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Book Review: Chain of Blame. How Wall St. Caused the Mortgage and Credit Crisis

Not To Blame — Joni Mitchell

Here are a few fragmented excerpts on Countrywide’s thirst for quantity and increasing lack of quality.

As for Countrywide being a great place to work — as Jonas Roth
(the head of the trading desk at Countrywide) and others might testify
to — Betsy Bayer (VP of compliance at Countrywide) wasn’t so sure. “It
was a sweatshop,” she said. “They had these posters all over the
office. They were ‘work/life balance’ posters, like they were concerned
about our well being. What a load of Bullsh*t. It was a sweatshop.”
Even though many of Mozilo’s senior executives had been with the
company 20 years or more, the Countrywide she worked for had a high
turnover rate where many employees would leave before two years was
out. “That’s a fact that never gets published,” she said.

Managing wholesale compliance, she — and others — learned the
idea was to produce as many loans as humanly possible. Bayer, being the
company’s “rules person” for loans brought in through its broker
network, didn’t think compliance was being taken all that seriously by
Mozilo and his senior management.

Mozilo, for his thirst for market share, had followed Arnall’s
company (Ameriquest and Argent) into the business of originating
stated-income loans (where home buyers state their incomes and the
lender believes them as long as their FICO score checks out).
Stated-income loans came in two types: prime and subprime. But when it
came to the “A” paper credit quality stated-income loans, Fannie Mae
and Freddie Mac (for the most part) wouldn’t touch them because of the
lack underwriting. Countrywide also followed the crowd in originating
another popular loan of the 2004 to 2007 period: payment option ARMs
(adjustable-rate mortgages) (POAs), a product where the consumer was
offered four different payment plans each month. One of these payments
artificially low by delaying large interest payments each month, thus
adding new debt onto the loan amount. It was what some lenders called
an “I’ll worry about it tomorrow” option. By 2006 Countrywide was the
largest pay option ARM lender in the nation, originating $11 billion
worth a quarter.

“When you go for quantity, quality is what you give up,” said
Bayer. “To get volume, you lose quality — that’s what they did.” When
she arrived in 2004, the company’s compliance department was in what
she called “complete turmoil.” When pressed further, she said
Countrywide wasn’t doing its homework when it came to underwriting.
“They were relaxing credit guidelines.”

She said that inside the company compliance staffers had a word
for stated-income loans: “liar loans.” Bayer said the only ones in the
company who called them that were members of the compliance staff. No
one in the firm used the phrase, at least not within earshot of the
production chiefs.

Matt Padilla, from the OC Register, has a book out on the mortgage mess. It was co-written with Paul Moulo of National Mortgage News, but I can tell from the writing and the content that Matt did the majority of the work for book. I had previously mentioned the book in blog post and quite a bit on the forums, and since then many other MSM sources have written some stellar reviews. Many of the reviews are mentioned on the book’s website, as well as my hat tip to the book. Also, the WSJ recently reviewed it along with Mark Zandi’s new book. Now that I have finished the book, I can finally do my own review.

I promised Matt that I would be honest on what I thought about the book, and I have to say… I loved it. I am not sure what I liked best about the book; whether it was the both deep and broad historical perspectives it covered, or the way that that he made some of the more complex issues of the mortgage world easy to understand. The book’s central theme is Angelo “The Tan Man” Mozilo, and the rise and fall of Countrywide. However, it goes into detail of the beginning of subprime and Peter Cugno’s rise in Beneficial Finance in the 60s. Back then they would loan people a couple hundred bucks, and if you didn’t pay, Peter would be at your office asking where his payment is. Back then loan officers, like Peter, not only orginated the loan, but they serviced it and collected on it. That and they wouldn’t lend money on a house above 60% LTV.

