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Fair Game: Hazard Insurance With Its Own Perils

January 22, 2012 by Leave a Comment

It’s about time.

 Investigators are training their sights on a type of hazard insurance policy known as force-placed insurance, a type of policy that has driven up costs for homeowners and pushed some into foreclosure. People who buy certain mortgage securities may be getting hurt, too.

Benjamin M. Lawsky, the superintendent of the New York State Department of Financial Services, is investigating institutions that underwrite and sell force-placed insurance. Last fall, his office began sending subpoenas to insurance agents and brokers. Requests for information also went out to insurance companies that write such policies.

Working his way up the chain, Mr. Lawsky’s office issued a new set of subpoenas late last week. According to a person briefed on the matter who was not authorized to discuss it, the subpoenas went to loan servicers that imposed force-placed insurance on borrowers, as well as to insurers affiliated with those servicers.

Among the servicers that received the subpoenas were Morgan Stanley Mortgage Capital Holdings and CitiMortgage. Insurer affiliates that received requests for information include BancOne Insurance, a unit of JPMorgan Chase, and Alpine Indemnity, an affiliate of PNC.

“Force-placed insurance appears to be the dirty little secret of the mortgage industry,” Mr. Lawsky said in an interview last week. “It is a silent killer harming both consumer and investors while enriching the banks and their affiliates.” 

Representatives of PNC and JPMorgan Chase declined to comment. Mark Rodgers, a spokesman for Citigroup, said the bank was working with Mr. Lawsky’s office. “CitiMortgage does not sell homeowner’s insurance to consumers,” he said. “If a homeowner does not provide an insurance policy, CitiMortgage secures a policy to protect the interest of the investor. Whenever the homeowner submits proof they have obtained insurance on their own, the lender-placed insurance is canceled.” 

A spokesman for Morgan Stanley said its mortgage company “does not have an affiliated agent, broker or insurance company to procure force-placed insurance.”

Force-placed insurance has exploded during the foreclosure crisis. Once a backwater that generated $1 billion a year, it is now a $6 billion-a-year business. Much of its growth has come on the backs of homeowners.

When homeowners run into financial trouble, they often let their hazard insurance lapse. Because lenders require homeowners to be insured against damage or total loss — say, from a fire — policies are then forced on the borrowers and added to their monthly mortgage payments.

There is a lot to love about force-placed insurance — if you sell it. The policies typically cost at least three times as much as ordinary property insurance. Some borrowers have been charged much more — up to 10 times the prevailing rate — according to people knowledgeable about these practices who spoke on condition of anonymity to maintain business relationships.

Mind you, force-placed policies do not protect homeowners from loss. Only lenders are covered. But homeowners must pay the freight. And lender-placed insurance typically does not carry deductibles, as typical policies do.

Borrowers have also complained of being forced to buy this high-priced insurance even when it is unnecessary. Back in 2007, a borrower with a mortgage serviced by Countrywide Financial described how the lender automatically signed her up for flood insurance even though she had proved that such insurance was unnecessary. Not being able to meet the extra payments, she fell behind on her mortgage. Countrywide then began foreclosure proceedings. 

All in all, force-placed insurance represents a major profit center for mortgage servicers and the companies that write the policies. In many cases, you will not be surprised to learn, the servicers and the insurers are affiliated. This sets up the potential for conflicts of interest among loan servicers that are often supposed to represent investors owning mortgage loans bundled into securities.  

Many banks have set up affiliates that provide this insurance or take on some of the risks that other companies have insured, known as reinsurance. These cozy relationships are a focus of investigators.

Consider the potential for mischief when a mortgage servicer administers a loan owned by an investor. If a loss is incurred on the property that is insured by an affiliate of the servicer, it is not in the servicer’s interest to file a claim on behalf of the investor to cover the loss.

Because such relationships are not typically disclosed, investors may be unaware that these conflicts exist. Faced with a loss on the property, the investor may simply accept it without protest.

Insurers that are not affiliated with lenders have paid fees from 15 to 20 percent of the policy to the banks that place the insurance, according to former industry executives. This indicates how lucrative the business is. 

A more consumer-friendly way to deal with insurance lapses would be for servicers to advance money to the borrower’s existing carrier to keep the policy current. Then, the servicer could bill the borrower for the coverage.

But that would stop the lush profits generated by forcing high-cost insurance on borrowers.  

