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Lacker's Critique of Fed Policy; CFPB's Annual Report; Bank Auditors are People Too!
While you're dining on turkey and watching football tomorrow (maybe not
in that order) remember this touching story.
Folks continue to wonder about the Fed's program in buying and holding
U.S. government securities AND agency mortgage-backed securities: issuing
them from one department and buying them in another. I received this note: "I
have to assume that the Fed is continuing to buy newly issued Treasury
securities because otherwise the Treasury would now have to pay substantially
higher rates to induce buyers, and such higher rates don't seem to be being
paid. But it is very strange that no mention of the continuation of this
bond-buying program can be found anywhere, only articles on Operation Twist. It
seems to me that we are witnessing the most enormous legalized counterfeiting
operation in the history of mankind, right out in the open and no one will
shout out the obvious. I don't see how this ends well. Why doesn't anyone
complain that the government is supporting itself, and merely printing money? It
is almost as if it is peddling in the air, just because it thinks it can, and
when it stops - boom! One branch of the government issues debt, the other buys
it. One branch of the government sells MBS, the other buys it. It is all a way
of printing money. Where would rates be if it weren't for this policy? How
is the Treasury going to find sufficient buyers for its bonds without having to
offer higher rates? The answer to this question is crucial for financial
markets to know." Great question.
Occasionally Fed officials make speeches. Most are fairly mundane, but just
before his last voting appearance at the Federal Open Market Committee (FOMC)
until 2015, Richmond Fed President Lacker, who has dissented at every meeting
this year, is offering a harsh critique of Fed policy. Lacker says that
he opposes linking policy to the Unemployment Rate, and the underlying
rationale behind recent policy action. He doubts the effectiveness of MBS QE
purchases and that in this policy action the Fed may well be abusing its 2009
accord with Treasury on credit allocation. Lacker suggested that if Fed doesn't
limit its credit policy, the Congress may be forced to legislate such
limitations. Further, Lacker suggests that if the Fed were to follow its plan
to allow inflation to "temporarily" rise above target to help
stimulate the economy, it would lose credibility "for decades to come."
Switching gears to the Consumer Finance Protection Bureau, the CFPB
has issued its Financial Report for fiscal year 2012. The report is
divided into two parts: one part contains management's discussion and analysis
and the second part contains the CFPB's financial statements and note
disclosures. The CFPB grew from about 663 employees as of the end of FY 2011 to
970 as of the end of FY 2012 (which ended September 30). As of the
end of FY 2012, the CFPB's Division of Supervision, Enforcement, and Fair
Lending and the Division of Research, Markets and Regulations represented,
respectively, 46.9% and 9% of total CFPB positions. During FY
2012, the CFPB received $343.3 million in fund transfers from the Fed (more
than double the $161.8 million in funds transferred in FY 2011).
Despite its significant growth during FY 2012, the report indicates that, as of
the end of FY 2012 "the CFPB was still below the full employment levels and
funding it estimates for its steady state in future years."
Given the size of the CFPB's Division of Supervision, Enforcement, and Fair
Lending group relative to the CFPB's other divisions, it certainly reinforces industry
concerns about the CFPB's use of its enforcement authority as a substitute for
rulemaking. The report also confirms that the CFPB is on-site at the
largest depository institutions and that it likewise has exams underway at
numerous other depository institutions, mortgage originators, mortgage
servicers, and payday lenders. The report makes no mention of the
results of the exams. You can take a look for yourself.
Speaking of audits & exams, the Basel Committee on Banking Supervision
released a report on the internal audit function at banks. Community
bankers take note: the report points out that a strong internal audit function (or
externally hired to perform the function) must have "sufficient authority, stature, independence, resources and access to the board of
directors." This is important not only to ensure the overall functioning of
risk management is robust, but also to help protect the bank, so it is a best
practice. Audit the audit process! Internal audit teams must be "independent,
competent and qualified." Believe it or not, this is not always the case,
especially since auditors need to understand the bank's own unique areas of operation.
Every activity (even if outsourced) and every entity of the bank falls within
the scope of the internal audit function, right? That means no group,
product, or service should be excluded from the audit process. The audit
team should report to the audit committee and it must not only have high integrity,
but also have a plan broad enough to capture areas of potential risk. Lastly, it
is important for management to help all employees understand what auditors do
and why they are at the bank. Bank and vendor employees should understand their
true function (ongoing maintenance and assessment of internal control, risk
management and governance systems and processes), and can open up lines of
communication between departments and audit teams.
Hey, auditors have rules too! And they have a defined process, with "being
a buddy to everyone else" probably not on the list. The audit team's role is to
identify areas of potential risk for bank management and provide ways to
mitigate potential issues, and employees should be reminded that it is
better to have the internal team do this and not the bank examiners or the CFPB.
Regulators expect internal audit teams (whether actually internal or hired to
do the function) to be fully prepared before any process begins. In general,
the internal audit team is expected to have "an independent and informed view
of the risks faced by the bank." Heck, that can take months alone! Regulators
also expect banks to make sure audits are based on not only files and records;
but also a deeper dive into data, a process of inquiry and a professional
Once audit teams have completed their review, regulators expect them to discuss
their views, findings and conclusions directly with the audit committee and the
board of directors. I am on the board of a bank, and this is exactly what
happens. Mortgage companies may feel that they are not going to be held accountable
for such things - but my guess is that is an incorrect assumption. Sooner or
later... (More on this Friday!)
