On the sad occasion of the death of Doris “Tanta” Dungey, I’ve been hunting through her classic collection of Compleat Ubernerd posts about the mortgage business for some commemorative excerpts. But the whole point of these long, mostly brilliant essays on the workings of REMICs, TACs, PACs, CDOs, ABSes and the like is that they are almost unexcerptable.
Still, I can’t resist. This little passage from a post titled Leverage, Ratings and Forced Unwind is about structured mortgage securities:
Remember all the outrage over loan modifications in these securities? If you’re holding one of those subordinate tranches, modifications will prevent (in better case) or delay (in worse case) actual realized losses, which is good for you, at least in the near term. However, if you’re holding one of those “super seniors,” modifications can extend the duration of your investment by slowing prepayments (a modified loan stays in the security, while a refinanced or foreclosed loan is a liquidation or prepayment) and by helping the deal pass the step-down triggers that allow some cash to be shared with the lower-rated tranches.
My own view of the matter is that a lot of this anger and contempt and disgust and general ill-feeling with the rating agencies coming from certain quarters of the investment community is not really a matter of holders of the toxic tranches complaining that their BBBs are “really” BBB-. (This, you might say, is the part we’re not “surprised” about.) It’s coming from AAA holders who want to see the subordinate tranches downgraded as fast as possible so that the AAAs pay off as fast as possible: from this angle, the problem is not the downgrades but the timing of them. (This is the “why did you wait until there were actual losses?” part.) Class warfare is an ugly thing, and the rating agencies (and mortgage servicers dealing with modification problems) are in a tough position if they think they can make everyone happy. As they are in a tough position which they happily participated in creating, you can as far as I’m concerned leave your lace hankies in your lingerie drawer. This isn’t about sympathy; it’s about recognizing complexity.