with, the electronic record so as to render the record tamper-resistant.

In other words, in States that have those pesky "arcane" laws that require physical transfer of the necessary documents, the rule of law in States that allow for robo-signing and non-judicial foreclosure will reign supreme. In other other words, States best shut up and listen to the banks and believe whatever they say especially if they can't prove it, and even if the States have the very signatory admitting that they lied, and even if the States have knowledge of the same notary "verifying" the words of the signatory even while the notary is looking at documents from the same signatory that have three different signatures. The notaries are not off the hook in this, either, as it appears many of them facilitated this operation (probably for the right price). The real name for the bill should have been the "Mortgage Document Fraud Immunity" bill.

So why do I call the lump of butter known as our Congress "cowardly," as well as "pro-bankster" and "mindless"? Why don't I name names? Well, you know I love naming names, but you see, we can't name names and we can't know which crooks voted for these crooks because the bill was passed in the House by a voice vote, and in the Senate by unanimous consent! That is as cowardly as it gets: the members of Congress apparently learned from TARP-stain, as pro-TARP congressman after pro-TARP congressman fails in the primaries and struggles for reelection, that flicking off the people and voting with the criminal elite isn't exactly good voting policy. So, instead of deciding not to flick off the people anymore, they'll just do it under the cowardly cover of a voice vote. That's why--its disgusting.

So, now for president Obama has curtailed the Mortgage Document Fraud Immunity Act of 2010, but I remain suspicious. I have no evidence for the following speculation, but here it is anyway: I think Mr Levitin is right. I think the administration is holding out for some election-saving last minute "bargain" with the banks that presents the appearance of principal reduction, moves perhaps 25% of the currently underwater loan-owners just to the surface, restores the banks' balance sheets through a massive taxpayer funded infusion, and disables the now 50 State AG's investigating the fraud. In reality, the "bargain" will be a TARP 2 under cover of "principal reduction," and will result by another massive transfer of wealth from the American people to to elite--and immune--banks. The people moved from underwater to treading water and gasping for air will be able to continue to pay the banks for perhaps another 2 years, at which point they will run out of stream, sink under, and have their houses taken after all, and after having paid the fraud-infested bank, which probably doesn't even own the loan or the title, another 50% of their income.

Sorry to be so "Debbie-downer", but that's what happens when you ignore fraud and cover it over with "bargains." Its like watching snow fall over a dunghill: it doesn't get rid what's underneath.

56% of all 2010 Q-2 housing transactions in Nevada are foreclosure sales

These are just stunning numbers from RealtyTrac, via Bloomberg, that demonstrate the enormity of the foreclosure crisis. According to RealtyTrac, more than half of all second quarter home sales in Nevada were foreclosure sales. Here are the exact numbers of the top foreclosure sales states for 2010 Q-2:

Nevada - 56%
Arizona - 47%
California - 42%

Nationwide, foreclosure sales accounted for almost 1 in 4 transactions (24%). Then there's this:

"U.S. home seizures climbed to records in three of the last five months, RealtyTrac said Sept. 16. Banks seized 95,364 homes in August and issued foreclosure filings to 338,836 owners, or one of every 381 U.S. households, according to the company."

The announcements over the last weeks and days that four major US banks, including the nation's largest mortgage lender, Wells Fargo, have suspended foreclosures due to accusations of fraud, perjury, and document falsification are being cited by some as evidence that the already over-supplied housing market will at least enjoy a short reprieve from having new homes, due to new foreclosure, flood the market, and so these events should actually work to support prices. But this will only be temporary, assuming it happens at all, as any positive effect the suspension might bring could very well be cancelled out by the new fears that the suspension itself causes--the fears that prospective foreclosure buyers are going to meet, now that buyers realize that they cannot trust the bank's word that the foreclosure itself was not fraudulent. (Would you want to go anywhere near that title?) This is a legitimate fear: considering that it appears quite clear that these banks lied in court, the next logical assumption would be to expect that the banks would lie to buyers!

If 24% of the nation's housing sale activity in Q-2 was due to foreclosures, what will a drop in foreclosure sales do to total home sales?