Insurers that provide this kind of insurance say they must charge higher rates because homeowners who allow their policies to lapse are riskier. But these policies are not typically money-losers. According to data from the National Association of Insurance Commissioners, the average loss ratios on lender-placed insurance are about 22 percent. This compares with loss ratios of 65 percent on traditional homeowners insurance.

AMONG the tricks of this trade that investigators may examine is one that sometimes coincides with a mortgage refinancing. During the bubble years and to a lesser extent even today, lenders can add new coverage to existing policies if a property has increased in value. If a homeowner has, say, coverage for a $200,000 home that she refinances for $225,000, the amount of insurance she might be forced to finance is $425,000.

 Mr. Lawsky’s office has recently struck agreements with some servicers that protect against common abuses in this coverage. Last fall, for example, when Goldman Sachs sold Litton Loan Servicing to Ocwen Financial, Mr. Lawsky’s office had to approve the transaction. That approval was conditional upon Ocwen agreeing not to place this type of insurance with affiliates and requiring that it impose only competitively priced policies. 

Adding to homeowners’ troubles by forcing them to buy overpriced insurance is yet another ugly aspect of the mortgage servicing business. Let’s hope that shedding light on these practices will begin the process of eliminating them.

Article source: http://feeds.nytimes.com/click.phdo?i=551b809763479c812cdd7d283c5e997e

Filed Under: Your Money Tagged With: , ,

Fair Game: Mortgage Servicing Horror Stories

January 7, 2012 by Leave a Comment

The talks began in earnest last March, and people keep whispering that a deal is nigh. But last week, a spokesman for Shaun Donovan, the secretary of Housing and Urban Development and a lead negotiator, said that there was nothing new to report.

That’s probably not a terrible thing. After all, no deal is better than a bad deal. State and federal authorities jumped into these talks without conducting serious investigations into foreclosure shenanigans. Why strike a deal — one that would, say, shield banks from new litigation over toxic loans, flawed securitizations and the mess at MERS, the registry that has made such a jumble of land records — without knowing what happened?

So it’s nice to know some attorneys general are taking matters into their own hands. One is Martha Coakley of Massachusetts, whose lawsuits against big banks have unearthed important details about dubious mortgage practices.

Another is Catherine Cortez Masto of Nevada. She filed a case against Morgan Stanley that was settled last year, generating as much as $40 million in monetary relief for borrowers. She also participated in a suit against Wells Fargo that resulted in $45 million in principal forgiveness for Nevadans. And she has a case pending against Bank of America.

Last month, Ms. Masto sued Lender Processing Services, the huge default and foreclosure processor that works behind the scenes for most large banks. With this case, she demonstrated how enlightening an in-depth study can be. The complaint, which came after a 14-month inquiry, contends that L.P.S. deceived consumers by committing widespread document execution fraud, misrepresenting its fees and making deceptive statements about its efforts to correct paperwork. Investigators interviewed former L.P.S. employees and customers and examined foreclosures the company had worked on.

“L.P.S. played a critical role in the deceptive foreclosure practices that have harmed Nevada homeowners and burdened Nevada courts,” the complaint said. Consumers have paid the price, it continued, “through bankruptcies, evictions and foreclosures that were predicated upon false, forged, fraudulent and/or inaccurate documents.”

L.P.S. strongly disputes the allegations and has vowed to fight. The company has come under the microscope partly because of its size and scope: its loan-processing services touch 27 million loans, half of all the mortgages in the nation, by dollar amount. Most large loan servicers use L.P.S. systems.

It’s a lucrative business. For the nine months ended Sept. 30, the company’s loan transaction services generated operating margins of 20 percent on $1 billion in revenue.

When mortgages go into default, L.P.S. provides banks servicing the loans with an automated system that monitors the cases as they proceed.

The details recounted in the Nevada lawsuit describe how that system hustled borrowers through the foreclosure process. A boiler-room operation comes to mind, or that great Lucille Ball skit in which she tries in vain to keep up with the assembly line at a chocolate factory.

For example, a former L.P.S. employee who worked in “attorney management,” overseeing firms that performed legal work for foreclosures, told Nevada investigators that L.P.S. required him to resolve issues raised by the firms at a rate of 30 foreclosure files every hour. That’s two minutes apiece. The employee soon left L.P.S.

Former workers at another division described their work as “surrogate signers.” They said their job was to forge signatures on documents. These people were hired through temporary agencies; one said she was paid $11 an hour and told that her job was “to sign somebody else’s signature on documents,” the lawsuit said. She told investigators that she signed roughly 2,000 documents a day for months.

