This headline doesn’t mean what they think it does

Fraud Seen as a Driver In Wave of Foreclosures – WSJ.com:

ATLANTA — Skyrocketing foreclosures are a testament to how easy it was to borrow from mortgage lenders in recent years. It may also have been easy to steal from them, to judge from a multimillion-dollar fraud scheme that federal prosecutors unraveled here in Atlanta. The criminals obtained $6.8 million in mortgages from Bear Stearns Cos., including a $1.8 million mortgage to Calvin Wright, a New Yorker who told the investment bank that he and his wife earned more than $50,000 a month as the top officers of a marketing firm. Mr. Wright submitted statements showing assets of $3 million, a federal indictment alleged.

The article focuses on what is nominally fraud by borrowers, but along the way it turns out that appraisers and mortgage brokers were keu members of this particular scheme, and the bank lending the money thought “due diligence” was a bad word.

I know I’m naive, but the whole idea of big no-verification loans seems to have been screaming out as an adverse-selection issue from the first day it was conceived. Sure, the increased fees and interest rate will, statistically speaking, cover you for the increased risk of default. But anyone who could verify their income would be able to save hundreds or even thousands of dollars a month by doing so. So the pool you get is way skewed toward fraud. (And as you increase the cost differential to make your expected-value numbers work in the face of increasing defaults, the skew only gets worse.)

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