salad shooter

I get it — but I don't

| Back in the old days — when Jimmy Stewart worked at the Bailey Building & Loan Association in Bedford Falls, for example — mortgages were easy to understand: the bank lent you money and held a lien on your house until you paid the loan back.

Nowadays, it doesn't work that way, or so they say. Holding a mortgage carries with it some risk that it might not be paid back, so the boy-geniuses on Wall Street figured out that if you took the individual mortages and sliced and diced them into pieces you could mix the pieces together in a giant chopped mortage salad and let people hold a serving of mortgage salad — a mortgage-backed security — thereby spreading out the risk. Sure, some mortgages might fail, the reasoning went, but those bad slices would be a small part of the salad. At worst it might make you slightly ill, not kill you.

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Mortage-backed securities — a salad of chopped mortgages

That part I understand. It's a bit like health insurance, where you put lots of people together to spread the risk of catastrophic illness over many people; everybody pays a little to avoid the financial ruin of individuals in the group.

I was reminded of all this by an article in the New York Times (Mar 30, 2009) about the new problem of "bank walkaways" in which banks abandon houses that have fallen into foreclosure rather than taking them over and trying to resell them, albeit at a loss. A contributing factor to this phenomenon was said to be the slicing and dicing of mortgages:

The way mortgages are bundled and resold, it can be enormously time-consuming just trying to determine what company holds the loan on a property thought to be in foreclosure. In Ms. James's case [illustrative example], the company that was most recently servicing her loan is now defunct. Its parent company filed for bankruptcy and dissolved. And the original bank that sold her the loan said it could not find a record of it.

Now this is the part I don't get. Even if the mortgage has been sliced and diced I don't send my monthly payment to 50 different people who each hold a tranche of my mortgage; I send it to one address. What happens to my money? Surely the company that receives the payment doesn't get to keep it all. Where do they send it? If mortgages get sliced and diced, how do they ever get paid off? Someone, somewhere, must know where all the pieces went. Or so you'd think.

Last updated on Apr 13, 2018

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