Another former worker said that when a banking executive came by for a tour, the signers were told “to lie” and tell the executive they were signing their own names, the lawsuit says.

Notarization worked much the same way, the complaint said. One former worker said she realized that she might have notarized documents she had also signed as a surrogate.

As a result, the lawsuit said, borrowers had to deal with documents containing “false assertions about which entity was authorized to foreclose, and false assertions about whether the consumer was delinquent on a loan payment.”

Kind of important details, no?

Michelle Kersch, a spokeswoman for L.P.S., said it no longer executes documents in Nevada and does so elsewhere “with stringent controls in place” to ensure compliance with all rules.

In an interview last Thursday, Ms. Masto declined to talk specifically about the case against L.P.S. But she said that her office had been working on mortgage-related investigations since 2007, when consumers began complaining. “It really required our team to figure out what was going on,” she said, “to understand it from the beginning to the end, then put in place a plan based on our limited resources to target the types of fraud we were seeing.” Eighteen people — investigators, prosecutors and support staff — work full time on mortgage issues in the Nevada office.

“The challenge we have is statute of limitations on these cases,” Ms. Masto said. “It could be anywhere from four to six years, depending on the incident.”

When she filed suit against L.P.S., she said it was “the next, logical step in holding the key players in the foreclosure fraud crisis accountable.” That suggests other cases are forthcoming.

“If you are going to allow banks to skate around the integrity of the system,” she said, “what kind of justice is that?” Good question.

Article source: http://feeds.nytimes.com/click.phdo?i=0176a429babdd2e62ffe599cffdae562

Filed Under: Your Money Tagged With: , ,

Letters: Letters: Volcker and the Money Market Funds

October 30, 2011 by Leave a Comment

Re “How Mr. Volcker Would Fix It,” Fair Game, Oct. 23), in which Gretchen Morgenson quoted Paul A. Volcker as criticizing money market mutual funds because they aren’t subject to bank-style regulation:

Mr. Volcker’s comments about money market funds read like another attempt to use the financial crisis — a crisis rooted in banks and banking regulation — to deprive the economy of the enormous benefits that these funds bring investors, businesses, and governments.

Money market funds are subject to tight risk-limiting regulations. They invest in diversified portfolios of short-term, highly liquid securities. They are required to ensure that the securities they own pose minimal credit risk. And they disclose every security they own to the public every month.

Contrary to your assertion that “few in Washington seem willing to discuss” reform of money market funds, our industry led the way on comprehensive regulations that tightened credit, maturity, liquidity and disclosure standards. We continue to work with the Securities and Exchange Commission and other regulators on measures to make money market funds more resilient without undermining their critical role in the economy. Paul Schott Stevens

Washington, Oct. 24

The writer is president and chief executive of the Investment Company Institute, the trade association for mutual funds, including money market funds.

Article source: http://feeds.nytimes.com/click.phdo?i=945c4601d15e8f4bb5b855ab2f2718a6

Filed Under: Business News Tagged With: , ,

Fair Game: A Foreclosure Settlement That Wouldn’t Sting

October 29, 2011 by Leave a Comment

While the exact terms remain under wraps, some aspects of this agreement — between banks on one side, and the federal government and a raft of state attorneys general on the other — are coming into focus.

Things could change, of course, and the deal could go by the boards. But here’s the state of play, according to people who have been briefed on the negotiations but were not authorized to discuss them publicly.

Cutting to the chase: if you thought this was the deal that would hold banks accountable for filing phony documents in courts, foreclosing without showing they had the legal right to do so and generally running roughshod over anyone who opposed them, you are likely to be disappointed.

This may not qualify as a shock. Accountability has been mostly A.W.O.L. in the aftermath of the 2008 financial crisis. A handful of state attorneys general became so troubled by the direction this deal was taking that they dropped out of the talks. Officials from Delaware, New York, Massachusetts and Nevada feared that the settlement would preclude further investigations, and would wind up being a gift to the banks.

It looks as if they were right to worry. As things stand, the settlement, said to total about $25 billion, would cost banks very little in actual cash — $3.5 billion to $5 billion. A dozen or so financial companies would contribute that money.

The rest — an estimated $20 billion — would consist of credits to banks that agree to reduce a predetermined dollar amount of principal owed on mortgages that they own or service for private investors. How many credits would accrue to a bank is unclear, but the amount would be based on a formula agreed to by the negotiators. A bank that writes down a second lien, for example, would receive a different amount from one that writes down a first lien.

