Tranche warfare — a mortgage dispute gets ugly

This is why they do not wish to modify the loans. Another interesting writing from

mortgage.freedomblogging.com

http://mortgage.freedomblogging.com/2009/03/12/tranche-warfare-a-mortgage-dispute-gets-ugly/7649/

(Update: The lawsuit is provided.)

In the pages of the Wall Street Journal, hedge fund Carrington Capital Management accused a loan servicer of selling foreclosures at fire-sale prices. The dispute reflects how holders of different tranches of mortgage securities can have conflicting interests.

The Journal story appeared last month, apparently after the newspaper got a copy of a lawsuit Carrington planned to file against American Home Mortgage Servicing over the alleged fire sales. (The lawsuit, filed in Connecticut, is available HERE) HousingWire’s Teri Buhl wrote a more detailed story that ran on March 6.

Carrington, by the way, maintains offices in Orange County because in 2007 it bought the servicing platform of former subprime king New Century Financial in Irvine.

Carrington both invests in and services loans. According to Buhl, Carrington is upset over some junior securities, or tranches, that it owns. The loans backing those securities are serviced by Irving, Tex.-based American Home Mortgage, which is owned by investor Wilbur Ross

Here’s another O.C. tie: Ross last year bought Irvine-based Option One Mortgage’s servicing business from H&R Block Inc. Apparently some of the loans serviced by Option One and now Ross are at the heart of the dispute.

Bruce Rose, a former Salomon Brothers trader who runs Carrington, would benefit if Ross’ company halted foreclosures, according to reporter Buhl. Here’s why:

When a loan in the pool does default, as long as the servicer still holds on to the property as a bank owned asset and marks it at the level of the original loan investment, the junior bond continues to pay out, sources told HousingWire.

In contrast, if the REO property is sold and actual market prices are recognized, the junior tranche would effectively be wiped out while the senior tranches divide up the recovered principal. So by dictating how a servicer can manage the loan, Carrington could control the value of its investment while setting up senior bondholders for a fall they may or may not have expected. Sources familiar with the situation told HousingWire that Rose has been asking AHMSI to book the REO in its deals at a mark-to-model method he prefers, rather than using independent appraisals or other common methods of property valuation.

In the story, Carrington argues it has the right to “direct the servicer over the management and sale of all REO properties tied to the trust.”

Sean O’Shea, an attorney representing Carrington, is quoted in the story as saying American Home Mortgage is required to uphold these special rights of Carrington.

“They did it for the first few months, why aren’t they doing it now?” O’Shea said.

David Friedman, CEO of American Home Mortgage, is quoted both in the HousingWire piece and in the WSJ as dismissing the Carrington suit. In the Journal he calls it “ludicrous” and says his company “complied with its contractual obligation to sell already vacated properties at current market value.”

In the HousingWire piece, Friedman says, “The servicer stands by the fact their real responsibility is to not violate its contractual obligations of the trust, and do right by all investors, not just the ones conveniently holding the ‘special rights.’”