Matt goes into detail of the failed subprime shops of the late 90s, during the Russian currency crisis and Long Term Capital Management’s failure, and how they were using “gain on sale” accounting rules, that ultimately lead to their failure. New Century was around then too, but they were bailed out by US Bank. US Bank made a good bet then, and it’s a good thing no one, like US Bank, was willing to make a bet like that in this bubble. He also goes into how Countrywide survived that time, and how the Tan Man had some choice expletives about the poor performance of those years. It comes to light, how the Tan Man liked to drop the f-bomb, as any true Bronx native would, and how he was not shy to tell people how he felt about his competition. About this time is when the Tan Man decided to expand the use of mortgage brokers. He touches on the death of the banks keeping loans on their books during the S&L crisis, and how this became the birth of the use of mortgage brokers. He brings to light some of the early subprime shops of the early 90s, and how many people from that era became some of the leaders of what subprime was to become. He has an entire chapter on Roland Arnall of Ameriquest and Argent, and how the Tan Man was forced to compete with him. He shows how Arnall was the opposite of Mozilo, in trying his best to remain under the radar.

REITs? They’re like pigs with lipstick. – Angelo Mozilo. One of the greatest things about this book, is that it separates the difference between a banking institution (like WAMU), and a non-banking institution (like New Century). One of the main reasons for the numerous failures of non-banking institutions is the fact that they were set up to be a REIT. The problem with this is that a REIT must pay out most of all of its profits in the form of dividends, and not save any of their profits for the bad times. Ironically, they drank their own Kool-Aid, in not saving for the future like most of their borrowers. Friedman Billings Ramsey (FBR) was main player preacher of converting these non-banking institutions into REITs, and taking them public or converting them if they were public. Many of the non-banking institutions FBR convinced conned into converting into a REIT, has gone BK, including New Century. Or, one could say that in a Ponzi scheme like industry, when there is no more money, they also have the least amount of liability, and can and will be shut down very quickly. This is where it leads to the beginning of New Century, and some of the players from the 90s of Guardian Savings, Plaza Mortgage, and Long Beach Mortgage from the previous chapters. This is when (the 90s), and where (Irvine) subprime truly began.

It dives into the conspiracy of Merrill, David Einhorn, and Bear Stearns’ rise and eventual fallout from the mortgage world. The details of Bill Dallas’ sale of First Franklin, to the funding of warehouse lines and 20% ownership from Merrill in Dallas’ OwnIt mortgage, shows how it comes full circle. Then, the message from Lewie Ranieri, the co-creator of the MBS security, comes to fruition. Anyone who has read Liars Poker, will know who Lewie Ranieri is, and his personality. The details of the underwriters, of the firms (like Bear Stearns) buying the mortgages from New Century, are downright frightening. Amazingly, when the book went to print, it had intimate knowledge of Ralph Cioffi (the manager of the Bear Stearns hedge funds that went broke) and the details of the failures of his hedge funds before the indictment. The fallout of Bear Stearns can be traced to this one big screw up.

The details of the interviews, er non-interviews from the Tan Man during the collapse of Countrywide are just a great reminder of how slick he thought he was. His arrogance shines through even brighter than his bright tan by some of the things he said during financial reporting conference calls. Then, the details of how Ameriquest and Argent screwed over a suburb of Cleveland show how the lawsuits start rolling. This is where the rating agencies start getting blamed, and how they denied any wrong doing. The excuses really begin flying now.

I highly recommend this book. This book is for anyone who is an industry insider that, like myself, that has intimate knowledge of it and even know some of the people quoted. This is also a book for anyone who wants to understand WTF happened, and who, when, why, and what they did to make all of this happen. No matter whom you are or what you know of the industry, you will end up learning something from this book. The only other book I recommend as highly on how we got into this mess, and for a more economic fundamental and psychological perspective, is The Great Housing Bubble by IrvineRenter. So, go get your copy at Amazon now, and let me know what you think. I have a thread in the forums up to discuss the book, so feel free to chime in.

Today’s featured property is a typical victim of the mortgage game. The owner bought at the peak with a toxic mortgage with the hope that these “innovative” products would always be around. They aren’t. Therefore, they next buyer could not leverage up as much as buyers could in 2006, and prices fall — a lot.

