All the Devils Are Here [86]
Jon Daurio, the executive who had worked for Arnall at Long Beach and then went on to form several other subprime companies, recalls a meeting in 2003 with some representatives of Bear Stearns. “How can you increase your volume?” the Bear Stearns bankers asked him. “We said, tongue in cheek, ‘Well, we can do a 100 percent loan-to-value stated-income loan for 580 FICO scores!” Translated, that meant making loans with no down payment and no income verification to borrowers with very low credit scores. Daurio continued: “They said, ‘Okay!’ We said, ‘No problem! Let’s do this all day!’ And we did it, in massive quantities.”
Perhaps the most dangerous manifestation of Wall Street’s demands was something called a payment option adjustable-rate mortgage, or a pay option ARM. Pay option ARMs gave consumers the right to choose whatever rate they wanted at the start, from a very low teaser rate to a higher rate that more resembled a thirty-year fixed mortgage. The teaser rate, which most people chose, was so low that it often didn’t include all the interest, much less principal, meaning that additional interest was accumulating even as the borrower was paying the mortgage. Most pay option ARMs had reset triggers, so that if the borrower’s loan balance reached, say, 115 percent of the original amount, he or she would automatically have to begin paying the full rate. Because the amount due each month could escalate so suddenly and dramatically, the phrase “payment shock” became an unwelcome, but very common, feature of pay option ARMs.
Wall Street loved pay option ARMs. So Ameriquest, New Century, WaMu, all the big subprime lenders began trafficking in them. They were extremely lucrative. WaMu, according to its internal presentations, could make more than five times the profit selling an option ARM to Wall Street than a prime fixed-rate loan.
The only party that was leery of them, in fact, were the customers—and rightfully so. Their terms were so pernicious that they wound up crushing hundreds of thousands of borrowers even before the bubble had ended. In the fall of 2003, WaMu held a series of focus groups to figure out how to sell more pay option ARMs. According to a summary of the focus groups, “Very few people simply walk through the door and ask” for an option ARM. In fact, the summary continued, most borrowers said that pay option ARMS were a “moderately or very bad concept.” They also said things like, “It’s really scary to me what’s going to happen in five years” and “I have this feeling of impending doom.” Most customers said that they “felt good being able to pay a portion of the principal each month because it seemed to be the right thing to do.”
But customers could be persuaded to take a pay option ARM with the right sales pitch. WaMu, for instance, noted that if the salesperson told the borrower that “price appreciation would likely overcome any negative amortization,” they often came around. Pay option ARMs, in other words, were sold, not bought. “Participants generally chose an option ARM because it was recommended to them,” the WaMu summary said. (A Federal Reserve Bank of Atlanta study later correlated financial literacy to mortgage delinquencies, implying that unsophisticated consumers were the ones most likely to fall for this kind of pitch.)
Later, after everything had come to an end, an Ameriquest loan officer named Christopher Warren—who, like Bob, worked in the Sacramento office—posted a rambling confession online about his years in the mortgage business. Of his three years at Ameriquest, where he said he started as a teenager, he wrote: “[M]y managers and handlers taught me the ins and outs of mortgage fraud, drugs, sex, and money, money and more