All the Devils Are Here [132]
Prentiss Cox had not been among the state officials pleased by the Ameriquest settlement. Yes, it was likely to put an end to the worst of Ameriquest’s lending abuses, but Cox didn’t believe for a second that the settlement was going to slow down the seamy practices that permeated the subprime mortgage industry. These tactics were the only way these companies knew how to do business.
He was right. It was in almost exactly the same time frame as the Ameriquest settlement—early 2006—that the subprime mortgage business went truly mad. Or as Lisa Madigan, the Illinois attorney general, later told Congress, it was “the moment when we began to see the underwriting practices of mortgage lenders erode at a disturbingly accelerated pace.”
According to an SEC report, those 2/28 mortgages, whose rate shot higher after two years, made up 31 percent of subprime mortgages in 1999, and almost 69 percent in 2006. Loans with a combination of incomplete documentation—so-called liar loans—and low or no down payment rose from almost nothing in 2001 to almost 20 percent of subprime originations by the end of 2006, according to a working paper by the Federal Reserve Bank of Atlanta. Overall, nontraditional mortgages like pay option ARMS and other subprime mortgages grew from almost nothing to almost half the total volume of mortgage originations in 2006, according to Susan Wachter, a professor of financial management at the Wharton School.
One former subprime executive says that his “aha” moment came in late 2005, when an underwriter at his company said, “We need to have a policy for no-doc loans when there’s a doc in the file.” What the underwriter meant was that the broker had been stupid enough to include a W-2 showing that a borrower whose income was supposed to be, say, $90,000 only made $40,000. “The decision,” this executive says, “was to send the file back to the broker and tell them to ‘clean it up.’ We knew if we declined the loan, the broker would just take it to the guy down the street.”
Robert Simpson, a mortgage industry veteran whose company, IMARC, investigates the reasons that loans fail, remembers reviewing a stated-income loan where the woman’s occupation was “ferret farmer.” Her stated income: $15,000 a month. In reality, she made $1,500 a month and worked in retail. “The loan officer decided to see if he could get away with it,” Simpson says.
“You see loans like that, and it tells you two things: the loans are going to go bad, and any system that makes these loans is broken.”
For brokers who believed in old-fashioned underwriting, it was a deeply disconcerting time—a little like trying to remain a disciplined value investor at the height of the Internet bubble. You felt as if you were stuck in mud while the world was passing you by. Eventually, you rationalize that it all must be okay because, after all, it wasn’t the brokers who approved the loans. Surely, the originators know what they’re doing.
One such person was Debbie Killian. A mortgage broker in Danbury, Connecticut, she had housing in her blood: her parents had owned a real estate company, and it was what she had done most of her career. In 1996, she and her husband founded a small local company, Charter Oak Lending Group. She watched the growing madness with distaste, but she also put a handful of her clients into subprime loans. Subprimes were the loans originators were peddling. And they were the loans that many borrowers wanted. Her business grew during the bubble.
“At one time I had fifty-seven lenders all competing for our business,” she recalled in an e-mail, describing the bubble years from her perspective:
Every one of them would ask the same thing: “Lemme take a look at whatcha working on? Anything I can close?” Imagine all the small broker offices like mine, with all these account executives coming in every day looking for business. They would bring cookies, sandwich platters, candy, all kinds of little chotskies.
Many account executives were good, honest, ethical people who were truly just trying to do their job. But there