Answer: it will result in a drop in total sales. And what will result from a decrease in total sales? That would be, an increase in supply, and thus a downward pressure on prices. Continuing downward pressure on prices reduces the equity in homes, and increases the likelihood that underwater home-loan-owners (which includes 1 in 5) will walk away from the shackles of their debt and surrender the house to the bank in foreclosure. If foreclosures increase, then the supply increases, further pressuring prices downward and further increasing the number of underwater houses, into a spiral. This is what happens was market participants lose confidence in each other: remember, it was a lack of confidence (due to knowledge of the evidence!) that caused the credit markets to freeze in September 2008. Confidence is essential, and how can you possibly confidently trust a bank that lies in court?

The even more grave issue is that of those thousands of Q-2 foreclosures sales and thousands more completed prior, at least some will likely be determined as flawed and possibly as outright fraud. This will further erode confidence in the housing market, and press prices lower yet, as reluctance to buy and fear solidify.

In a few short year years, the American housing market has transitioned from a system based on unsustainable sure-fire-ever-increasing home prices and television shows on "house flipping," to a system based 24% on foreclosure sales.

How is it that this crisis is getting any better?

Exposure of MASSIVE foreclosure fraud continues, accelerates; Patterns of fraudulent mortgages emerge; Title insurance fraud ramifications balloon

This is a must-read article via Zero Hedge:

"The biggest fraud in the history of capital markets."

These days are looking more and more like August 2008, as this foreclosure/mortgage fraud crisis is getting more and more severe by the day. Bankster Report's favorite, Catherine Austin Fitts, has been saying since at least 1995 that many of the "houses" to which MBS are supposed to be value-linked don't exist, and never did. In 1995, she confronted a Clinton administration official with the fact that "the Administration was planning on issuing more mortgages than there were houses or residents," to which she was told "Shut up, this is none of your business."

It's our business now, and it's the business of at least 40 attorneys general and hundreds of fraud investigators.

The mortgage market, from the most fundamental perspective, is in fact based on fraud, because mortgages themselves in our financial system are based on non-existent money. But Ms Fitts (and me too) think that the fraud is much less "abstract," but literally involves not only non-existent money, but non-existant houses. This latest robo-signing debacle only more clearly exposes that no one--not regulators, not bankers, not the market, and not even market participants and the people buying this crap--are even concerned with the legitimacy of the documenting paperwork: this current, rapidly expanding foreclosure fraud crisis is the obvious result of the underlying mortgage fraud crisis. Investigators are finally working it backwards: when a good doctor sees certain symptons--that is, banks having using illegal practices during foreclosure proceedings--he can works it back to determine the specific disease causing these symptons--that is, the banks using illegal practices to get the mortgages in the first place!

The events of this last month, thanks to judges and lawyers courageous enough to challenge the banks as well as some whistleblowers from the banks themselves, are making it clear that the largest US banks have absolutely no qualms about submitting fraudulent documents, suborning their employees to commit perjury, and outright circumventing the law. As Bloomberg reports today, Wells Fargo, JPMorgan Chase, and Ally Bank (the post-TARP name of GMAC) have admitted submitting fraudulent documents in hundreds of thousands of court cases. Would it be such a big jump to simply fabricate some mortgages, securitize them, and submit some nice, new, shiny tranches of "AAA" MBS to the market? If the banks are committing such crimes today in this "new age of increased regulation," how much more would they have been tempted to do when regulation was "more lax"?

From the above Bloomberg article:

"In a lawsuit filed on behalf of Kentucky homeowners last week, plaintiffs claimed banks, MERS [the Virginia-based Mortgage Electronic Registration Systems, which handles mortgage transfers between member banks] and loan servicers filed mortgages with forged signatures, submitted foreclosure actions months before they acquired any legal interest in the properties and falsely claimed to own notes executed with mortgages."

If true, all of the above are serious cases of mortgage and foreclosure fraud, and perhaps more complexly, title fraud and title insurance fraud. For example: JPM forecloses on a house it claims to own because the current occupant is not making mortgage payments. JPM and the occupant go through the court proceeding, and despite the occupants protestations that JPM is not following the law, the occupant can't prove his claims and JPM doesn't admit to having done anything wrong, and so the judge grants JPM possession of the house. The occupant, who had purchased title insurance along with his now-doomed mortgage, loses the house. JPM resells the house to a new person and also sells that person a matching loan. The new occupant is current on payments, and himself has title insurance. The non-paying occupant has been removed, JPM was able to recover losses, and a new occupant is in the home: the system has "worked." Right?

