Mortgage Meltdown Results in ‘Tranche Warfare’
A default on debt tied to Boston’s John Hancock Tower highlights the kind of legal fights that will likely break out among investors who have varying rights to repayment after property foreclosures.
When mortgages are pooled and securitized, the investors purchase bonds that are grouped by payment priority known as tranches. Those with the lowest risk are first in line for payment if some of the receivables go into default. Once they are paid, those at the next risk level have a right to payment, and so on down the line in a waterfall of cascading payments.
In the Hancock Tower dispute, investors who believe they will be in the money because of more senior rights to repayment are seeking an immediate foreclosure, the Wall Street Journal reports (sub. req.). Those with lesser rights believe that declining real estate values mean they won’t get paid after foreclosure. This group is instead urging extended time for repayment of the debt, the story says.
The securitization agreement anticipated a fight over foreclosure decisions, and provided that the most junior creditor still in the money has the right to decide whether to foreclose. But the creditors are arguing over which one meets the agreement’s definition of “controlling holder” with the right to make the foreclosure decision, the story says.
John Zizzo, a real-estate lawyer at Cadwalader, Wickersham & Taft, told the Wall Street Journal that the mortgage crisis is bringing the legal issues to the fore.
“Tranche warfare is starting,” he said. “It has never been tested before this current market meltdown.”
