If you had never heard of MERS before today, don’t worry, you weren’t missing much. Until now. MERS stands for Mortgage Electronic Registration System, and it is about to become famous, because this system is supposedly the mortgage owner for 60% of U.S. mortgages issued since 1999, most of which have been repackaged and resold around the world as Mortgage Backed Securities.

I said “supposedly”, because all 50 U.S. State Attorneys General and all State Supreme Courts that have looked at the issue have found that MERS’ alleged ownership of mortgages is legally questionable due to a break in the chain of conveyance of the underlying IOU note and/or that MERS lacks standing in foreclosure proceedings. The issue has been steadily escalating over the past week, and the dam appears to have finally broken within the last 24 hours: JPMorgan Chase shook the banking world by withdrawing from MERS.

AP: JPMorgan Chase’s CEO says the bank has stopped using the electronic mortgage tracking system used by major financial institutions.

Lawyers have argued in court proceedings that the system is unable to accurately prove ownership of mortgages.

JPMorgan Chase & Co. and other banks have suspended some foreclosures following allegations of paperwork problems in thousands of cases.

And why should we care? Quoting from the WSJ blog:

In the worst case, the issues become a “systemic problem” that grinds the mortgage market to a halt and title insurers refuse to insure mortgages involving existing homes. In other words, housing Armageddon. “It would be devastating for the resale market if this robo-signer issue spiraled out of control,” Mr. Watson says.

In other words, in the worst case two things happen:

1. Fewer buyers for resales since title on foreclosed properties can’t be assured, paving the way for a second leg down in housing price depreciation

2. No end in sight for the balance sheet problems of global banks (via the step-down deterioration of the quality of their MBS holdings and potential liabilities of hundreds of billions to purchasers of MBS via clawback provisions)

The issue is very serious for two reasons: first, the legal flaws in the chain of assignment of mortgages in the securitization assembly line appear to be very widespread and severe:

I believe that a reasonable examination of the facts shows that the documents were not prepared incorrectly due to mistake, but rather due to a strategic choice.

How can you look at this issue in detail and not wonder why the servicers chose the routes they took? If it was really just a bunch of technical mistakes, how come they never did anything to fix the problem, even though they have been facing legal challenge from a growing number of borrowers?

Surely, someone at the servicer knew that submitting unverified affidavits could create legal problems The deposition of GMAC’s robo-signor Jeffrey Stephan, which seemed to break the case open in September, was actually from 2009. GMAC was on notice of the problem with unverified affidavits for over a year and did nothing about it – in fact they submitted thousands more with the same problems, even after Mr. Stephan admitted in court that he repeatedly submitted false affidavits to court. It was their business to submit them on an unverified basis, it was not a technical mistake.

Having witnessed a servicer and its counsel lie repeatedly in a court where I was testifying, I can say with confidence that the incorrect statements they made were not mistakes. I wondered why they spent so much money to dispute our claim that the form of the note and mortgage were not in the proper form. If the servicer had just made a technical error, why didn’t they just go correct it and re-submit the foreclosure in the name of the party actually holding title (rather than the people they wanted to be holding the title)?

They submitted the documents to cover earlier mistakes in the origination process. If it is true that the servicing “mistakes” are correlated to the number of loans with conveyance problems, then it appears that the conveyance problem could be quite large.

Second, county court judges – who are also political animals – do not appear to be in any mood to do bankers any favours:

In a ruling late last month, Judge Powers said that GMAC, despite its expensive legal talent and the fact that it got “a second bite of the apple” by filing amended foreclosure papers, still could not get this eviction right.

Even the amended documents did not bother to include the actual street address of the property it was trying to seize, reason enough, the judge wrote, to reject the request for immediate foreclosure without a trial.

But Judge Powers went further than that, saying that GMAC had been admonished in a Florida court for using robo-signers four years ago but had persisted. “It is well past the time for such practices to end,” he wrote, adding that GMAC had acted “in bad faith” by submitting Mr. Stephan’s material:

“Filing such a document without significant regard for its accuracy, which the court in ordinary circumstances may never be able to investigate or otherwise verify, is a serious and troubling matter.”

Not surprisingly, ever since the magnitude of the problems surfaced in 2009, the banking lobby tried to quietly pass an ex post facto “legal fix” through Congress, with the matter coming to a head just before the break for the upcoming elections. The idea was to force judges to accept out of state notarizations of electronic records. Obviously the banking lobby’s opponents have been improving their game, because the issue went viral just in time to make it politically suicidal for President Obama to sign the bill into law. He effectively vetoed it, and now the Hounds of Hell have been loosened upon the U.S. banking system. No one knows exactly what is coming next, but it won’t be pretty.

A new acute phase of the crisis is just beginning, and in Chinese the word “crisis” is the same word for “opportunity”. Here’s to hoping that President Obama is not merely posturing with an eye to the elections, and that he will yet discover the Theodore Roosevelt that has been hiding inside him ever since he was elected on the back of his promise that “Yes, We Can” (anyone remember it ?!).

If this is the prelude to another leg down in US housing and another run on the U.S. banking system, the resulting earthquake could bring down the whole house of cards of the Australian, Canadian, Chinese and U.K. property bubbles. If that happens, the rear-view mirror will reveal the recent rise in equities and commodities as the final blow-off top before the cliff dive.