Sure, $5 billion in cash isn’t nada. But government officials have held out this deal as the penalty for years of what they saw as unlawful foreclosure practices. A few billion spread among a dozen or so institutions wouldn’t seem a heavy burden, especially when considering the harm that was done.

The banks contend that they have seen no evidence that they evicted homeowners who were paying their mortgages. Then again, state and federal officials conducted few, if any, in-depth investigations before sitting down to cut a deal.

Shaun Donovan, secretary of Housing and Urban Development, said the settlement, which is still being worked out, would hold banks accountable. “We continue to make progress toward the key goals of the settlement, which are to establish strong protections for homeowners in the way their loans are serviced across every type of loan and to ensure real relief for homeowners, including the most substantial principal writedown that has occurred throughout this crisis.”

Still, a mountain of troubled mortgages would not be covered by this deal. Borrowers with loans held by Fannie Mae and Freddie Mac would be excluded, for example. Only loans that the banks hold on their books or that they service for investors would be involved.

One of the oddest terms is that the banks would give $1,500 to any borrower who lost his or her home to foreclosure since September 2008. For people whose foreclosures were done properly, this would be a windfall. For those wrongfully evicted, it would be pathetic. Roughly $1.5 billion in cash is expected to go into this pot.

The rest of the cash that would be paid by the banks is expected to be split this way: the federal government would get about $750 million, state bank regulators about $90 million. Participating states would share about $2.7 billion. That money is expected to finance legal aid programs, housing counselors and other borrower support. If 45 states participated, that would work out to about $60 million apiece.

Article source: http://feeds.nytimes.com/click.phdo?i=a4d2c8d4c0369136b1651afdd98360f5

Filed Under: Economy News Tagged With: , ,

Fair Game: What Investors Don’t Know About Europe

October 8, 2011 by Leave a Comment

That’s what Timothy F. Geithner, the Treasury secretary, told Congress last week, trying to allay concerns that American banks might be hurt by the escalating crisis in Europe.

Investors have heard such assurances before, and they have learned to take them with a barrel of salt. Remember how the subprime crisis was going to be “contained”?

As the situation in Europe deteriorates, our own financial institutions are coming under growing scrutiny from investors. American banks have made loans to European ones. Some have also written credit insurance on the debt of European institutions and troubled nations like Greece. So if a default were to occur, some banks here would be on the hook.

Last week, officials at Morgan Stanley worked overtime trying to calm investors about the bank’s exposure to Europe. The company had $39 billion in exposure to French banks at the end of last year, not counting hedges and collateral. (Some analysts argue that the amount today is far lower, and at the end of the week, Morgan Stanley appeared to have relieved investor fears.)

Whatever the case, American banks have been writing more credit insurance lately. As of the end of June, some 34 federally insured commercial banks had sold a total of $7.5 trillion of credit protection, on a notional basis, according to the Comptroller of the Currency. That was up 2.3 percent from the end of March.

To be sure, these figures represent the total amount of insurance written and do not reflect other offsetting trades that bring down these banks’ actual exposure significantly.

For investors, the challenges in trying to assess the true exposures are real. Many of the risks in these institutions are maddeningly hard to plumb, and open to a range of interpretations. The fact is, investors must deal with significant gaps in the data when trying to analyze a bank’s exposure to credit default swaps. Even the people who set accounting rules disagree on how these risks should be documented in company financial statements.

A recent report by the Bank for International Settlements noted: “Valuations for many products will differ across institutions, especially for complex derivatives which may not trade on a regular basis. In such cases, two counterparties may submit differing valuations for valid reasons.”

Investors, therefore, have to trust that the institutions are being appropriately rigorous.

To compute the fair value of derivatives contracts, financial institutions estimate the present value of the future cash flows associated with the contract. On this part, everyone agrees.

But there are two subsequent steps in the valuation exercise that can produce wide variations on an identical exposure. First is the manner in which an institution offsets its winning and losing derivatives trades to come up with a so-called net exposure. Accounting rule makers disagree about the right way to approach this process.

Standard setters in the United States allow an institution to survey all the contracts it has with a trading partner and compute exposure as the difference between winning trades and losing ones.

International standard setters have taken a different view. They have concluded that investors are better served by knowing the gross figures of all of an institution’s trades, both the profitable ones and the money losers. Those favoring this approach say it gives investors more information and greater insight into the risks on the books, like how concentrated the bank’s bets are.

