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Voluntary Foreclosure Procedure Reforms May Prevent Future Crisis

It may seem like a stretch, but insights from Zacks Investment Research indicate voluntary compliance to a set of rules could be even more effective than mandatory foreclosure laws.

If properly implemented, corrective measures to the foreclosure procedure such as the mortgage servicing practices designed to prevent unlawful foreclosure practices adapted by a handful of banks in agreement with New York's Department of Financial Services could have a positive effect on the overall housing market.

The housing market “would surely” be saved from yet another foreclosure crisis, analysts wrote, if servicers at large adopted the same measures.

Morgan Stanley is the second largest bank after Goldman Sachs Group Inc. to adopt the DFS set of foreclosure procedure standards, according to a New York Department of Financial Services statement. Ocwen Financial and Litton Loan Servicing had previously agreed to these standards along with Goldman Sachs Bank. Mortgage servicers American Home Mortgage Servicing Inc., Vericrest Financial Inc. and Saxon Mortgage Services Inc. (Morgan Stanley's mortgage servicing unit sold to Ocwen Financial Corp. in October) joined in November.

The agreement is not expected to reduce the probability of investigations and legal actions against these companies. Nonetheless, Zacks analysts described the move as “definitely good news” given that the industry continues to suffer from volatile economic conditions.

Borrower benefits from the mortgage servicing deal with Morgan Stanley are significant. It eliminates the so-called robo-signing practices by providing a single point of contact, ends the practice of referring a borrower to foreclosure while the request is for a loan modification, improves the evaluation of a borrower’s credentials, reviews how fees are charged, upgrades staff-training programs and supervises foreclosure lawyers.

Since October 2010, when JPMorgan Chase, Bank of America and Ally Finance Inc. temporarily suspended foreclosures across the country due to the robo-signing foreclosure paperwork scandal, which was followed by legal action taken against mortgage servicers by the U.S. bank regulators and state attorneys general, there has been a new focus on possible changes to foreclosure procedures.

It is the reason why these insiders anticipate this settlement deal of Morgan Stanley “will act as a guideline for other mortgage providers” and help set a new standard for processing loans and foreclosures and in the process help homeowners protect their properties from wrongly enforced foreclosures.

Currently Zacks has given a short-term “hold” rating to Morgan Stanley. The prominent investment bank is one of many that have been featured extensively in the media reports during this crisis as both the industry and the public opinion contemplate how the overall housing, recession and litigation related stress is affecting banks large and small. The saga continues.

In the case of Morgan Stanley, Kyros & Pressly LLP, a Boston-based law firm that specializes in shareholder and securities fraud class actions, is calling upon Morgan Stanley discretionary account holders who have lost over $750,000 in the stock market to contact the law firm—which promises it will inquire whether they are victims of fraud and conflict of interest and if so help them recover related losses.

The law firm explains in a webpage that it is being alleged that when Morgan Stanley financial advisors purchased the stock of companies that had an investment banking relationship with the investment bank, the fiduciary advisor was unable to freely sell a troubled stock, or advise the client to do so because of “Morgan Stanley’s internal order entry system” that prevented the sale of these stocks by freezing attempts to conduct a transaction was automatically frozen by the operating system.

As banks try to manage their assets and losses, the rest of the country is concerned about their ability to survive.

Catering to that need the Federal Reserve recently announced it will conduct a third round of stress tests to determine if the country’s top banks can withstand a downturn in the economy and the exposure to the European debt crisis.

In the coming month the central bank plans to conduct the stress tests whose results will be released in March.

By Jan. 9 these banks must submit the information to the Fed and show they have enough capital reserves to survive projected loan losses from another recession.

If in the spring of 2009 when the Fed conducted its first stress tests only the 19 largest U.S. banks participated—following regulation passed in 2010 that requires the participation of banks with at least $50 billion in assets—the number has been expanded to 31 banks.

Other changes will apply in 2012. Differently from the 2011 test it will post firm-by-firm results.

The Fed’s goal is to test the banks’ ability to cope with the expected 2011 yearend recession, an even weaker economy in the next two years, and unemployment rates that may be even higher than the current 9%—all alongside exposure to the effect of the European debt crisis.

The Fed will conduct a supervisory stress test using internally developed models to generate loss estimates and post-stress capital ratios for the 19 firms that participated in the 2011 stress test. The six largest firms also will be required to estimate potential losses stemming from a hypothetical global market shock based on market price movements seen during the second half of 2008, “a time of significant volatility.”

These capital planning requirements represent efforts to comply with the Fed’s Dodd-Frank Wall Street Reform and Consumer Protection Act “obligations to impose enhanced capital and risk-management standards on large financial firms.”