He he he .... One year later (ie: today), JPM is sued by the attorney general of the State for fraud after the AG discovers patterns of document fraud and falsified court documents and gather testimony from JPM employee who state that they were told to robo-sign documents, which both the employees and supervisors knew was illegal, but did anyway. JPM admits that it "may" have used robo-signers for the documents, and perhaps even forged a few signatures, and is "having trouble" producing the title in some of the foreclosures cases in the AG's State. The original occupant sees this story about JPM--the bank that he claimed was up to something fishy during the foreclosure proceedings---and calls a lawyer. He asks a simple question: "Mr Lawyer, does my title insurance cover fraud?" The lawyer says, obviously, "Of course. Why?"

Meanwhile, the second occupant is still faithfully paying JPM for his loan, and hasn't missed a payment. Of course, he might be paying JPM, but JPM doesn't really own the title anymore, because JPM has pledged it as collateral for some other loans from another bank, and has also securitized the original loan into several tranches of "AAA" MBS and sold them. MERS is holding the title as the middleman between the banks. The lawyer for the first occupant of the house calls the AG to report his client's case. The AG adds the case to his successful fraud suit against JPM, and JPM is found guilty of filing fraudulent documents and falsifying court records.

Upon the conviction, the lawyer calls his client's (the original occupant) title insurance company. Like all insurance companies, ABC Title Co is just another financial institution, and the company has been not only watching the JPM cases closely, but has been suffering itself due to the rulings. As an insurer against fraud, ABC Title is now finding itself liable for thousands of payouts to the mortgage holders that JPM fraudulently foreclosed upon. ABC Title can't keep up, of course, and so ABC itself sues JPM. Meanwhile, the original occupant is also fighting to recover the title itself, which JPM has fronted as collateral and which is in the supposedly in the possession of the MERS middleman, and which another person entirely--the second occupant--has an seperate independent title insurance claim on. So, there are two individuals with two different insurance claims on the same title, a title that is pledged as collateral to a second bank, a third party title holder who has no idea who really owns the title, and a group of MBS holders expecting their money from JPM, which JPM is expecting from the second occupant! See what a mess fraud makes!

How does a judge settle this--and how do the title insurance companies survive (never mind the people)? They don't: there is not enough to go around. If JPM committed fraud, and the first occupant had title insurance for fraudulent claims against the property, then the title company owes the first occupant compensation. If JPM committed fraud that impacted the title company, then JPM owes the title company compensation, too. And then there's the guy who bought title insurance on a title that had a latent fraud claims against it and that happens to be the title for the house he's living in and financing. This is not even to mention anything about the second bank which is now legally entitled to the title as collateral if JPM itself starts missing payments to the second bank! This why analysts are calling the foreclosure fraud mess a "hydra": there are too many different faces on one single house, and one of the ugliest faces is the title insurance problem.

We know that we have people in houses paying mortgages to banks who claim to own the loan or the title, but cannot prove either. We also know that we have former loan-owners who are now home-owners because no mortgage company or creditor could produce the title in court. We also know that Bank of America has "foreclosed" on houses which the bank doesn't even own. The opposite of this--that side that I think will be exposed especially through title fraud/title insurance fraud--are the creditors with claims to houses that don't exist, and banks with "assets" on their balance sheets based on ghost houses that even a ghost could live in. We know that there is more debt than money on the planet, and more money than real assets, as the derivatives market is a $1.5 QUADRILLION "market" of promises and exposures, or...

$1,500,000,000,000,000 of promises that will never be fulfilled.

Fifteen thousand Trillion promises. We can't even imagine these numbers. How people can look at a number like that and claim that the global economy is "fixed" and what happened in September 2008 was a once-in-a-lifetime market crash is totally beyond me. Two years after being saved by the master heister Mr Paulson, we have banks admitting that they basically used taxpayer money to fund their massive mortgage fraud operations. Of course, we "conspiracy theorists" knew that there was incessant fraud all along which is exactly why Mr Paulson heisted America to save the banks in the first place. But now this is mainstream news, and attorneys general in 40 States are investigating banks, and the Wells Fargo, Ally (GMAC), JPM, and PNC have all suspended foreclosures until further notice. Its not a "conspiracy theory" anymore.