A recent report from the Bank for International Settlements illustrates how different the exposures can be, depending on which approach is used. Posing three hypothetical examples, the report noted that while the gross values of various derivatives totaled $41, the same trades dropped to $17 after netting, as is allowed in the United States.

THE second area where investors must rely on institutions to do the right thing involves the collateral that has been supplied to secure derivatives contracts. Banks reduce their exposure to a possible loss by the amount of collateral they have collected from a trading partner.

But is the collateral solid? Is the bank valuing it properly? Can it be located quickly? This, again, is a gray area.

The B.I.S., in its most recent quarterly review, highlighted these challenges. It said that gleaning information about collateral was difficult, and that arriving at a proper valuation was, too.

Further problems arise when it comes time to pay off a bet in a bankruptcy and close out one of these trades. At such a moment, liquidating collateral can put pressure on other positions carried by an institution, the B.I.S. noted. It is unclear whether institutions’ portfolio and collateral valuations reflect this reality.

Some investors who have been worrying about potential losses associated with European banks may have taken comfort in the results of financial stress tests conducted earlier this year by the Committee of European Banking Supervisors. Of the 91 top European banks tested — accounting for 65 percent of bank assets — only seven failed the toughest measures.

But, as an August report by Dun Bradstreet pointed out, these tests were not as stringent as they might have been. They only assessed the risks posed by deteriorating assets in banks’ trading accounts. The tests did not measure those assets carried in the so-called held-to-maturity accounts.

“In order to give a more adequate picture of European financial sector risk beyond the short term,” Dun Bradstreet said, “we believe the hold-to-maturity bonds should have been included in the stress tests.” There is clearly a great deal that investors do not know about exposures to Europe, notwithstanding the assurances from Mr. Geithner and others. Three years ago, investors were ignorant of the risks in faulty mortgage securities. If we’ve learned anything from that episode, it’s that what you don’t know can, in fact, hurt you.

Article source: http://feeds.nytimes.com/click.phdo?i=9b1b79f44f9066654b87443fc873b02d

Filed Under: Economy News Tagged With: , ,

Fair Game: Carteret Savings Bank Case Refuses to Die

October 1, 2011 by Leave a Comment

So it’s downright mystifying that the Justice Department keeps pressing a losing case against a financial institution that was seized in — are you ready? — 1992.

The institution in question, Carteret Savings Bank of New Jersey, was a pipsqueak next to Countrywide Financial and Washington Mutual, the giant wrecks once presided over by Mr. Mozilo and Mr. Killinger, respectively. For the last 20 years, Carteret Savings’ parent company has argued that the government caused the bank to fail and has tried to recover some money for its shareholders. In late August, Loren A. Smith, a senior judge in the Court of Federal Claims, sided with the parent company, ruling that the government should pay it $205 million in damages.

But rather than accept that ruling, the Justice Department asked Judge Smith last week to reconsider, “to prevent a manifest injustice.” And so the case drags on.

Richard A. Bianco is the chief executive of the Ambase Corporation, which bought Carteret way back in 1987. He estimates that this battle has cost the company’s shareholders $10 million in legal fees.

“For 20 years our stockholders have been suffering through this mess,” Mr. Bianco said. “We think it is a wrongful action by the government.”

Asked why the Justice Department refused to accept the ruling, Charles Miller, a spokesman, said, “We are continuing to litigate because the case has not yet been resolved.”

Here are the details of this amazing tale: In the 1980s, as a number of savings institutions ran into trouble, regulators encouraged stronger banks to absorb imperiled ones. Part of that encouragement involved something called supervisory goodwill. The government let strong banks include in their regulatory capital intangible assets associated with acquisitions of troubled thrifts. This supervisory goodwill was to be written down over at least 25 years, giving the acquirers a good, long-term cushion.

Regulators came up with this accounting treatment to reduce the cost to taxpayers. If healthy banks absorbed teetering ones, taxpayers wouldn’t have to pick up the bill.

Carteret, founded in 1888, bought several beleaguered banks in the 1980s at the suggestion of regulators. By 1988, it was the nation’s 19th-largest savings and loan. After it absorbed the troubled institutions, its supervisory capital reached $182 million, more than half its regulatory capital of $322 million.

Then, in August 1989, Congress, in its wisdom, eliminated the goodwill accounting treatment. As a result, scores of banks fell short of capital requirements. Carteret’s regulatory capital fell by more than half.

