Joe Smith, the court appointed monitor for the $25 billion mortgage servicing settlement, can learn something from the recent experience of the federal banking regulators.
Smith's first priority is to get the monitoring process up and running, including selecting the primary accounting and consulting firm that will help him monitor compliance with the settlement agreements.
"My goal," Smith told me recently, "has to be to conduct the monitoring function through persons and firms that are independent of the banks."
The Federal Reserve and the Office of the Comptroller of the Currency could have built a best-of-breed project team inside their agencies to conduct the foreclosure reviews mandated by consent orders last April against twelve mortgage servicers. Instead, they delegated that job to each bank. As a result, the banks chose friendly firms and some of those choices are less than arm's-length away from the problems and abuses they're reviewing.
My columns, as well as other reports, identified potential independence conflicts with consultants such as Deloitte. Deloitte's consulting practice is performing the foreclosure file reviews at JPMorgan Chase. JPM's problem foreclosures were inherited mostly from Bear Stearns' EMC Mortgage and from Washington Mutual, Deloitte's former audit clients. The OCC and Fed promised they'd vet banks' consultant selections to minimize conflicts of interest. Instead, Deloitte can minimize the problems found at JPMorgan and, therefore, minimize the liability the firm already faces from litigation by Bear Stearns and Washington Mutual shareholders.
"I don’t have a quick and easy answer to that right now," Smith said when I asked him how he's going to avoid the same conflicts of interest we're seeing in the foreclosure reviews when he hires his own "primary professional firm."
Finding the "appropriate balance between independence and capacity," as Smith describes it, is not easy when sufficient independence may mean too little experience and sufficient experience may mean conflicts of interest. Conflicts of interest tempt consultants to bend the rules on behalf of current and future bank clients.
Smith has already invited about 40 handpicked professional services firms to express interest in the "primary professional firm" role. Depending on the response he gets, some will be invited to respond to a request for proposals and then subjected a highly personal final selection process.
"I'll meet personally with the firm I'm going to depend on," he promises. The banks, according to Smith, want to deal with one firm for settlement compliance reporting. That's not surprising. Better the devil you know…
If only the banks had seen the value of "one point of contact" when they were servicing mortgages. We may have avoided the runaround and run-the-clock tactics so many borrowers facing foreclosure complained about.
The banks would like to be treated equally from an enforcement perspective. Smith needs consistent and comparable compliance reports from each bank. But it would also be nice if borrowers started to see consistent customer service and timely responses on loan modifications and other programs the banks will claim settlement credits for.
Smith says he's "not predisposed against the largest firms but the Big Four audit firms have an independence issue. I've talked to the banks about this. Everyone knows it." So if the Big Four consultants have an intractable independence problem because they audit so many big banks, what are the alternatives?
Smith could choose a large consulting firm as project team leader only and mandate a best-of-breed approach to choosing experts and on-the-ground compliance staff from a wider range of smaller, regional and niche firms. That would spread the wealth and dilute the independence issues of any one firm while assigning project governance and methodology development to a firm that does that best. This approach would also provide more opportunity to minority- and women-owned firms and to local firms that may understand the nuances of a particular market better than a national firm.
It seems natural to expect coordination between the OCC/Fed foreclosure review and Smith's team. Smith agrees it's a good idea. The settlement monitoring effort should be complementary and not competitive with the OCC/Fed efforts. The combination of both initiatives should result in the best possible outcome for all of those harmed.
Unfortunately, I'm not so sure the "coordination conversation" between Smith and the OCC and Fed will happen anytime soon. "I've spoken on a prospective basis with the Consumer Financial Protection Bureau but I have not yet talked with the Fed and OCC," he told me. "I'd like to work with those agencies. I'm sure they'd like to work with me. But the issue is going to be information sharing. They have genuine issues of information sharing. Some things they can share and some things they can not."
If Smith runs into trouble from a non-cooperative bank or an obstinate regulator can he call the Cavalry – the state Attorneys General who signed onto the settlement? "Conceivably," says Smith. But he's hoping he'll get what he needs without resorting to legal remedies.
Smith is also looking at the AGs – and legal aid groups, consumer protection and community organizations – as sources of market information. The mortgage settlement website will have a spot for tips, complaints and feedback. But the fine print makes it clear already that Smith is not in the business of providing relief to borrowers. I'm doubtful he's going to get much market intelligence this way if there's nothing in it for the borrower or the community organizations assisting homeowners. Heck, the initial response to the foreclosure review claims process has been so poor, the OCC and Fed had to extend the deadline even though this is where borrowers can request real money damages from abusive servicers.
Smith will have to move fast to stay ahead of the news cycle. Judge Elizabeth Magner, a federal bankruptcy judge in Louisiana, recently ordered Wells Fargo to pay $3.1 million in punitive damages for conduct in its servicing business she called "highly reprehensible." Magner analyzed the loan files of more than 20 borrowers in her court as a result of one borrower's horror story and found mistakes in every instance. That lines up with similar results from a study done by the San Francisco Assessor's office that found that 80% of residential mortgage loans that went into foreclosure in San Francisco are missing documents or signatures or otherwise violate the law.
"If litigation against the banks continues and plaintiffs' claims continue to contradict what I'm hearing from bank leadership," Smith says. "I've got to pay attention to it."
Joe Smith seems up for the task he's agreed to. "I've got a lot of stuff I have to enforce. I'm hoping all the time and money the banks are spending on the foreclosure reviews will show up as we do our work."
Hope and change. I'm crossing my fingers again.
Francine McKenna writes the blog re: The Auditors, about the Big Four accounting firms. She worked in consulting, professional services, accounting and financial management for more than 25 years.