Risky loans re­warded, panel is told

The link be­tween mort­gages and se­cu­ri­ties dis­cour­aged due dili­gence, an ex­pert tells fi­nan­cial cri­sis com­mis­sion.

Los Angeles Times - - Business - Marc Lif­sher re­port­ing from sacra­mento marc.lif­sher@latimes.com

Af­ter nearly a year of tak­ing tes­ti­mony from hun­dreds of wit­nesses and study­ing mil­lions of doc­u­ments, the chair­man of the fed­eral Fi­nan­cial Cri­sis In­quiry Com­mis­sion said he be­lieves that cor­rupt and abu­sive sub­prime lend­ing prac­tices were a prime cause of the deep re­ces­sion.

At the end of a fi­nal hear­ing, held Thurs­day in his home town of Sacra­mento, for­mer state Trea­surer Phil An­gelides said those risky mort­gages trig­gered a wave of fore­clo­sures, the fail­ure of ma­jor fi­nan­cial in­sti­tu­tions and the nearly dou­ble-digit un­em­ploy­ment rate.

“What’s been strik­ing is the colos­sal fail­ure of cor­po­rate lead­ers and man­age­ment,” An­gelides said. “They took enor­mous debts and, in the end, led this coun­try over the cliff and the coun­try’s econ­omy with it.”

The com­mis­sion will de­liver a book-length re­port on the causes of the re­ces­sion to Congress by Dec. 15.

Worse, An­gelides said, many ap­prais­ers, real es­tate bro­kers and bankers who tes­ti­fied at re­gional hear­ings in Bak­ers­field, Mi­ami and Las Ve­gas had tried to send warn­ings to high-level ex­ec­u­tives about “just how out of con­trol sub­prime lend­ing had be­gun.”

The rush to profit from turn­ing sub­prime mort­gages into top-rated Wall Street se­cu­ri­ties en­cour­aged loan orig­i­na­tors, in­vest­ment bankers and spec­u­la­tors “to push risk tol­er­ance to its lim­its,” said Kurt Eg­gert, a Chap­man Uni­ver­sity law pro­fes­sor.

The profit mo­tive also dis­cour­aged due-dili­gence ex­perts from blow­ing the whis­tle on faulty un­der­writ­ing, Eg­gert, an ex­pert on preda­tory lend­ing, tes­ti­fied at the fi­nal field hear­ing of the Fi­nan­cial Cri­sis In­quiry Com­mis­sion.

Much of the tes­ti­mony Thurs­day fo­cused on the ex­plo­sion of of­ten com­plex loans that were made with few checks of bor­row­ers’ abil­ity to meet pay­ments. Typ­i­cally, the mort­gages were sub­prime loans, given to buy­ers with lit­tle or no credit.

Com­pa­nies bun­dled those mort­gages and used the pack­ages as the ba­sis for se­cu­ri­ties, a process known as se­cu­ri­ti­za­tion.

That process en­cour­aged bro­kers and len­ders to “make the largest and riski­est loans bor­row­ers will sign” and re­warded in­vest­ment houses by “cre­at­ing the riski­est loan pool that the rat­ing agency would bless with high rat­ings,” Eg­gert said in pre­pared tes­ti­mony.

What’s more, ap­prais­ers got fi­nan­cial in­cen­tives to over­state the value of homes, he said.

“It was easy money,” said Karen J. Mann, pres­i­dent of a Sacra­mento ap­praisal and con­sult­ing com­pany.

Poorly qual­i­fied ap­prais­ers were per­suaded to per­form su­per­fi­cial, “drive-by” val­u­a­tions with “no thought to the col­lat­eral value” of a prop­erty, she said. And the slip­shod work was rarely re­viewed by state bank­ing or mort­gage reg­u­la­tors.

The re­sult, An­gelides said, was that “one of the safest pur­chases tra­di­tion­ally made by fam­i­lies — a home with a mort­gage — be­came the beat­ing heart of a fi­nan­cial mon­ster.”

Sacra­mento’s 12.8% un­em­ploy­ment rate — along with 43% of homes now worth less than the loans on them — con­trasts with the rise in Wall Street’s for­tunes, An­gelides said. Prof­its at sur­viv­ing fi­nan­cial in­sti­tu­tions are up along with ex­ec­u­tive salaries.

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