So, to recap: two years ago, the American taxpayer was heisted by a consortium of banksters, including master heister Mr Hank Goldman Sachs Paulson, which dropped the DJIA by 777 point in a single day, and threatened Congress with martial law lest it authorize a $700 Billion transfer of wealth from the people of the United States to the banksters' group of fraud-laced, immoral, corrupt banks that are themselves so incapable of operating responsibly that without such a transfer they would have gone bankrupt within weeks. The weak, corrupt Congress authorized the restriction-free transfer, and within two days of the bill becoming law, master hiester Paulson completely abandoned the "we must buy the toxic assets!" that lie he had previously concocted and vigorously repeated for the purposes of fear-mongering the entire planet into believing that an absolutely certain "complete global economic meltdown" would ensue if we didn't "buy the toxic assets." Once he had the money in hand, this mantra was abandoned, and suddenly Mr Paulson revealed an entirely new plan to, literally, deliver the money directly to the banks and hope they pay some of it back--the very banks that cannot even handle their own money responsibly nor that of their clients. Fast-forward two years, and these same banks are now admitting to massive and systemic foreclosure fraud, even to the point of forging signature, falsifying court documents, and intentionally and knowingly breaking the law.

But that's not all--because guess what? If these banks get financially hit because of this, the American taxpayer is going to be the one to pay. Not because of any new program that might be concocted to "save" them lest the Moon explode, but because of one that already exists: remember the FDIC's Temporary Liquidity Guarantee Program? Its the one were you get to back about half a TRILLION dollars in private bank paper? Yeah---what happens if JPM ($39.6 Billion in TLGP paper) and BofA ($44.5 Billion) get crimped for cash again due to their multi-year foreclosure fraud operation and the ramification? Who covers the payments to $95 Billion-worth of their creditors?

Who? We do, of course.

So--so much for that "crime doesn't pay" business, kids. Actually, crime really does pay, and pays really, really, really, really well if you do it in an Armani suit. I'm talking BILLIONS "well"---TRILLIONS "well." Plus, there's a great medical plan, solid benefits, and you might even get to visit the White House.

JPM's Jamie Dimond and Goldman's Lloyd Blankfein did!

PHOTO: Getty Images,
"Wall Street Backs Barack Obama's Toxic Asset Plan",
UK Telegraph. Editorial and news use.

And they will be back.

Goldman Sachs' "doing God's work" apparently includes FRAUD

(updated Sunday, April 18 with details on synthetic CDO due to questions from a reader)

Last year, in a statement that made me momentarily question my understanding of the English language while simultaneously wonder whether I had inhaled too many potent diesel fumes over the years, Goldman Sachs' CEO Lloyd Blankfein declared, in a detailed interview, to a reporter from the The Times (London) that he and Goldman were not only part of a "virtuous cycle" that serves a "social purpose, " but, in fact, that together with his holy $1 Trillion firm, he was actually "doing God's work" (pg 4 of article). Yes, you read that correctly.

It was, apparently, through "doing God's work" virtuously and with social purpose that Mr Blankfein and Goldman felt absolutely justified in taking $12.9 Billion from the American taxpayers during the AIG counterparty pay-out festival; through "doing God's work" that the former investment bank was miraculously converted to a bank-holding company by the FR in late 2008 so it could take $10 Billion more in taxpayer dough through TARP; and through "doing God's work" that it issued $1.1 Billion of taxpayer-backed debt through the FDIC program. That's $24,000,000,000 from the taxpayers--wow, "doing God's work" sure does pay, but who'd ever think it had $$$ in front of it!

And, who'd ever think that for Goldman, "doing God's work" includes screwing its own clients to the tune of $1 Billion and committing FRAUD? Indeed, that the market-shakingly big news that hit the fan yesterday (Friday, April 16). The long-speculated but heretofore unconfirmed SEC investigation into Goldman Sachs' sales of toxic CDO's to clients in 2007 has finally culminated in not only confirmation, but action: The SEC has officially alleged Goldman Sachs engaged in FRAUD.

Repeat: the SEC has filed a civil lawsuit against Goldman Sachs on behalf of investors who were, according to the SEC, defrauded of over $1 Billion by Goldman through what was really a complex double-crossing fraud operation. We've known about this for some time, thanks in huge part to the awesome McClatchy News multi-piece expose published last November, "How Goldman Secretly Bet on the US Housing Crash." And, of course, those $1 Billion worth of investors--including pension funds, labor unions, insurance companies, etc--have long suspected that they were defrauded by these banksters. But that's not important--what's important is whether or not the SEC agrees, and on Friday they demonstrated that indeed they do.

