Former executives of Washington Mutual spent seven hours Tuesday jousting with lawmakers and each other over the blame for the Seattle thrift's collapse 18 months ago.
Former executives of Washington Mutual spent seven hours Tuesday jousting with lawmakers and each other over the blame for the Seattle thrift’s collapse 18 months ago.
Kerry Killinger, in his first public comments on WaMu since being ousted as CEO in September 2008, argued that the leadership team recognized the threat of too much high-risk lending as the housing market weakened, and was making progress in setting things right.
Regulators unfairly and precipitously seized WaMu’s banking operations before the turnaround was complete, he said.
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“Washington Mutual was very well positioned, with its capital and operating plan, to work itself through this financial crisis,” Killinger told a Senate investigatory panel. “Washington Mutual could have and should have been able to be one of those surviving banks.”
However, a group of former WaMu executives responsible for managing the bank’s risks painted a very different picture: a company unable or unwilling to come to grips with basic flaws in its overall business strategy.
Former chief risk officer James Vanasek said he believed mortgage fraud was widespread throughout WaMu — not limited to the few offices cited by the panel.
“In an organization as large as Washington Mutual, with the incentive system … that rewarded growth rather than quality, it was inevitable that certain people would coach borrowers to beat the minimums” needed to qualify for loans, Vanasek said. “It was extremely hard to catch.”
Vanasek said he realized as far back as 2004 that WaMu’s new business plan — to shift its loan mix toward subprime mortgages, option ARMs and other high-risk loans — meant trouble.
The company’s emphasis on loan volume not only opened the door to fraud, he said, but came at exactly the wrong time in the housing-market cycle.
“The practices were fundamentally unsound, and it couldn’t go on forever,” Vanasek told the panel. “We had housing prices increasing much more rapidly than incomes, and you knew that ultimately there was a limit to this.”
The hearing by the Senate Permanent Subcommittee on Investigations focused on how WaMu’s lending practices and alleged lack of effective internal controls allowed billions of dollars in high-risk mortgages of dubious quality to flow into the global business of bundling and selling home loans as securities.
Subcommittee Chairman Sen. Carl Levin, D-Mich., repeatedly cited a string of internal e-mails from February 2007 in which WaMu officials discussed wanting to sell “as many Option ARMs as we possibly can” to Wall Street before investors recognized the looming housing crash.
Option ARM loans started with a low teaser rate and allowed customers to make payments so low that they ended up owing more than the original amount.
The executives also analyzed in detail which subcategories of option ARMs had the fastest-rising delinquency rates. Levin asked David Beck, WaMu’s head of capital markets, if investors were given that data.
Beck acknowledged that they weren’t, but said he didn’t know if the highest-delinquency option ARMs were included in the loans sold off.
“You don’t know, and apparently you don’t care,” Levin shot back. “The trouble is, you should have cared, because there’s an obligation to make sure that your investors know critical information that you know.”
The executives also were asked about persistent reports of mortgage fraud at WaMu loan offices — including one case in which employees admitted fabricating asset statements on loan applications by cutting and pasting information from other borrowers.
Two employees from that office were fired, but Levin said they told his investigators they had been offered other jobs at WaMu.
Two high-volume offices in Southern California were the subject of multiple internal probes between 2004 and 2008, including a 2005 inquiry that found 42 percent of sampled loans “contained suspect activity or fraud.”
Levin asked why the people in charge of those offices hadn’t been fired, but instead took part in sales-reward trips to places such as Hawaii and the Bahamas.
“Any time there was fraud we took it very seriously,” said David Schneider, head of WaMu’s home-loans unit from 2005 to 2008.
“No,” Levin replied. “When there was fraud you rewarded the people involved with trips.”
Later, during a discussion of fraud in WaMu’s “stated-income” loans — including a self-described “sign designer” who claimed to make $34,000 a month — Killinger said: “I’m certainly very disappointed to think about my customers lying to me. But that’s fraud, and it shouldn’t happen.”
But catching such deceit was difficult, Vanasek said, because of WaMu’s sales culture — summed up by the slogan “The Power of Yes.”
Soon after joining WaMu in September 1999, Vanasek said, he met with three groups of underwriters — the people charged with making sure loan applications met WaMu’s standards — and asked them if they could make their decisions stick.
“The answer was universally ‘no,’ because the loans were always escalated to a higher-level marketing manager who would ultimately approve,” he said. “That was part of the environment.”
Ronald Cathcart, Vanasek’s successor as chief enterprise risk officer, said that as WaMu’s financial condition deteriorated in late 2007 and early 2008 he was increasingly excluded from senior executive meetings. He began to worry that regulators and board members weren’t getting the full picture of WaMu’s mounting losses.
By February 2008, Cathcart said, “I had been so completely marginalized that I initiated a meeting with a director where I advised … that I was no longer able to discharge my responsibilities.” Killinger fired Cathcart shortly thereafter.
One key issue in dispute was whether WaMu was responding proactively when it changed its business plans in response to the housing downturn, or whether the downturn forced the company’s hand.
Steve Rotella, WaMu’s chief operating officer, said that when he came to WaMu in January 2005 he realized that its rapid growth in the late 1990s and early 2000s — growth managed by Killinger, who was sitting one chair away — had saddled the thrift with several serious issues.
Those included over-concentration in real-estate loans, especially in California and Florida, too-fast growth in high-risk loans and outdated and patchwork management systems.
Rotella said his attention was soon drawn to the continuing troubles at Long Beach Mortgage, the WaMu unit specializing in subprime loans to borrowers with poor credit. He said he responded by replacing management, bringing Long Beach closer under WaMu’s umbrella, and eventually — once the market for subprime loans had dried up — closing down the unit.
Killinger added that he was trying to diversify WaMu away from over-reliance on mortgages, noting that total home-loan volume began declining in late 2005. The high-risk strategy never was fully executed, he said.
But as Levin pointed out, even though the dollar volume of WaMu’s home-loan business was falling, subprime loans, option ARMs and other high-risk loans continued to make up a big slice of the business until late 2007.
“You did execute on it for about a year, year and a half,” he told Killinger, with something of the tone of a school principal lecturing a naughty pupil. “You were trying to execute it until the market changed.”
Drew DeSilver: 206-464-3145 or email@example.com