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Mortgage Modifications - Barney Frank's Second Solution

|Includes: BAC, C, JPMorgan Chase & Co. (JPM), WFC


Last week (March 4, 2010) Barney Frank sent a letter to Messrs. Brian Moynihan (NYSE:BAC); Mister Vikram Pandit (NYSE:C); James Dimon (NYSE:JPM); and John Stumpf (NYSE:WFC), Portions of which I reproduce here:
To save homes on a large scale, we must move past temporary modifications in interest rates or terms and focus on permanent principal reductions that result in truly sustainable mortgages.
Many investors in first-lien mortgages have indicated that they are willing to accept the fact of significant losses on those investments in order to move on and use their money for other purposes, rather than have it locked in underwater mortgages with a high and growing likelihood of foreclosure. With the interests of homeowners and investors, Administration officials, and other experts I have consulted, holders of second-lien mortgages standing in the way of successful principal reduction modifications has reached a critical stage and requires immediate attention from your institutions.
Large numbers of these second liens have no real economic value - the first liens are well underwater, and the prospect for any real return on the seconds is negligible.   Yet because accounting rules allow holders of these seconds to carry the loan at artificially high values, many refuse to acknowledge the losses and write down the loans which would allow the first lien holders to reduce principal and keep borrowers in their homes.
Later in the letter he states:
I urge you in the strongest possible terms to take immediate steps to write down these second lien mortgages and allow principal modifications of the first liens to take place.
Now I have spoken before about the second lien roadblock to modifications.  What would happen if the four mentioned banks wrote down their second  liens? Lets look at some numbers (care of Nomura):
2nd Lien/HELOC          S'holder Equity       Tang Common Equity
$149.1                                 $231.4                $ 89.1
49.4                                       154.9                 118.2
101.4                                    165.4                 106.8
123.8                                    114.4                  68.6
* And now....let's do a quick ratio comparison:
2nd Lien et al/S'holder Equity
           2nd Lien et al/TCE

So why do you think these banks aren't inclined to write down their second liens?  I wonder if Mr. Frank is expecting the strong arm tactics to work.


Disclosure: positions in BAC preferreds.