Asking Price: $895,000

Income Requirement: $223,750

Downpayment Needed: $179,000

Monthly Equity Burn: $7,458

Purchase Price: $1,300,000

Purchase Date: 10/31/2006

Address: 11 Santa Rida, Irvine, CA 92606

Beds: 5
Baths: 3
Sq. Ft.: 2,420
$/Sq. Ft.: $370
Lot Size: 5,800 Sq. Ft.
Property Type: Single Family Residence
Style: Mediterranean
Year Built: 1995
Stories: 2 Levels
Area: Westpark
County: Orange
MLS#: S538971
Source: SoCalMLS
Status: Backup Offers Accepted
On Redfin: 8 days

Beautiful, upgraded home on larger corner lot!!! Great location in
lovely Westpark, rarely on market! Vaulted ceilings! Spacious home has
downstairs bedroom with full bath. Gorgous marble flooring and generous
use of marble in bathrooms & on fireplace. Custom moldings, new
carpet and new paint. Inviting backyard with covered patio is
professionally landscaped.

This property has been featured before. It was for sale last summer. It certainly appears to be a huge, high-end loss in Westpark. If this property sells for its asking price, the total loss on the property will be $458,700. This appears to be a corporate relocation, so there is no telling who will ultimately absorb the loss, and it is perhaps even more difficult to figure out who is to blame…


The story hit the news
From coast to coast
They said you beat the girl
You loved the most
Your charitable acts
Seemed out of place
With the beauty
With your fist marks on her face
Your buddies all stood by
They bet their fortunes
And their fame
That she was out of line
And you were not to blame

Six hundred thousand doctors
Are putting on rubber gloves
And they’re poking
At the miseries made of love
They say they’re learning
How to spot
The battered wives
Among all the women
They see bleeding through their lives
I bleed–
For your perversity–
These red words that make a stain
On your white-washed claim that
She was out of line
And you were not to blame

I heard your baby say
When he was only three
“Daddy, let’s get some girls
One for you and one for me.”
His mother had the frailty
You despise
And the looks
You love to drive to suicide
Not one wet eye around
Her lonely little grave
Said, “He was out of line girl
You were not to blame.”

Not To Blame — Joni Mitchell

Square foot pricing from April 2006 compared to May 2008, and some purdy pictures

It has been a long time since I have posted, but I was inspired when someone posted some DataQuick zip code stats in the forums. I realized I have the April 2006 square foot pricing and sales data. So, I plugged the data into excel and here is what has happened since April of 2006. I do not know exactly when the peak was, but we all know some month in 2006 was the peak, and April is close. I have the June and July 2006 data to compare to as well. One thing… I do not know why DQ has never had the square foot pricing for 92602. My only reason I can think of is the difficulty getting the data from the new home sales. Oh, and the square foot pricing is for SFRs only, sorry no condos.

One thing I found interesting was SFRs are only down -7.9% in sales, but condos were down -42.2%. So while sales are not down that much for SFRs, the square foot price is really down and headed even further down.

Now, here are the NODs for Irvine via Foreclosure Radar


Here are the Notice of Trustee Sales…


And, the REOs…


With 137 sales last month, and the amount of purdy red, green, and blue pins in Irvine, it looks to me like we have a must sell issue here. Go ahead and call me a nutter, I am used to it, but I have been right more than I have been wrong, and actually… I have been overly optimistic on the foreclosures. BTW, once I have the June foreclosure data, I will do a post on how bad it has become, with some great chartpr0n. Judging by how bad the numbers are so far for June, I may have to adjust my charts to accommodate for the increase in foreclosures; my chart didn’t go beyond the high of 96.

Also, OCR reporter and fellow blogger Matt Padilla has a book coming out Chain of Blame: How Wall Street Caused the Mortgage and Credit Crisis.

Padilla's Book

Matt was kind enough to send IHB an advance copy, and I am only a few chapters away from finishing it. I have to say it is a great read, and anyone who wants to know about the birth of subprime, the players involved from Lewis Ranieri to Bill Dallas to Brad Morrice to Ralph Cioffi to Stan O’Neal to Roland Arnall, how it went up and down, who screwed who, the death of New Century, who snorted the Kool-Aid, how Merrill got high off their own supply, great pot shots on the Tan Man and his tan, and how the Tan Man drops the f-bomb faster than he can sell his stock, then I suggest you order a copy now. This is a fantastic book, and I am not just saying that to promote Matt Padilla, as he knows I would dissect the book for what it is. I will do a full review once I finish the book, and once it is released. I don’t want to upset the publisher when they could be publishing the book that would complement this book, The Great Housing Bubble.