Carteret scrambled, selling branches and increasing its reserves against bad loans. It lost money on its commercial real estate and corporate loan portfolios in 1989 and 1990, but returned to profitability in late 1991. By the end of November 1992, Carteret recorded net income of $11 million. But it still didn’t have enough capital. It tried to raise money from investors but failed.

So, on Dec. 4, 1992, the Office of Thrift Supervision seized Carteret, even though regional regulators recommended against a takeover.

Carteret’s parent sued, arguing that the government had breached its contract by eliminating the goodwill benefit and that that decision had caused the collapse. The government countered that bad commercial real estate and corporate loans would have sunk Carteret anyway.

The case inched through the courts. Finally, on Aug. 31 this year, Judge Smith sided with Carteret’s parent, finding that the government had caused the collapse. Carteret’s financial standing had stabilized in 1992 and its profitability was sustainable, the court said, citing testimony from regulators. One regulator testified that Carteret could have survived had the government waited one more month.

Judge Smith also concluded that the government impeded Carteret’s attempts to raise capital from investors in 1992, saying the bank “was unable to find a match as the government imposed harsh and unrealistic requirements making it impossible for any investors to invest.”

The $205 million award was based on a calculation of Carteret’s market value before Congress changed the rules. The judge also awarded Carteret’s parent an unspecified sum to offset any tax liabilities it would have to pay on the damages.

Judge Smith, in his ruling, expressed frustration at not being allowed to add interest or legal fees, because of the government’s sovereign immunity. “In dollar terms, plaintiffs will receive about one-third of the value of what they have lost by the breach,” he wrote. “This is unfair and unjust, but the Congress, not the court, must address this injustice.”

With the Justice Department still pressing the case, Mr. Bianco said: “It’s tough to fight City Hall. The stockholders realize it has been one very tough road. If the government would have left Carteret alone, the taxpayers would have saved all these legal expenses and would not have to pay this award.”

The Justice Department probably won’t get far in trying to get Judge Smith to reconsider — his opinion is pretty scathing. But the government could appeal to the Third Circuit Appellate Court, according to David H. Thompson, the lawyer at Cooper Kirk who represents Carteret and its parent. It could also try its luck with the United States Supreme Court, he said.

It’s unclear who would have to pay the award if Carteret prevails. Mr. Thompson said it could be the United States Treasury — that is, taxpayers — or the Federal Deposit Insurance Corporation’s fund, which is paid for by financial institutions.

Whatever the outcome, Mr. Thompson said: “This case stands as a monument to bureaucratic folly.”

You bet.  

Article source: http://feeds.nytimes.com/click.phdo?i=dbb8336e07e95027b19e93f6150e04b2

Filed Under: Economy News Tagged With: ,

Fair Game: Conventional Fed Wisdom, Defied

August 13, 2011 by Leave a Comment

The Fed has spent several years trying to kick-start the economy with low rates and other policies, with little success. Which raises this question: Will more of the same help now?

Among the doubters is Thomas M. Hoenig, the soon-to-be former president of the Federal Reserve Bank of Kansas City. Mr. Hoenig, at the helm of the Kansas City Fed for the last 20 years, has thought long and seriously about the problems facing the central bank, and he spoke with me about them last week after attending his final meeting of the policy-making Federal Open Market Committee. He will turn 65 next month, the mandatory retirement age for a Fed bank president.

Mr. Hoenig has been pretty much alone among Fed presidents in publicly calling to break up large banks that are too big to succeed.

“Extremely powerful institutions, both financially and politically, undermine the long-term strength of our system and make us look like a financial oligarchy,” he told me. This view, of course, receives little applause in Washington and on Wall Street.

Mr. Hoenig has espoused this view for more than a decade, and he has grown accustomed to being ignored or criticized for it. Back in 1996, in a speech at the World Economic Forum in Davos, Switzerland, he presciently warned about the dangers of expanding the federal safety net to cover financial institutions trading complex derivatives and structured finance vehicles.

Pushing for a new regulatory regime that would deny a safety net to institutions engaged in risky activities, he told the attendees: “The threat of failure keeps a bank honest and inhibits it and the industry from trending toward excessive risks. Without this market discipline provided by creditors willing to withdraw their funds when they suspect a bank of being unsafe, banks have an incentive to take excessive risks.”

Mr. Hoenig’s prescription was to bar institutions that engage in risky business from offering government-backed deposits and to minimize their access to emergency Fed loans. Although he has been vindicated in this view, big bankers howled and regulators yawned at the time.

