SPANISH ASSET MORTAGE BACKED SECURITIES: A GOOD STORY FOR MICHAEL LEWIS
The following story will make the US subprime crisis seem irrelevant because it exceeds all the imaginable (even though it is probably inspired in the subprime). It also dwarfs the famous pyramid scheme of Charles Ponzi, all of spiced with a touch of Hispanic “caspa”. Recently Mr. Rodrigo Rato, former Spanish Minister of Economy and Finance and former Director of the IMF has been the center of scandal because of the IPO of Bankia (former CajaMadrid Savings Bank) and the so-called “black cards” scandal, a set of opaque and undeclared remuneration hidden in Bankia’s PL account under the item “computer errors”. This scandal is “peanuts” and also the tip of the iceberg of corruption and bribery and the massive fraud that has been perpetrated in the Spanish banking system with the invaluable assistance of 1, 2 and 3. The plot of the Spanish Housing Bubble has required the invaluable assistance of these characters puffed at the top of international finance, although it is possible that when finally the Spanish Justice starts to work, they will end up sitting in court to respond for their actions.
HOW IT STARTS The first and essential step is that the Bank of Spain relaxes credit policies for granting mortgages and also for lending to homebuilders – “préstamo promotor” (being Mr Caruana the Governor of Bank of Spain). All of this was accompanied with important tax deductions (Mr Rato). The big trick is that the credit institutions draw these loans off their balance sheets through securitization, ie, grouping mortgage assets and selling them. Credit risk is transferred to investors and the loan granting process is continued indefinitely.
DRAWING ASSETS OUT OF THE ASSETS OF THE BALANCE SHEET: SECURITIZACION The scheme of securitization is a very simple system to understand: Credit Institutions have granted many mortgage loans but they do not want credit risk so they get rid of them as fast as they can (earning a commission in the meantime). They realize that the more times they repeat the move the more times they may charge commissions. To get rid of assets, loans, the Credit Institutions has to sell them to third parties. They are not going to buy themselves, are they? (Well, yes, but, who cares?) What kind of Funds are more commonly used? The sales process is not easy and you have to “pack them” in large quantities and place them in markets for institutional investors. These “assets” and the credit risk associated with them are to be transferred to third parties. And it is mainly done through an investment vehicle denominated “Mortgage Securitization Fund” (Fondos de Titulización Hipotecaria – FTH). They are funds without equity because they are composed of symmetrical assets and liabilities. Whant kind of Funds are often used? The firs method is to use “Mortgage Certificates (Participaciones Hipotecarias)” which are assigned to a “Mortgage Securitization Fund (Fondo de Titulización Hipotecaria)”. This type of assets falls within the so-called “Mortgage Market”. The Credit Institution that originates the loans transfers the credit risk of the mortgage loans in its portfolio to the “Mortgage Securitization Fund”. In order to achieve this it issues the mentioned “Mortgage Certificates (Participaciones Hipotecarias)”. In this case the Credit Institution (Originator) is still the holder of the loan and of the mortgage guarantee. Only qualify as “Mortgage Certificates (Participaciones Hipotecarias)” those granted mortgage loans to acquire first home with a certain solvency requirements for the debtor and home assurance. They may be considered premium loans with high low delinquency.
