Banking New York - Superintendent's Column - Introduction to Banking Department Initiatives
September 1, 2007
When the editor of Banking New York approached me about writing a regular column, I was bit surprised by the offer- having worried that my photo on the recent cover would negatively impact subscriptions and sales. However, once I was reassured that that was not the case, I immediately accepted the offer and am in fact quite honored. I see this column as an opportunity for continuing dialogue about issues impacting the banking industry and priorities I have for the Department. One of the most rewarding aspects during my first six months as Superintendent has been the opportunity to travel across the state, meeting with industry leaders in person to share perspectives and initiate important conversations. While I never envisioned myself as the “Dear Abby” of banking, I hope that you will also see this column and the editor’s desk as one more means of sharing your ideas and concerns. To me, one of the Department’s distinctive features is the accessibility of our staff, and our availability as a resource to the industry. I believe that availability needs to be at every level of the Department, so I accepted the unexpected challenge to dive into the world of journalism.
Learning to wear a journalist’s hat is certainly not the only challenge I’ve experienced. The past months for me have been dominated by the concerns surrounding the subprime mortgage sector and the potential for a foreclosure crisis to develop. So for my first message, I wanted to focus on the subprime problem: how it is affecting the segments of the industry, and the steps that the Department and New York State government are taking to develop an integrated and coordinated response. I also addressed the subprime issue in my original interview with the magazine, but in light of the developing situation I feel it warrants further consideration. And while I recognize that the type and magnitude of issues facing depository and non-depository may differ, the industry as a whole is affected by turbulence in the residential mortgage market.
The potential scope of this impact on the industry also varies by function, and whether your business acts as a lender, investor, or servicer, there are interrelated but distinguishable concerns. The advent of subprime lending has expanded access to credit and fueled growth within the industry; there is a valuable role for risk-based pricing when responsible underwriting standards are maintained. But there has also been undisciplined growth within the subprime sector that is adversely affecting all market participants, and lax underwriting guidelines have caused much of the present trouble.
Lenders function as a first line of defense by setting responsible underwriting standards. As a lender, you should regularly evaluate credit underwriting models, to ensure that loans will be affordable and sustainable for customers in the long term. That makes good business sense, both from a portfolio management and a customer relations viewpoint. And lenders should resist the temptation to take a short-term approach to risk for loans that are not held in portfolio. The securitization process does provide a mechanism for risk dispersal, but that benefit and the convenience of ready capital shouldn’t be permitted to undermine basic qualification standards.
And even if your role in the subprime sector is strictly as an investor, this issue can affect your operations as well: investors are not entirely passive in the mortgage originations process. There has been a great deal of debate about the true nature of the investor’s role and the degree of responsibility that should be attached to purchasers of mortgage contracts. But whatever the right standard may be, I think we can all agree that investors have an important role, especially in setting quality benchmarks for the loans that they purchase. We are also discovering that the protections from financial loss that investors have through repurchase agreements can be fleeting; several mortgage bankers have failed recently because of liquidity crises occasioned by repurchase demands and investors may bear the ultimate loss. If you are an investor, you need to be aware of residual liability and take an active role in asset quality control.
For their part, servicers often find themselves caught in the middle. When borrowers are facing unaffordable mortgage payments, lenders may be willing to offer refinancings or loan modifications, but securitization contract clauses that are designed to ensure investors receive a given yield may be obstacles in restructuring the loan. The situation is tragically ironic, because everyone, including investors, stand to lose if the borrower defaults. Whether it is the customary 5% cap on the amount of modifications within the loan pool, tax consequences, or qualifying sale treatment status, these barriers need to be reevaluated. The Department encourages you to seek creative and prudent solutions to avoid foreclosure, through fiscally responsible workout arrangements.
The process of evaluating the subprime problem with its diverse impact is a major priority for the Department and the new administration. While there is still much work to be done, we have taken significant strides. The Department has taken a lead by adopting new mortgage lending guidance statements to assist lenders in maintaining sound underwriting principles. The new guidance standards, developed in conjunction with the Conference of State Bank Supervisors, address the borrower’s ability to pay and emphasize the importance of qualifying borrowers based on the fully indexed rate, and not an initial introductory rate that may be artificially low. We have also highlighted the importance of proper disclosure, to ensure that borrowers understand the unique risks that can be associated with negative amortization and other features of alternative products, such as interest-only loans or payment option ARMs.
While the Department has a large role to play, and I’ve only touched on a few of our current initiatives, the mortgage process is complex and an integrated solution requires cooperation among the various government agencies that supervise the mortgage business. We have expanded our coordination with the federal banking regulators, particularly in light of the Supreme Court decision in Watters v. Wachovia. The increasingly stratified regulatory landscape necessitates more, not less, interaction to ensure that there is a level playing field in a competitive industry. And there is also a wealth of resources to be harnessed among agencies at the state level. Governor Spitzer recognized this back in March when he formed the interagency HALT Task Force, to “Halt Abusive Lending Transactions.” I am pleased to serve as the chair of the Task Force which has already developed creative new solutions, such as SONMYA’s “Keep the Dream” refinance program for eligible borrowers who are facing a mortgage hardship, and the new campaign between the Banking Department and the Department of State to root out appraisal fraud.
Your feedback is critical to the success of the HALT campaign and the many other Departmental initiatives that are designed to protect consumers and investors, and keep the New York mortgage market strong. I hope that you will provide practical ideas for addressing the subprime problem: a successful strategy is based on industry cooperation. And I hope that you will also offer ideas for other issues that you would like to see addressed in future columns: as Superintendent, whether I’m on the road and meeting with you in person or speaking to you from my keyboard, I’m looking forward to continuing our conversation.