All the Devils Are Here [185]
Later that day, S&P held a conference call for investors to discuss the pending downgrades. Most people were fairly polite. But one man on that conference call, a hedge fund manager named Steve Eisman, who had taken a big short position in mortgage-backed securities, was not.
“Yeah, hi, I’d like to know why now?” Eisman began. “I mean, the news has been out on subprime now for many, many months. The delinquencies have been a disaster now for many, many months. Your ratings have been called into question for many, many months. I’d like to know why you’re making this move today when you—And why didn’t you do this many, many months ago?” S&P’s Tom Warrack, a managing director in the RMBS group, tried to break in. “We took action as soon as possible given the information at hand...” But Eisman wouldn’t be stopped. “I mean, I track this market every single day. The performance has been a disaster now for several months. I mean, it can’t be that all of a sudden, the performance has reached a level where you’ve woken up. I’d like to understand why now, when you could’ve made this move many, many months ago. I mean, the paper just deteriorates every single month like clockwork. I mean, you need to have a better answer than the one you just gave.”
The next day, Mabel Yu, an analyst at Vanguard, told Mary Elizabeth Brennan at Moody’s that when Eisman started talking, “my phone was on mute but I jumped up and down and clapped my hands and screamed. He was the only one to say it, but all the investors were all feeling the same way.” Yu went on to tell Brennan that Vanguard had stopped buying mortgage-backed securities in early 2006 because they were less and less comfortable with the ratings.
Although S&P and Moody’s wouldn’t actually begin downgrading CDOs until October, the party effectively ended that day in July. “[P] ut today in your calendar,” wrote Robert Morelli, who was in charge of the CDO business at UBS, to colleagues. When he was later asked what he meant by that, he explained, “to the day was essentially the beginning of the end of the CDO business.”
A few weeks later, Moody’s Eric Kolchinsky forwarded some UBS research to colleagues. It showed that in a sample of 111 mezzanine asset-backed securities CDOs, the triple-B tranches could expect losses of 65 percent and that the losses would extend into the triple-A tranches. Kolchinsky quoted the UBS report to his colleagues: “This is horrible from a ratings and risk management point of view; perhaps the biggest credit risk management failure ever,” it said.
On July 24, 2007, two weeks after the rating agencies made their first big downgrade move and one week before the bankruptcy of the Bear Stearns hedge funds, Countrywide announced its results for the first half of the year. In a last, desperate grab for market share, Countrywide had waited until March 2007 to stop offering “piggyback” loans that allowed borrowers to purchase a home with no money down. As other, weaker correspondent lenders—those that made loans themselves but then sold their loans to bigger lenders—began to go under, Countrywide ramped up its business of buying loans. Since Countrywide was no longer entering into agreements to sell its loans before they were made or purchased, the company was bearing all the risk that the market would crack on its own books.
The rot Mozilo had long insisted wouldn’t infect Countrywide had started to spread. Although the company announced a profitable quarter, investors were shocked to hear that its earnings had declined for the third quarter in a row on a year over year basis—and that delinquency rates on Countrywide’s subprime mortgages had more than doubled, to 23.7 percent, from less than 10 percent at the end of March. Delinquencies in prime mortgages—prime mortgages—also spiked. And the company revealed that it was taking several other hits, including $417