There is a second method: the Credit Institution that originates the loans fully transfers a number of mortgage loans of its portfolio to an “Asset Securitization Fund It is a very similar figure but in this case there is no “participation” in the loan but there is a complete transfer of the loan to the fund. Both “Mortgage Certificates (Participaciones Hipotecarias)” creation and transfer of assets to an “Asset Securitization Fund” is highly opaque because: – There is no publicity and no entry in the Property Registry. Formally there is no change: the mortgagee and the warranty remains in the benefit of the Credit Institution. – Mortgage clauses signed in Spain expressly provide that the Credit Institution (lender) need not tell the client the transfer of the loan. – The articles of incorporation of the “Mortgage Securitization Fund (Fondo de Titulización Hipotecaria)” and “Asset Securitization Fund (Fondo de Titulización de Activos)” are registered in a special register of the CNMV but they are not available on the CNMV web site. They are only provided in person on payment of a fee. The bonds that constitute the liabilities of these funds are listed on the AIAF Market but they are really illiquid. Issues in the primary market are usually fully subscribed by the originating Credit Institutions themselves. Here we find a blatant silence in the CNMV because such issues in the primary market are authorized by the CNMV and the promoting Credit Institution is also allowed to buys its own assets, ignoring the most basic rules of market abuse and manipulation of prices set by ESMA which and made public by the CNMV.
Not to mention the countless conflicts of interest that rise throughout the process. All this stuff has little relevance although it gives us clues about how Credit Institutions and Supervisory Bodies (Bank of Spain and CNMV) do their work It is curious that Spain has a president who is a former civil servant – Registrar of Property. And it is curious that the Spanish law provides for opacity and lack of real property registration publicity (even in the so called “marginal notes”) for the transfer of a mortgage: That is what read the rules applicable to transfers of assets to a “Asset Securitization Fund (Fondo de Titulización de Activos)”. The Non -registration is a prerogative comparable to the privilege in favor of the administration for unpaid taxes (cargas “tácitas”). Protected by a judicial system tailored to serve the interests of Credit Institutions, the same Credit Institutions have taken advantage of the court foreclosure proceedings and have used the court system to appear in court to COLLECT MORTGAGE LOANS WHOSE OWNERSHIP THEY HAVE ALREADY ALIENATED. CREDIT INSTITUTIONS ARE NOT LEGITIM CREDITORS AND THEREFORE THEY ARE NOT LEGALLY ENTITLED TO COLLECT DEBT NOR TO EXECUTE WARRANTIES. They have taken advantage of the opacity of the system and the appearance of legitimacy which gives the real property registration. Credit Institutions do not appear in court as proxies for the funds they pose but as the true creditors of the loans. There are a lot of questions to try to explain this situation: Who would dare to collect a loan or execute a warranty for a loan in which you are not the creditor? Well, the answer is: Credit Institutions. Why have they done it? Firstly because they can because law has deliberately exempted from registration the transfer of the credit and the loan mortgage warranty in favor of the new creditor and at the same time the Articles of Association of the securitization funds are in the CNMV and are not easily accessible.
Secondly, they have done it because there have been legal obstacles. Until recent times, Securitization Funds (Both kinds of funds) have been entities with no legal personality and consequently they could not enter into certain transactions and legal procedures. Thirdly, Credit Entities do not want to expose their business and they do not want to make public the real delinquency rate (huge) of the loans they have granted. Finally, what are the consequences for the Credit Institutions to appear at the Court as the real owners of the loans and consequently legally entitled to sue the debtors? The consequence is that all the court procedures where it can be demonstrated that the Credit Institution has executed a mortgage warranty simulating being the legitimate creditor are void or at least voidable. We are talking about situations where the Properties may have changed its ownership. The new owner is protected because the legal system protects the owner on “good faith”. In this case the Management of the Credit Institutions may be exposed to criminal responsibility and to civil claims that could rise to billions of Euros. We will not assess whether in all this process Credit Institutions have acted always defending the interests of creditors. That may be the subject of another article. We leave it up to the readers’ imagination. Because of Spanish Credit Institutions act with total impunity and because their acts have not consequences (for the moment), they have no way out. We predict massive litigation out of control of Credit Institutions. Thousands of litigations will start in multiple first instance court jurisdictions that will also be out of reach of politicians. More irregular practices have been detected, all of them out of the eye of the public. The fraud described above just relates to the “Assets Securitization Funds”.
