Investors Pressure RMBS Trustees to Increase Repurchase Demands

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7 · 23 · 10

A Dallas-based law firm that claims to represent investors on more than $500 billion in residential mortgage-backed securities is pressuring trustees to step up repurchase demands. In a letter to the trustees, the firm claims that a conflict of interest exists for servicers whose firms also originated the loans.

Talcott Franklin P.C. says it represents investors with holdings in more than 6,000 RMBS trusts with in excess of $0.5 trillion of the $1.5 trillion private-label market. Its clients — pension funds, bank and credit union depositors, mutual fund holders, 401(k) holders, endowments, state and local governments and individual investors — reportedly hold more than 25 percent of the voting rights in around 2,300 private-label RMBS, more than half of the voting rights on another 900 RMBS and more than two-thirds of the voting rights in more than 450 deals.

The firm hopes to use the collective interests of its clients to boost their bargaining power.

“Trustees have often claimed that they are unable to act on investor requests because the investor does not by itself hold a sufficient percentage of the deal to demand action,” the firm’s principal, Talcott J. Franklin, said in a statement yesterday. “This changes the balance of power on about a third of the deals in the market.”

Because its clients hold significant shares of the RMBS, the investors can give notice of servicing defaults, require a trustee to take certain actions or approve amendments to the governing agreements, the statement said. They can also replace the trustees.

A clearing house created by Talcott enables the investors to communicate about their legal rights and organize in ways that were previously not possible.

A July 20 letter sent to entities that serve as trustees highlighted the “dismal” performance of the securitizations and noted that the clearing house can serve as a conduit between them and the investors and improve communications.

Various studies and research were cited that indicated between 80 and 100 percent of defaulted loans include some breach of representation and warranties. The letter explained that a servicer is in the best position to identify a breach of warranty under the mortgage loan purchase agreement and make a claim for a repurchase against the entity that sold the loan to the trust. But such claims are rare — a trend described as “deeply disturbing.”

“When one understands that the lender’s ‘skin in the game’ was its repurchase obligations, and that the servicer was typically the one who would discover a breach of those obligations, the potential conflict of interest associated with this arrangement becomes apparent,” the letter said. “Indeed, in some trusts where the lender and the servicer are either the same entity or affiliates, the number of recent repurchases by the lender is zero, even though the default rate for these pools is at least twenty-five percent.”

In addition, Talcott suggested that some servicers are motivated to prematurely foreclose because of fees collected in the foreclosure process. Even borrowers who were not delinquent faced foreclosure because a speedy process “may save servicers the cost of attempting other techniques that might have prevented the foreclosure.”

Trust beneficiaries are frequently being denied access to information about trust management, and requests for documentation are being ignored or rejected. Attempts at trust amendments are routinely abandoned.

But because of the bigger share of collective voting rights enabled by the clearing house, amendments are now more likely to be worked out and adopted.

“Given the details set forth in this letter, it appears that potential claims against sellers and servicers could be a valuable asset of an RMBS trust, and we believe that this letter provides a sound basis to provide you notice of these potential claims,” the letter stated. “As you may know, one of the trustees of RMBS trusts backed with loans originated by and/or serviced by two banks placed in receivership timely filed claims with and suits against the FDIC in an effort to preserve such claims.

“We view this action as exemplary conduct by a trustee.”

Trustees were asked in the letter to ensure all servicing and underwriting documentation be preserved. They were also asked not to settle claims with “conflicted parties” without investor approval. Such parties include servicers who could face repurchase demands as a result.

“To the extent any servicer or originator has an interest in attempting to resolve these issues rather than engaging in what has become in some instances a protracted struggle to suppress loan files from investor review, we would be happy to work with them to reach an appropriate outcome,” the law firm wrote. “We believe that working together, we can develop industry standards for accountability, avoiding conflicts of interest, improving servicing and increasing transparency.”

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Mortgage Daily Staff

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