All the Devils Are Here [159]
Rosner and Mason have also pondered some larger questions. If housing is such an important component of U.S. social policy, and the funding mechanism for housing has become this shaky pyramid of debt, does it really make sense to have the housing market at the mercy of this hugely unstable funding? And inasmuch as investors around the world have sunk their money into U.S. mortgage-backed securities, what are the implications if that market starts to crack? “Perhaps of greater concern is the reputational risk posed to the U.S. capital markets,” they write.
Scene 5: February 7, 2007. New Century files what’s called an 8-K, a document that conveys important news that can’t wait until the next quarter’s results. The headline is stark: “New Century Financial Corporation to Restate Financial Statements for the Quarters Ended March 31, June 30 and September 30, 2006.” Part of the reason for the restatement, the company says, is to “correct errors” in the way it has accounted for its many repurchase requests. The stock, which had hit its high of $51.22 just a few months earlier, plunges 36 percent in one day. By March, the company admits that it is unable to file any financial reports. By then, its repurchase claims have risen to a staggering $8.4 billion. The stock falls to about a dollar. By April, New Century is bankrupt. Never once, during the entire housing bubble, did the company report a quarterly loss before filing for bankruptcy.
By the end of 2006, anyone could have found his or her own data points to know that the subprime market was in trouble. The clues were everywhere. The staggering rise in home appreciation, which in some parts of the country had averaged 10 to 15 percent a year, was slowing down. In places like Arizona, California, Florida—the states where the housing bubble had been most pronounced—housing prices were already declining. Subprime borrowers with option ARMs, the ones who were counting on an increase in their home equity to refinance, were suddenly out of luck. With their homes no longer increasing in value, they had no way to refinance. Foreclosures were nearly double what they had been three years earlier. Delinquencies: up. Stated-income loan defaults: up. And of course those early payment defaults—the ones that signaled just how reckless the subprime originators had become—were way up. Subprime originators had created the conditions for “the perfect storm,” said John Taylor at that OTS housing symposium.
Sheila Bair, who had been sworn in as the new chair of the FDIC that summer, was shocked to discover how far underwriting standards had fallen in the four years since she left the government. Back in 2002, when she had been assistant secretary of the Treasury for financial institutions, there had been problems with predatory lending, for sure, but nothing like this. Nothing even close. One of the first things Bair did upon taking office was order up a database that included every securitized subprime mortgage. It was immediately obvious when she looked at it that there was going to be a massive problem when the ARMs reset.
Meanwhile, a risk manager at one of the big Wall Street firms started noticing something unprecedented: people were walking away from their homes. “Historically,” this risk manager said, “people stopped paying their credit cards first, then their cars, and only then their homes. This time, people with $50,000 cars and $300,000 mortgages would get in their cars and drive away from their homes.”
The newspapers offered further evidence of the looming problems. All through the fall, the business press wrote article after article about the rise in foreclosures and the troubles suddenly hitting the subprime companies. “Payments on Adjustable Loans Hit Overstretched Borrowers,” declared the