We want to expose another outrageous practice and we will call it “the fraud of secondary obligations”. It is remarkable that the same expression “secondary” is fake: most secondary obligations exceed the main obligations. The “Mortgage Certificates (Participaciones Hipotecarias)” is not subject to Property Register Publicity. The fraud consists of depriving the Owners of the Mutual Fund of the inception of “secondary obligations”. In Spain a mortgage loan has certain characteristics: the loan may not exceed the 80% of the real property market value as determined by Valuation Agencies (owned by Credit Institutions, yes another conflict of interest), there must be an insurance contract for the property and a life insurance…. But the main secondary obligation in Spain is the “guarantor” (avalista) which is a common requirement in this market. Mortgage loan clauses also include a lot of “secondary obligations” such as charges, commissions for recovery, interests on arrears, court costs…… Many of these “secondary obligations” are NOT TRANSMITTED TO THE NEW CREDITOR. It has to be remarked that clauses containing secondary obligations are never entered in the Property Registry. Every single Issue Prospectus for “Mortgage Securitization Fund (Fondo de Titulización Hipotecaria)” read the same: THE CREDITOR IS NOT ENTITLED TO COLLECT SECONDARY OBLIGATIONS. The situation is that in one hand there is a real transfer of credit risk but in the other hand “secondary obligations” are not transferred although they should be inherently tied to the principal obligations. In this point, many questions arise: How is it possible to legally to break a secondary obligation apart from the principal obligations without distorting its content?
We may wonder what happens when the client does not pay or pays partial payments. Who collects the payment? The answer is that secondary obligations are paid first (Credit Institutions), they have priority. We find in these cases that the client is paying to a Credit Institution that does not assume credit risk for the loan but does make profits. Where the money goes? Is the Credit Institution really making money with the business? Credit Institutions do not have any interest in starting the foreclosure proceedings when it does not bear any credit risk and as long as the debtor is paying secondary obligations. Does it sound like conflicts of interest with the creditors? If we go beyond, we must wonder what happens when a guarantor (avalista) pays the installments or when the guarantor loses its own home as a consequence that the mortgaged property does not cover the main loan (plus “secondary obligations”). Taking into account that the same Credit Institutions are the agents of payments collecting payments from the debtor and paying to the creditors (wait a moment, another conflict of interests?) and that they have ruled in the Issuance Prospectus that the creditors do not have any right to receive secondary obligations, where are those profits booked? Do auditors of the Credit Institutions audit these payments? What are the legal consequences for the Credit Entities? A legal basis of massive civil claims has been opened. Massive civil procedures against guarantors of loans subject to securitization will be declared void and massive damage compensations will be claimed. The fact is that there is an implied novation of the conditions of the loan.
The Law rules that the Fund may not get “less” than what the Credit Institution transfers. Consequently, when the Credit Institution transfers the loans and does not transfer the secondary obligations of that loan, it should be understood that they are cancelled. Under the criminal code prosecution for illicit enrichment may be open against Credit Institutions. If these procedures did not succeed the Creditors (¡hello ECB!) have a new legal path to claim to the Credit Institution because it has not “shared” all the benefits arising from secondary obligations attached to the loans and in this case the Issuer would be breaching the law ruling this kind of issuances. New litigations will give rise to compensations for civil claims (huge) and to the reimbursement of the amounts collected from guarantors. And here we are again with massive litigation out of control of Credit Institutions. Thousands of litigations will start in multiple first instance court jurisdictions that out of reach of politicians. The relevance of secondary obligations in mortgage loans has increased in the last years and it is huge. These kinds of loans had historically very low delinquency rates…. Just until Mr. 1, 2 and 3 spurred and encouraged the Spanish Housing Market Ponzi Scheme. With the burst of Spanish Housing Bubble the delinquency rates of Mortgage Loans has sky-rocketed. We are not able to compare Spanish Mortgage Loans Securitization Market with the rest of European Markets (have enough with our own mess). But we are astonished with the words of the Puppet of Goldman Sachs, Mr. Draghi, the “savior” of European