“I was trying to point out that these kinds of activities are beyond management’s control,” he recalled, “and that if you want to do this, you cannot have the taxpayers subsidizing it.”

He added: “It was controversial. It was not well received by some.”

In 1999, as Congress was finally doing in the Glass-Steagall rules that had separated investment banking from old-fashioned commercial banking, Mr. Hoenig made another public warning about big, interconnected financial companies. “In a world dominated by megafinancial institutions, governments could be reluctant to close those that become troubled for fear of systemic effects on the financial system,” he told an audience at the European Banking and Financial Forum in Prague. “To the extent these institutions become ‘too big to fail,’ and where uninsured depositors and other creditors are protected by implicit government guarantees, the consequences can be quite serious.”

We sure found that out.

More recently, in the aftermath of the 2008 crisis, Mr. Hoenig has continued to counter the conventional wisdom in Washington. “The Dodd-Frank legislation, for all its 2,300 pages, does not fix the fundamental problem of too-big-to-fail banks,” Mr. Hoenig said last week. “I think the post-Depression response was the answer — you break them up. If you are going to have access to the safety net, you are going to limit your activities.”

Last year, when he was a voting member of the open market committee, Mr. Hoenig dissented on monetary policy decisions at every meeting. Because he is no longer a voting member of that committee, his current views on the Fed’s most recent policy decision were not reflected in the dissents registered last week by three other regional Fed bank presidents, Richard W. Fisher of Dallas, Narayan Kocherlakota of Minneapolis and Charles I. Plosser of Philadelphia.

“My objections have been based on the fact that the central bank has to think about what its policies mean for the long term,” Mr. Hoenig said. “We as a nation have consumed more than we produced now for well over a decade. Having very low rates for an extended period of time encourages us to continue focusing on consumption, but to correct our imbalances, we have to focus on production.”

Creating jobs and finding ways to keep American businesses from fleeing abroad is not exactly the domain of the Fed, Mr. Hoenig conceded. But neither should the Fed’s actions work against the goals of generating a more productive economy, he said.

“The central bank has to be, in a way, a neutral player, and yet we find ourselves trying to stimulate, and the effect is further leveraging,” he said. “If I thought zero rates would bring jobs, I’d want it forever. But it distorts the economy.”

He continued, “In 2003, when we lowered rates and kept them there because unemployment was 6.5 percent — look at the consequences.” Those consequences included the nation’s mortgage feast, followed by its current economic famine.

Another important theme for Mr. Hoenig concerns the mistrust that has arisen as regulators provide favors to powerful institutions while asking other industries, and ordinary Americans, to accept less.

Ask farmers to accept fewer federal subsidies, or the housing industry to live without the mortgage tax deduction, or ordinary Americans to contemplate changes to Social Security, and they all push back, he says.

And many of these people say the same thing: “Why should I compromise when the largest institutions get bailed out and continue to get their bonuses?” he says.

POINT taken. If there were a sense that everyone, big and small, powerful and weak, would be asked to sacrifice, we might be able to agree on a way forward for the economy, Mr. Hoenig said.

“We have to bring a greater sense of equitable treatment,” he said. “When we do that Americans will say, ‘Yes, we are all in this together.’ ”

Mr. Hoenig does not yet know what he will do after leaving the Fed, but he aims to stay in public service. Let’s hope he lands in a job where some of his ideas can be put into action.

Article source: http://www.nytimes.com/2011/08/14/business/kansas-city-fed-president-defies-conventional-wisdom.html?partner=rss&emc=rss

Filed Under: Global Business Tagged With: , ,

Fair Game: Paychecks as Big as Tajikistan

June 18, 2011 by Leave a Comment

But despite the reams of figures about pay in any given year, shareholders often have to struggle to put those numbers into perspective. Companies typically hold up pay from previous years as a benchmark, but just how this paycheck stacks up against, say, a company’s earnings or stock market performance is rarely laid out.

Investors can run the numbers themselves, of course, but it’s a pretty laborious process. As a result, pay for most public companies’ top executives exists in a sort of vacuum, as far as investors are concerned. Shareholders know they pay a lot for the hired help, but a lot compared with what?