Foreclosure stats and updates for 2/13/08

DataQuick reported the foreclosure numbers today. Hat tip to Matt Padilla for the numbers.

My guesstimate numbers, from Friday, were pretty close. It seems my math is coming in low for the NODs, but it is still within a 10% error margin. I will experiment with a new calculation for this month, and see if it comes closer to the real numbers. Also, my number for foreclosures will always be higher than DQ’s numbers, because I include the homes that are bought by someone, other than the bank, at the auction.

One quibble I have, is Matt stated “To be sure, foreclosures account for a small percentage of total housing stock in O.C., which has increased by tens of thousands of homes since the last downturn of the 1990s.” This is not true when you do the math. The owner occupied (keep in mind, DQ’s foreclosure numbers are for owner occupied housing) housing stock at the end of 1996 was 560,753, and in 2007 it was 614,815. The record foreclosure month was October 1996, with 674, and now the record is 802.

That is…

1 foreclosure for every 832 homes in 1996.

1 foreclosure for every 767 homes in 2008.

Any way you look at it, it is bad, it is really, really bad.

And, for the first five days in February there has been 580 NODs recorded (116 per day), 229 NTSs recorded (45.8 per day), and 189 trustee deeds recorded (37.8 per day). Keep in mind, February has 19 business days compared to January’s 21 business days. So, while the monthly numbers may not be higher, or the same, they are still increasing.


Today, 40 homes went back to the bank at the Santa Ana court house, and 2 sold. Here are the 5 homes in Irvine that went back to the bank…

51 Momento for $1.52mil.

70 Oak Tree Ln. for $565k.

2253 martin street #114, for $350k.

115 remington #327, for $304k.

305 Streamwood, for $258k.

And… the big news of the day, (insert awgee snickering here), Slade’s home went back to the bank for $1,282,500. It looks like the zestimate of $3.15mil is a bit high. I guess Jo’s singing career is not going so well. And, for those who think we at IHB are completely heartless, and kill a puppy for every home sale, I sincerely hope his kid it doing well. Just remember… don’t buy stuff you can’t afford. You never know what life will throw at you.


Oh… and, Brian Martinez, of the OCR, did a blog post on the WTF house of Irvine. I wonder if he knew, that IrvineRenter did a post on it already? It would have been nice to be mentioned for breaking the story first.

Foreclosure stats and updates

For those who are forum members, then you are probably familiar with the foreclosure thread. For those that are not members, I recommend you join, as there are some great topics, even beyond housing. But, in that thread, I try to update it to show what is happening with the foreclosure numbers, both in OC as a whole, as well as Irvine. Anyway, the idea of sharing these stats on the main blog were suggested, and I will be posting them periodically. I would like to do it every day, but I can’t say I will always be able to find the time. I will do these posts in the evening, so that everyone can enjoy the post of the day.

For those that are not familiar with the process, or the abbreviations, here are the basics…

NOD = Notice of default. This is the first stage, and it is recorded 90 days after the first missed payment.

NTS = Notice of trustee sale. This is the second stage, and it is recorded 30-90 days after the NOD. This is posted in a newspaper, like the Irvine World News, and lists the time and place of the auction, the address, the NTS amount, and various other legal info. It has to be published for three weeks.

Trustee sale/REO = back to the bank, or someone bought it at the auction. This is the final stage, and it is when the owner loses the house.

What a way to start the new year, but with record NODs and foreclosures!

NODs 2156, or 103 per day, and an increase of 18.7% from last month.

NTSs 1185, or 56.4 per day, and a decrease of -3% from last month.

Trustee sales 824, or 39.2. and an increase of 18.1% from last month.

Just how bad are the trustee sales? Comparing the worst month on record in 96, there was 1 foreclosure for 832 owner occupied homes in OC, and in 2008, it is 1 foreclosure for 746 owner occupied homes.

How about adjusting for household population? Will it look better that way? In 96, there was 1 foreclosure for 3903 people, and in 2008, it is 1 foreclosure for 3706 people. Well… it looks like it is worse than even the worst month on record. Considering NODs are double than what they were a year ago, and nearly double from the average of last year, then I suspect it will only continue to get worse. Since the ratio of NOD to foreclosure is about 50%, then 2008 could bring a month with a 1000+ foreclosures. This is starting to get really ugly, really, really fast.

