As the fallout over Foreclosure-Gate crisis — which is really a scandal regarding paperwork and securitization — Felix Salmon has a new report based on some digging he’s done into what he sees as a major mortgage-bond scandal.The gist is basically this: During the boom, the major banks would hire a third party — usually a firm called Clayton Holdings — to “taste” some mortgages in a pool after the bank had acquired them. Basically, they’d re-underwrite a sample of a mortgage pool to see if the mortgages were of the advertised quality.
When bad mortgages turned up, the bank could sell those mortgages back to whomever they bought them from, but rather than try to return all the bad mortgages in the lot, they’d simply renegotiate the price of the whole pool (using Clayton’s sample as a benchmark for the whole lot).
Then they’d keep the pool and securitize and sell the pool, not informing the end buyer that a significant number of the mortgages were known to be bad already.
Obviously the question revolves around the extent to which the quality of the underlying portfolio was disclosed, and whether the end buyer could perform their own due diligence. Salmon thinks there was no way they could have, and that the bank doing the securitizing clearly had a big information advantage.
So it sounds pretty ABACUS-like, with questions revolving the information asymmetry and disclosure to tne end buyer.