Answers to that question come fast and furious in a recent, immensely detailed report in The Analyst’s Accounting Observer, a publication of R. G. Associates, an independent research firm in Baltimore. Jack Ciesielski, the firm’s president, and his colleague Melissa Herboldsheimer have examined proxy statements and financial filings for the companies in the Standard Poor’s 500-stock index. In a report titled “S. P. 500 Executive Pay: Bigger Than …Whatever You Think It Is,” they compare senior executives’ pay with other corporate costs and measures.

It’s an enlightening, if enraging, exercise. And it provides the perspective that shareholders desperately need, particularly now that they are being asked to vote on corporate pay practices.

Let’s begin with the view from 30,000 feet. Total executive pay increased by 13.9 percent in 2010 among the 483 companies where data was available for the analysis. The total pay for those companies’ 2,591 named executives, before taxes, was $14.3 billion.

That’s some pile of pay, right? But Mr. Ciesielski puts it into perspective by noting that the total is almost equal to the gross domestic product of Tajikistan, which has a population of more than 7 million.

Warming to his subject, Mr. Ciesielski also determined that 158 companies paid more in cash compensation to their top guys and gals last year than they paid in audit fees to their accounting firms. Thirty-two companies paid their top executives more in 2010 than they paid in cash income taxes.

The report also blows a hole in the argument that stock grants to executives align the interests of managers with those of shareholders. The report calculated that at 179 companies in the study, the average value of stockholders’ stakes fell between 2008 and 2010 while the top executives at those companies received raises. The report really gets meaty when it compares executive pay with items like research and development costs, and earnings per share.

The report, for instance, compared earnings per share with cash pay — just salary and bonus, if there is one. It identified 24 companies where cash compensation last year amounted to 2 percent or more of the company’s net income from continuing operations.

Topping this list is Allergan Inc., the health care concern whose top executives received, after taxes, an estimated $2.6 million in salaries last year. That amounted to 50 percent of what the company earned from continuing operations, the report said.

Caroline Van Hove, an Allergan spokeswoman, said that the salaries were large when compared with net income in 2010 because one-time charges reduced earnings significantly that year; in previous years, she noted, earnings were far higher than executives’ pay. She also said the company’s C.E.O. had not received an increase in salary over the past three years.

Moving on to R. D. costs, the report examined the 62 technology companies in its sampling that reported such an expense, excluding certain costs associated with acquisitions.

Mr. Ciesielski found that the median level of executive pay was equal to 5.3 percent of these companies’ R. D. expenditures.

Topping the pack was Jabil Circuit, a manufacturer of electronic circuits and boards for computer, communications and automotive markets. In 2010, its $27.7 million in total executive pay almost matched the $28.1 million it spent on R. D. While last year may have been an outlier, over the past four years, Jabil’s pay equaled 57.2 percent of the amount it spent on research and development.

Jabil did not respond to a request for comment.

Finally, there’s the comparison of executive pay with market capitalization. As Mr. Ciesielski noted, this calculation provides the biggest shock value.

Eleven companies analyzed in the report gave top executives a combined pay package amounting to 1 percent or more of the companies’ average market value over the course of the year. The Janus Capital Group, the mutual fund concern, topped the list, with pay totaling almost $41 million for five executives. This accounted for 1.95 percent of the company’s average market value over 2010.

“To earn their keep,” the report said, “managers would have to create stock market value in the full amount of their pay.” The executives at Janus failed to increase value in 2010, when the stock closed out the year roughly where it had begun it. This year, the company’s shares are down almost 30 percent.

Janus declined to comment.

Mr. Ciesielski says he believes that shareholders need more context when it comes to pay practices — and that rule makers should improve pay reports. “The disclosures really are not sufficient to get people fired up,” he said in an interview last week, “unless they add up the compensation and find out how it relates to other things.”

“We need a different model,” he added. “There is a real lack of information here about how shareholders’ funds are being managed.”

THIS may explain why shareholders at annual general meetings so rarely vote against pay practices. Broc Romanek, who is editor of CompensationStandards.com, said that a majority of shareholders at only 34 companies, or 2 percent of those that have held votes so far this year, have rejected executive pay packages.

If shareholders could size up the impact of pay on a company’s operations, they’d be more informed, Mr. Ciesielski said. For example, why not show a company’s total executive pay against its overall labor costs? Or disclose top pay as a percentage of marketing expenditures, if that is what propels a company’s results?

“How does executive pay relate to the basic drivers of what makes the company work?” Mr. Ciesielski asked. “We should be exploring that kind of information.”

Article source: http://feeds.nytimes.com/click.phdo?i=d8239fb5f8bab8ac055d87e2094094c5

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