Yesterday, 41 homes went back to the bank at the Santa Ana courthouse. Some of the lenders still do not get it, and they are holding tight to what the NTS amount is. However, there are many lenders that do get it. There are more, and more lenders discounting the minimum bid $100k-$200k below the NTS amount.

My favorite foreclosure of the week, went back to the bank for $1.65mil, with a NTS amount of $2.11mil, a $460k discount from the amount owed on the loan. I thought Newport Coast, and the high end was immune? This place is so new, that zillow only has one satellite photo of a completed home, and that is if you click on west.

There weren’t any homes that went back to the bank in Irvine yesterday, but this one in Tustin Ranch did for $882k. It sold for $610k in 2001, and then someone shut off the ATM.

Today there were 22 homes that went back to the bank, and one condo on Fairview in Santa Ana sold for $102.5k, but it sold for less than half of the NTS amount of $211.5k. This must have been a scratch and dent lender, or an IB who bought a mortgage pool for $0.30 cents on the dollar, and they still made a profit.

This week two homes in Irvine went back to the bank. 16 Salton #65, for $545k, and 106 Kazan St., for $292k. Currently, there are 44 homes in Irvine scheduled for the auction, from Monday to 3/20/08. More will be added, and some will get canceled, but we will see how it goes. There are a bunch in Quail Hill, including a big one with an NTS amount of $1.5mil. Finally, there are four homes in Woodbury scheduled for the auction, including one on Rising Sun, just across the street from the pool.

I hope everyone enjoys this post, as well as those to come. Comments, questions, and suggestions are welcome…

Mortgage Magma: The Coming Eruption of Option ARM's

“Now, I don’t know, I don’t know where I’m a gonna go
when the volcano blow.
Let me say it now,
I don’t know, I don’t know where I’m a gonna go
when the volcano blow.”

Jimmy Buffett – Volcano video.

You could hear women lamenting, children crying, men shouting. There were some so afraid of death that they prayed for death. Many raised their hands to the gods, and even more believed that there were no gods any longer and that this was one unending night for the world.” —Pliny the Younger, circa A.D. 97 to 109, describing the Vesuvius eruption.

Ancient Pompeians, “poured their savings into their houses. Wealthy people enriched their homes with elegant courtyard gardens decorated with frescoes of plants and flowers and an abundance of modern conveniences…” Similarly, denizens of the O.C. take much pride in their modern day villas.


Tall Hedge View

Herculaneum has been described as, “…a dream town. Overlooking the Bay of Naples, it was the aristocratic dwelling of a wealthy elite, a cluster of fabulous villas and gardens.” The residents there must have felt lucky and privileged, not unlike residents in some modern day Irvine Ranch villas…with option ARMs…the dream will end suddenly…


I posted about the ugliness of the option ARMs in the forums, but it was suggested that I post about it on the blog as well. I think this is the most misunderstood loan in the industry which makes it even more misunderstood by the victims borrowers. Worse yet, the lenders who made these loans failed to properly assess the interest rate risk by overdosing on Kool Aid.

Most borrowers thought that short term interest rates wouldn’t increase 2%-3% in less than three years. This loan has a mandatory recast in year five, but if rates increase at a faster rate that recast happens sooner. A recast is when the loan will reset and the borrower will have to start paying principal and interest. It also will be amortized over 25 years if the recast happens in year five.

Lenders thought it was a good idea to let anyone sell this loan… and sell it on the fact that they can make 3% yield spread premium on the back end. Yield spread premium is paid by the lender to the broker. The amount is determined by the broker by adjusting the rate higher or lower. The higher the rate the more YSP the broker will make. However, with option ARMs it is how high the margin is. The real interest rate is the margin plus the index. Option ARMs use many different indexes, but a common index it the MTA.

Like volcanologists, who ask, “…How large will the eruption be? We ask, how big will the option ARM disaster be? Explosive, like Vesuvius, or effusive like Kilauea?