Actually, its hard for the SEC not to agree: the evidence is overwhelming. Please read the McClatchy piece from last year and then these current Bloomberg articles (first, second, third) the raw details, because my quick explanation is actually only a matchbook-cover overview. The SEC complaint is 22 pages long (pdf), but I'll try to boil it down a bit.

Basically, it's like this:

1.) GOOD TIMES: It's sometime between 2002 and 2006, and the housing bubble is booming: Goldman and everyone else begins purchasing securitized mortgages bundles--mortgage backed securities, or MBS--from underwriters who can't sell them fast enough. Goldman keeps the "assets" on their balance sheet, because in the good ole' days here in 2002 through 2006, these securities are performing very well and increasing in value. Everything is great, dude. Goldman sells some of the MBS to others at a profit, and keeps some for itself. This is so super--everyone has a house, and house prices can't possibly fall. Uh, oh--what do you mean you can't make your house payment? What do you mean no one will buy that 600sq-ft shack for the $400,000 you paid for it? Oh, great, here we go. Enter the crisis.

2.) CRISIS: By mid-2006, some of the underlying mortgages of the various MBS begin to default, and by 2007, vastly overinflated home prices being to really reverse. A crisis is coming or here: suddenly, Goldman's dandy MBS are not only failing to pay the coupon, but are seriously losing value. Goldman tries Plan A: the firm decides to sell some while it can, but the over-saturated market is full of others doing the exact same thing. Plan A fails. Goldman moves to plan B. Enter ABACUS.

3.) ABACUS: Goldman starts issuing collateralized debt obligations (CDO's) by selecting bundles of MBS (collateral), securitizing them, and then selling them as securities (or debt) to clients (obligations). There are two types of CDO's that Goldman issues: "plain vanilla" CDO's and synthetic CDO's. Its an important distinction: plain vanilla CDO's are created when Goldman takes a portfolio of cash-flow producing assets (like MBS), bundles them up, and slices them into different risk-based tranches that each pay investors a different coupon. The higher the tranche, the lower the risk, and thus the lower the coupon payment. Conversely, the lower the tranche--that is, the more exposed to subprime loans--the riskier the bond, and thus the higher coupon. Goldman sells billions in plain vanilla CDO's, and seeing both the need to hedge itself further as well as the potential to profit from falls in the market as the bubble deflates faster, Goldman starts issuing synthetic CDO's by the name ABACUS. Unlike regular CDO's, synthetic CDO's do not require anyone to own a portfolio of asset-backed securities, but are instead "linked" to the performance of ABS through what is basically a contract bet (more details on this soon). On top of the billions of regular CDO's its already sold, Goldman issues at least $7.8 Billion of these synthetic-CDO's under the name "ABACUS," but according to Bloomberg, the dollar-risk shuffled over to investors is actually "multiples higher" than $7.8 Billion. Like regular CDO's, the synthetic-CDO "investments" entitle the purchaser clients to payments from Goldman, but Goldman itself is able to vastly reduced its own exposure by getting some of the debt off its its balance sheet. Goldman, however, is still in the position to lose money, and so the firm needs to hedge. Enter the other side of ABACUS--CDS.

4.) CDS: Synthetic CDO's aren't based on the cash-flow from some underlying mortgages bundled into a security and divided into tranches like a regular CDO is--instead, they basically consist (and pay-out) of one each side betting against the other on the performance of an "associated" group of debt. Both the cash flow and the betting on the synthetic CDO is accomplished through credit default swaps, or CDS. In a synthetic CDO contract, the seller (Goldman) is effectively shorting the associated assets by purchasing a credit default swap from the buyer (investors, clients), meaning that Goldman has to make regular payments to the buyer of the CDO (who is now the seller of a CDS). This creates the cash flow that makes a synthetic CDO look like a regular CDO, as the investors are recieving payments for the CDS "policy" that are much like the coupon payments they'd be recieving in a regular CDO. However, in the synthetic CDO, if the associated/linked assets go bad, the buyer of the CDO (investors) who is also the seller of the CDS now has to pay the buyer of the CDS (Goldman) who is also the seller of the CDO--and they have to pay the entire face value of the debt, even if Goldman doesn't own it, which in all cases of ABACUS, they didn't. The CDS coverage on the synthetic CDO's therefore make it more profitable for Goldman that the synthetic CDO's its selling to its clients fail than it does for them to succeed. If they fail, the clients are on the hook for debt to pay Goldman. While this is bad, and probably unethical, and insanity that anyone would make this agreement with Goldman, its not actually fraud yet. At least at this point, Goldman itself was selecting the underlying assets from its own portfolio, and so was at least partially co-investing, even though it was still covering itself with the CDS "insurance" and pushing the risk to investors in a fashion "multiples higher" than to itself. Where it starts to move towards fraud is when, for the last ABACUS synthetic CDO set, Goldman turns to some third parties to pick the collateral and create the portfolios, which it then will sells with not only zero liability of its own, but that it takes a bet out on to fail. The fraud part has to do with the third parties and the Goldman executives who know it. Enter Fabrice Tourre.