On to a
couple relatively recent agency and investor updates.
First, a clarification: on the 16th the commentary had, "Freddie Mac
has issued temporary guidance on property valuation documentation, which can't
be dated more than 180 days before the Note date (the previous requirement was
80 days). The same age requirement applies to underwriting
documentation." To clarify, a representative from Freddie Mac noted,
"Freddie's age of property valuation and underwriting documentation
requirement is no older than 120 days as of the Note. The 180 day
requirement you mentioned applies only to mortgages secured by properties
located in eligible Disaster Areas impacted by Hurricane Sandy. Eligible
disaster areas are Major Disaster Areas declared by the President where
individual federal assistance is being made available." Thank you!
Everbank revised its re-lock and extension policies for re-locks expired
by 60 days or fewer. If the current market is worse, worse case pricing
will apply for a one-time relock, while loans are eligible to re-lock at a 25
bps cost for a maximum of 30 days if the market is better. In order to
re-lock, loans must have at least "Approved with Conditions" status, and re-locks
of more than 30 days are not permitted. This option is only available for
locks that haven't already re-locked.
SunWest has updated its Appraiser Exclusionary List, which is available
Pinnacle Capital has updated guidance on minimum trade line requirements
for Cascade Jumbos, LPMI eligibility for conforming loans with LTVs between
95-97%, LTV/CLTV/HCLTV requirements for conforming ARMs, Enhanced DU Refi Plus
mortgage insurance, FHA garage conversion, LTV/CLTV/HCLTV parameters for
Pinnacle Plus products, and age of document requirements for USDA loans.
Flipping over to the markets today is a full day of fixed-income and stock
trading, tomorrow is a holiday, and Friday is an early close. But in spite
of the upcoming illiquidity, and conservative pricing on Friday, what LO wants
to lock today and basically immediately lose several days of precious processing
time? But in recent days mortgage prices have done very well relative to
Treasury prices and certainly relative to the worsening at the end of last week
- almost as if investors suddenly remembered that the Fed is in buying more
agency loans (Fannie, Freddie, Ginnie) than are being produced.
Speaking of production, this morning we learned what lock desks knew last
week: mortgage applications dropped 13% from the prior week. Some of
this was attributed to higher rates, but factoring in the Veteran's Day holiday
resulted in an adjusted drop of only 2.2%. The share of applications filed to
refinance an existing mortgage was unchanged from the prior week at 81% of
total applications. Adjustable-rate mortgages, or ARMs, increased to 4% of
So on Tuesday MBS prices were worse about .125-.250 - but we started off
near there, and I didn't notice any rash of price changes. We've already had
weekly Jobless Claims, a day early, and although it was expected to drop from
439k to 410k, it came out spot on at 410k (from an upwardly revised 451k from
the previous week). We also have some University of Michigan survey, but also
the more important Leading indicators for October expected to have increased
+0.1 (vs. +0.6). In the early going the 10-yr., which closed at 1.66%, is
sitting at 1.67% - the highest in a few weeks, and MBS prices are roughly .125
In this time of year of 2013 predictions, let's take a look at previous
thoughts on the future. (Part 3 of 3.)
"Stocks have reached what looks like a permanently high plateau."
Irving Fisher, Professor of Economics, Yale University, 1929.
"Airplanes are interesting toys but of no military value."
Marechal Ferdinand Foch, Professor of Strategy, Ecole Superieure de Guerre,
"Everything that can be invented has been invented."
Charles H. Duell, Commissioner, US Office of Patents, 1899.
"The super computer is technologically impossible. It would take all of
the water that flows over Niagara Falls to cool the heat generated by the
number of vacuum tubes required."
Professor of Electrical Engineering, New York University.
"I don't know what use any one could find for a machine that would make
copies of documents. It certainly couldn't be a feasible business by
The head of IBM, refusing to back the idea, forcing the inventor to found
"Louis Pasteur's theory of germs is ridiculous fiction."
Pierre Pachet, Professor of Physiology at Toulouse , 1872
"The abdomen, the chest, and the brain will forever be shut from the
intrusion of the wise and humane surgeon."
Sir John Eric Ericksen, British surgeon, appointed Surgeon-Extraordinary to
Queen Victoria, 1873.
And last but not least...
"There is no reason anyone would want a computer in their home."
Ken Olson, president, chairman and founder of Digital Equipment Corp., 1977
In 1980, McKinsey & Company was commissioned by AT&T (whose Bell Labs
had invented cellular telephony) to forecast cell phone penetration in the U.S.
by 2000. The consultant's prediction, 900,000 subscribers, was less than 1% of
the actual figure, 109 Million. Based on this legendary mistake, AT&T
decided there was not much future to these "toys." A decade later, to rejoin
the cellular market, AT&T had to acquire McCaw Cellular for $12.6 billion.
By 2011, the number of subscribers worldwide had surpassed 5 billion and
cellular communication had become an unprecedented technological revolution.
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