Faced with proposed new regulations for mortgage-backed securities designed to prevent another financial crisis, some Wall Street banks are saying that they should have no responsibility “to undertake any sort of credit analysis” when creating and selling mortgage-backed securities, and that they have no ability to do that, according to Floyd Norris, a commentator on finance and economics, in his August 5, 2010 New York Times article, “Caveat Emptor, Continued.”
The Securities and Exchange Commission has proposed new requirements for the issuance of certain mortgage-backed securities, including detailed “asset level disclosure” (so the buyer can see what is “under the hood”), required updates of those disclosures, a five-day cooling off period between the offering and the sale, requiring sponsors of securitizations to hold on to pieces of them, and to not hedge away the risk, and, most controversially, a certification by the chief executive of the firm that created the deal stating that s/he has reviewed it and believes the mortgage assets have “characteristics that provide a reasonable basis to believe” the securities will perform as advertised.
Some claim that the certification requirement is just a pain in the rear that would add nothing new to the law. But, according to Norris, there is a likely benefit based on what happened with the Sarbanes-Oxley requirement that CEOs certify federal filings. “[I]t appears that the act of signing made many executives pay more attention to what it was the company was saying, and to force more checking. The S.E.C. hopes that will happen with securitizations as well.” The SEC says it believes the certification requirement “should lead to enhanced quality of the securitization.”
What do the members of the securities industry think of the certification requirement? Actually, they are split. Members of the Securities Industry and Financial Markets Association (SIFMA) that invest in mortgage-backed securities think the certification requirement is a capital idea. But SIFMA members that create such securities do not like the certification requirement at all. “In the view of our dealer and sponsor members, it is not the role of the depositors [industry jargon for creators] and its officers to undertake any sort of credit analysis,” SIFMA copped out to the SEC, adding, “They are not trained to do so.”
Mary L. Shapiro, the SEC’s chairwoman, has said that current securities laws are not geared to facilitate regulation of asset-backed securities. Last fall, she reportedly recommended a separate law to regulate for such securities, as was done for mutual funds.
In the pre-crisis days, investors relied on ratings by companies such as Moody’s, Standard and Poors, and Fitch, but such ratings proved to be disastrously wrong. “If there is to be a revived private mortgage securitization market,” Norris said, “it will need investors who are willing to do their own work analyzing the investments. And it will require that those in a position to control the underwriting standards when the loans are made have incentives to make loans that will be repaid.”
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