4.) FABRICE TOURRE: While Goldman had already sold billions in CDO's and ABACUS synthetic CDO's that consisted of portfolios it had itself chosen, in 2007, the firm decides to issue synthetic CDO's selected by a third-party group, ACA Management. The debt, sold as "ABACUS-2007 AC1," is under the principle supervision of Goldman executive Fabrice Tourre. Tourre delivers a portfolio of picks made by the $30-million-dollar hedge fund, Paulson & Co, to ACA to consider for selection, and tells ACA that Paulson & Co plan to invest $200 million in the portfolio. ACA itself will eventually take the majority position on the CDO--fronting some $951 million--and so the group obviously has an interest to select collateral that will not fall in value. Goldman, meanwhile, is marketing the debt to clients, stating ACA's dual role as both majority holder and collateral selector as proof that the CDO will have a rock-solid base, and "leverag(ing) ACA's credibility and franchise" to sell the contracts (SEC complaint, pg 8). When ACA receives the Paulson picks from Goldman exec Tourre along with his assurance that the hedge fund will invest $200 Million, ACA is assuming that Paulson's interest must be in-line with their own, and so ACA accepts the Paulson picks. They assemble the ABACUS-2007 AC1 synthetic CDO, and Goldman starts selling with no exposure. By this time, Goldman is outright shorting the MBS market, and so the firm itself takes out more CDS on the ABACUS-2007 AC1 synthetic CDO's, even though they have no exposure: they aren't hedging by this time, they are betting. ACA, meanwhile, is still believing Tourre's statement to them that Paulson & Co plans to invest that $200 Million. The money never comes.

5.) PAULSON & CO: Not only is Mr Tourre's statement to ACA that Paulson & Co plans to invest $200 million in the portfolio totally untrue, it is actually the outright opposite of what the investment outlook of Paulson actually is. In truth, Paulson & Co has long since identified the housing market as an incredible bubble, and is shorting everywhere it can. Paulson & Co sees the new ABACUS synthetic CDO's, and, knowing it is very likely to fail--at least in part due to the fact that Paulson picked the underlying securities to which it was associated with the intent of those securities failing--the hedge fund piles up on CDS against the ABACUS 2007-AC1. What ACA, and all of the investors to whom Goldman was pitching and selling the ABACUS 2007-AC1, do not know is that Paulson & Co actually paid Goldman $15 Million to get ACA to somehow include the hedge fund's toxic picks into the ABACUS portfolio, and Mr Tourre with his made up stories, got the job done. Now, that, ladies and gentlemen, is fraud.

The rest--the implosion of the CDO and the pay-out of the CDS to Goldman and Paulson are now history, and the story is best summarized in the SEC complaint by this statement (pdf pg 3):

"The deal closed on April 26, 2007. Paulson paid GS&Co approximately $15 million for structuring and marketing ABACUS 2007-AC1. By October 24, 2007, 83% of the RMBS in the ABACUS 2007-AC1 portfolio had been downgraded and 17% were on negative watch. By January 29, 2008, 99% of the portfolio had been downgraded. As a result, investors in the ABACUS 2007-AC1 CDO lost over $1 billion. Paulson's opposite CDS positions yielded a profit of approximately $1 billion for Paulson."

