All the Devils Are Here [22]
The Jedinaks moved into an aggressive form of hard-money lending. They offered loans—mostly refinancings—to people with bad credit, as long as those people had some equity in their house. “If they have a house, if the owner has a pulse, we’ll give them a loan,” Russell Jedinak told the Orange County Register. Kay Gustafson, a lawyer who briefly worked at Guardian, would later say that the Jedinaks didn’t really care if the borrower couldn’t pay the loan back because they always assumed they could take over the property and sell it. “They were banking on a model of an ever-rising housing market,” she told the Register. In June 1988, Guardian sold the first subprime mortgage-backed securities. Over the next three years, the Jedinaks sold a total of $2.7 billion in securities backed by mortgages made to less-than-creditworthy borrowers, according to the Register. Fannie and Freddie were most decidedly not involved.
By early 1991, federal regulators had forced the Jedinaks out. The Resolution Trust Corporation, which had been established to clean up the second S&L mess, took over the thrift. Standard & Poor’s noted that Guardian’s securities were “plagued by staggering delinquencies.” In 1995, the government fined the Jedinaks $8.5 million, accusing them of using Guardian’s money to fund their lifestyles. They didn’t admit to or deny the charges, and anyway, they’d already started another lender, Quality Mortgage. After the Jedinaks were barred from the business, they sold Quality Mortgage to a company called Amresco, which itself became a fixture of the 1990s subprime lending scene.
Roland Arnall was right behind the Jedinaks. Unlike them, he built businesses that would last—at least, for a while. Arnall got a thrift license in 1979, just as the rules were changing, and he named his thrift Long Beach Savings & Loan. Initially, he built multifamily housing and other real estate developments, but he soon spotted a much better opportunity. Taking note of the exorbitant fees charged by the hard-money guys, he realized he could cut those fees in half and still make plenty of money. In 1988, Long Beach began to use independent brokers, just like Mozilo, to make mortgages to people with impaired credit. By the early 1990s, Long Beach was also selling mortgage-backed securities—which Wall Street was eagerly buying. The company grew exponentially; between 1994 and 1998, Long Beach would almost quintuple the volume of mortgages it originated, to $2.6 billion.
In 1994, Long Beach chucked its thrift charter. The charter had outlived its usefulness. Now that a mortgage originator could sell the loans to Wall Street, there was no particular need to be a deposit-taking institution.
But how could it be that Wall Street was willing to buy and securitize mortgages that Fannie and Freddie wouldn’t touch—mortgages made to people with a far higher chance of defaulting than traditional middle-class homeowners? This was something the founding fathers of mortgage-backed securities had never imagined was possible. Once, when Larry Fink was testifying before Congress in the 1980s, he was asked whether Wall Street might try to securitize risky mortgages. He dismissed the idea out of hand. “I can’t even fathom what kind of quality of mortgage that is, by the way, but if there is such an animal, the marketplace . . . may just price that security out.” By that, he meant that investors would require such a high yield to take on the risk as to make the deal untenable. And yet, less than a decade later, that is exactly what was happening.
Ironically, it was the government itself that had helped make Wall Street skilled at securitizing riskier mortgages—specifically the Resolution Trust Corporation. In cleaning up failed thrifts, the RTC wound up with hundreds of billions of dollars worth of assets—everything from high-rise office buildings to vacant plots of land—that it took from the S&Ls it was closing down. Eventually, the RTC decided that the best way to get rid of those assets was to securitize them and sell them to investors.