Markets at Work

In some cases, the principal on loans is already being reduced by players in the market without government assistance or encouragement. For sure, there are many scams out there claiming to reduce payments and principal, but there are some legitimate negotiations taking place. Hedge funds have bought speculative mortgages and they have approached borrowers in order to make a deal.

This recent article in Bloomberg gives an example of a hedge fund that purchased a mortgage for 60 cents on the market and renegotiated the terms of the loan. The hedge funds have worked proactively to protect their investments.

"Greenberg says she warmed to NAD’s proposal after Hussion explained that the value of the house had fallen well below the amount of the loan, and that it was in the company’s interest to head off a default by reworking mortgages like hers."

A relatively small percentage of "under water" mortgages have been renegotiated so far by the free market. The Obama administration has pledged support for changes in bankruptcy law that would allow judges to "cramdown" and force changes in the terms of mortgages. This idea raises a few questions in my mind

1. Are there in fact too few reductions of principal taking places in the market? In some cases it might be most efficient to foreclose and sell the house to another investor.
   
2. What will the long-term effects of changing bankruptcy law to allow "cramdowns" on mortgages? I suspect higher interest rates and worse terms for home buyers in the future.
3. What changes in regulation could make the market-based renegotiation of mortages more efficient?