"Our clients always come first."
And so, that is were we stand this weekend. The flesh of the SEC suit is that Goldman not only allowed Paulson & Co to hand-pick mortgages to create the most toxic CDO's possible for Goldman to sell, but that Paulson & Co paid Goldman $15 million for the privilege to do this--and Goldman didn't bother to disclose these facts to the clients, nor did it bother to mention it was itself betting against the very CDO's Paulson's picks yielded. Additionally, the investors who bought the synthetic CDO's have claimed to the SEC that Goldman also did not disclose that the values of the underlying mortgages themselves were based "on inflated appraisals and were bought from firms with poor lending practices, " despite the fact that Goldman knew this, as well.
On Goldman Sachs' site is a list of "Business Principles." The top one, in bold, states "Our clients' interests always come first." Obviously, Paulson & Co is very happy--a billion bucks worth of happy--that this core Goldman Sachs "business principle" is, apparently, only half-true.

Perhaps the words of one my favorite analysts, the hard-core researcher Christopher Whalen of Institutional Risk Analytics, summarize it best. Whalen stated yesterday that “this litigation exposes the cynical, savage culture of Wall Street that allows a dealer to commit fraud on one customer to benefit another.” Yep, that's why we call 'em banksters, Mr Whalen. You can't trust them as far as you throw them soaking wet--and honestly, I don't have much sympathy for those that do. In my opinion, when you're dealing with a group of folks whose entire livelihood rests on the "legalized" counterfeiting of the American currency, you ought to expect fraud. And the beneficiary of the fraud in this case was both Goldman and its privileged client, Paulson & Co.

The idea that Goldman would accept a list of picks for an MBS-associated synthetic CDO from a hedge fund that was actively and passionately shorting the entire subprime MBS market is bad enough, but to get paid $15 Million by that same hedge fund to "oh, please, please please" use their toxic picks--bloody hell, man, that is just so bad. Top it off with Goldman's own bets against the "investments" that it was selling, and you've got a real whopper there. In his Rolling Stone piece, "The Great American Bubble Machine," Matt Taibbi colorfully declared Goldman Sachs "a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money." With my very visual mind, I laugh every time I read that great description, but like the "Business Principles," its only half true--and you'd know it if your "humanity" was with Paulson & Co. In that case you'd be thinking, "Oh, vampire squid are so cute!"

Paulson & Co.
Please note, the SEC has not charged Paulson & Co with any crimes, and likely will not, because as a private investment group, the hedge fund is under no legal obligation whatsoever to disclose anything, nonetheless to investors purchasing debt from another company. In response to the SEC complaint, Paulson & Co said the following in a released statement:

". . . we were not involved in the marketing of any ABACUS products to any third parties.
"ACA as collateral manager had sole authority over the selection of all collateral in the CDO, securities of which were subsequently rated AAA by both S&P and Moody's."

"Paulson did not sponsor or initiate Goldman's ABACUS program. . ."

Compare that to the following, from the SEC complaint itself (pg 2):

"GS&Co marketing materials for ABACUS 2007-AC1 -- including the term sheet, flip book and offering memorandum for the CDO - all represented that the reference portfolio of RMBS underlying the CDO was selected by ACA Management LLC ("ACA"), a third-party with experience analyzing credit risk in RMBS. Undisclosed in the marketing materials and unbeknownst to investors, a large hedge fund, Paulson & Co. Inc. ("Paulson"), with economic interests directly adverse to investors in the ABACUS 2007-AC1 CDO, played a significant role in the portfolio selection process. After participating in the selection of the reference portfolio, Paulson effectively shorted the RMBS portfolio it helped select by entering into credit default swaps ("CDS") with GS&Co to buy protection on specific layers of the ABACUS 2007-AC1 capital structure. Given its financial short interest, Paulson had an economic incentive to choose RMBS that it expected to experience credit events in the near future. GS&Co did not disclose Paulson's adverse economic interests or its role in the portfolio selection process in the term sheet, flip book, offering memorandum or other marketing materials provided to investors."

"In sum, GS&Co arranged a transaction at Paulson's request in which Paulson heavily influenced the selection of the portfolio to suit its economic interests, but failed to disclose to investors, as part of the description of the portfolio selection process contained in the marketing materials used to promote the transaction, Paulson's role in the portfolio selection process or its adverse economic interests."

Those are strong statements from the SEC that Paulson did "play a significate role in the portfolio selection process" for its own "economic interests," and Goldman, of course, didn't bother to mention that. ACA Management, meanwhile, has long since drowned in the wake of the crisis, and is now under the ownership of its former counterparties. As for Goldman Sachs: the firm will likely declare a $4,000,000,000 first quarter profit when it reports next week.

Hey--its all about "doing God's work," son.

More posts on this to come!