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Why Banks are Fighting Mortgage Cram-Downs |
by S. Wade Hansen
Obama Pushing for Bankruptcy Cram-Downs
President Barack Obama and his administration have pledged $275 billion in aid and stimulus to try and stop home prices from falling farther and farther into the abyss. However, the price tag could become significantly steeper for banks and other financial institutions if the Obama administration can push bankruptcy cram-downs through Congress. 
What is a Mortgage Cram-Down?
A mortgage cram-down is an action that reduces the principal amount owed on a mortgage. Now, if you are wondering why the term "cram-down" seems to have such negative connotations, it is because the cram-down---or reduction in principal---is usually done against the mortgage holder's wishes.
Under current law, this isn't possible, but the Obama administration is hoping Congress will change all of that. To do so, Congress will have to pass law stating it is okay for bankruptcy judges to reduce mortgage principal amounts for individuals who file for bankruptcy.
Why are Banks and Financial Institutions Fighting Cram-Downs?
Banks like Citigroup (NYSE: C), JPMorgan Chase (NYSE: JPM) and Wells Fargo (NYSE: WFC) are fighting cram-downs because cram-downs could wreak havoc on their balance sheets. [Learn more about Balance Sheets and how to use them in your investing here.]
You see, when a bank issues a mortgage, it places the value of that mortgage on its balance sheet as an asset because it fully expects to get that money back. However, if the principal amount of the mortgage is crammed down, the bank is suddenly left with fewer assets than it thought it had---which could turn a Zombie Bank into a dead, insolvent bank.
If this happens, watch for the value of financial stocks to continue their free-fall.
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