Volcanologists believe that technology will enable them to predict when an eruption is about to occur. But, they are still unable to pinpoint the eruption’s likely size or character. However, the impending Option Arm disaster is quite easy to predict…

These data point towards a Vesuvius sized disaster…


For the first example, I used a $500k loan amount, 2.75% margin, 1% minimum start payment and calculated the approximate MTA index with the first payment starting in January 2005.

Year 1:

option arm year 1b

As you will notice, the minimum payment only goes up 7.5% a year. That is, in year two, the payment went from $1608.20 X 7.5% = $1728.82 but the real interest rate increased nearly a full 1% higher. The minimum payment doesn’t even cover the interest and this deferred interest has added over $9200 to the loan balance.

Year 2:

option arm year 2

Year 3:


Year 4… the OMFG year:


In August 2008, the payment recasts because the loan has reached the maximum negative amortization of 110% of the original $500k loan amount. Now the victim’s borrower’s payment more than doubles from $1997.86 to $4132.53 because they are forced to pay principal and interest on the new balance of $550k.

I don’t know about you, but if my house payment were to double it would be one hell of shock. Some in the business will say that some of these loans had a max of 115% of negative amortization. Great! That only delays the pain until December of 2009– one month before the mandatory five year recast. However 115% means the balance is now $575k and the payment will be $4393.27 and that is assuming interest rates do not change.

Here is what the loan looks like after 30 years. As if someone would actually be able to keep it:



In January, of 2005 it would be fairly easy to get a 30 year fixed rate loan for 5.75%. The total interest paid would be $550k for a total of $1.05mil. The option ARM loan costs about $336k more than the 30 year fixed over the life of the loan. However, that is if interest rates stayed the same as they are now. Of course, it could go down but it can just as easily go up over that time frame.

Some will argue that they will sell or refinance before any problems arise. I say good luck with either right now, but that is another story. If the home could be sold for $625k this December, the option ARM owner has a loan balance of roughly $540k and has made payments of roughly $62k. This would equal (excluding fees and commissions) a net of $23k. The the thirty year fixed owner would have a loan balance of roughly $479k and made payments of roughly $105k. This would equal (excluding fees and commissions) a net of $41k.

Now here is what this loan looks like when the victim borrower got whacked. To get the 3% YSP (this is the $15k rebate the lender pays the broker for the loan and has to be disclosed) the broker needs to up the margin to about 3.85% and stick them with a three year prepayment penalty. I cannot even begin to tell you how many chop shop brokers that used the 3% YSP as motivation for their “loan officers” to sell this loan. I moved the first payment up to July 2005 because this is when people really started to sell this loan. It also shows a more accurate adjustment of the MTA index.

The first six months and 2006:


Take a look at when the loan recasts. I wouldn’t want to be at their house for Christmas:


This is what it must look like when that reset hits:


Now here is the rub. Let’s pretend this victim borrower bought this place for $625k, put 20% down, and today it still is worth $625k. I know it’s pure fantasy, but play along with me. Since December is month 30 they still have their three year prepayment penalty of about $25k, $5k of loan fees and $50k added to the balance making the LTV 93%. Anyone know a lender doing jumbo cash out refi’s up to 95% LTV?

Of course, they could wait until July when their prepay is up and pay $26k+ in monthly payments but their loan balance hasn’t changed much and they still would be at 90% LTV. Anyone know of a lender doing jumbo rate an term refi’s at 90% LTV and do you think they will be doing it in July 2008? What happens if the price of the home goes down 5% or 10%?

Worse yet, what if they only put 10% down? Then they would be upside down right now. If the price went down 10% they would owe $50k more than the home is worth. Get the jingle mail ready, because the only other choice here is to pay more than everyone else for a depreciating asset.

This is just the beginning of a scenario that is about to get a lot worse. I think that after reading this you will think that this chart underestimates how soon the option ARMs are going to start recasting.

Loan Reset Calendar


Also, for some more info on the acceleration in the default rates Calculated Risk has a great post on the subject and as usual some great charts. All I can say when I see those charts is:

“Ground, she movin’ under me.
Tidal waves out on the sea.
Sulphur smoke up in the sky.
Pretty soon we learn to fly.”