Washington Mutual Busted: Too Early to Bottom Fish the Sector

Washington Mutual (WM) joins the growing ranks of financial companies caught up in the web of subprime lies.

It seems that its appraisal company, First American Corp (FAF), is being sued by the NY Attorney General for inflating home values. The NY AG also alleges that First American Corp colluded with Washington Mutual to use a list of preferred “proven appraisers” that would provide inflated appraisals on homes.

Washington Mutual’s response made me laugh out loud so hard I had tears in my eyes. They came out and said, “We have absolutely no incentive to have appraisers inflate home values.”

Hold on a second. They book huge profits from upfront fees by originating mortgages that they get to book in that quarter's earnings. Those inflated earnings are used to determine executive stock-based compensation, and you mean to tell me that they didn’t have a vested interest in jamming as much business into each quarter as possible?

Are you kidding me?

Friends, this is the tech wreck all over again. This is just a rehash of the same sorry lies and greed run amok that we witnessed from 2000 – 2003. These bigwig CEOs are all in CYA mode. Don’t be surprised to see some very high profile corporate names going down in flames and some very big executives going off to jail.

Check out Citigroup (C). These guys may have to raise THIRTY BILLION bucks to bail themselves out of their subprime hole. Thirty billion dollars! That’s insane! How do guys, supposedly so smart, get to be so wrong? I’ll tell you how: It's greed, plain and simple.

These players knew that the party was coming to an end, but Wall Street is such a short-term earnings-driven culture that they didn’t care. There was money to be made and bonuses to be had.

Hey, don’t get me wrong. I like to get a bonus just like anybody else, but I’ve learned that it never makes sense to jeopardize the long-term prospects of my business just to generate a one-time gain. These guys in the banks and the brokers just don’t think like that because they are renters, not owners. You, the long-term stockholder, you’re the owner and you are getting the muddy end of the stick from these guys, big time.

They know that between the investing public and the public purse (think Fed), they will get bailed out. The Fed's recent rate cut is all the proof we need to see this old-boy network hard at work once again.

But you know what?

I don’t think it’s going to work.

As I explained last week, the subprime borrower is getting squeezed between rising mortgage rates in their adjustable rate mortgages and declining housing prices. I first tipped Tycoon Report readers onto this story back in February of this year. I wrote an article called "Beware of Sub Prime Mortgage Stocks". The article was chillingly prescient (if I do say so myself).

Forget the Fed for a second; the Fed doesn’t underwrite mortgages. If you are in the mortgage business, you are going to want a much higher return for all the extra risk you are taking. So how much influence can the Fed really have over mortgage rates?

The key to the subprime mess is that housing prices are declining, and if the asset that you have pledged to secure a loan goes below the value of the loan, you can’t refinance. If you can’t refinance, you can’t repay the loan. If you can’t repay the loan, you default.

These rate cuts are not going to boost housing prices, and that’s what needs to happen if you are going to stem the subprime bleeding.

The reality is that housing and the subprime market is in a death spiral; nothing can stop it from crashing. There isn’t a force on earth that can turn this housing bear market into a bull market.

Long story short, it’s still too early to start bottom fishing in this sector. Stay away! Thursday’s action indicates that we are now entering the second leg lower in the financials.

Remember what you learned from the tech wreck. Just because something looks cheap doesn’t mean it can’t get cheaper. They will be a buy at some point, but not yet.

Disclosure: none

Comments

[User 120235:]

Never worry, Hillary will save the day in the near future. check out her Unsensored video clip on Youperview. Too bad Edwards doesn't admit owning a Subprime mortgage company, he borrowed from Reagon and said he didn't know/cant recall.

2007 Nov 05 03:49 PM

[Alex S. Gabor:]

Washington Mutual, Citigroup, Bank of America, Freddie Mac, Fannie Mae, they are all part of the same flock of feathers that will be feckled out of this fiasco. A decade from now those names will be historic footnotes of the global depression of 2008.

2007 Nov 05 11:18 PM

[scmjohn:]

The bigger picture is how WAMU and other Option ARM (OA) originators book deferred interest as a profit on their balance sheet. With OA's becoming uncollectable as debt and squeezed out with declining property values, the interest WAMU says they "earned" with the neg am that piled up no longer exists. That said, does WAMU, et al, re-state 2005-2007 earnings?

2007 Nov 05 04:47 PM

[Alex S. Gabor:]

ITS NOT JUST OPTION ARMS AND DEFERRED NEG AMS DISAPPEARING FROM BALANCE SHEETS. CONSIDER ALL THE SECOND MORTGAGES THAT WERE SPUN INTO THOSE OFF BALANCE SHEET ENTITIES LIKE THE ONE'S PRINCE GOT TANGLED UP IN AT CITIGROUP. IF THE FIRSTS ARE UNDER WATER, THE SECONDS ARE ALL POOF BALLS OF PUFFERING PUKE ON THE BALANCE SHEETS OF THESE PHONY PILLARS OF SOCIAL RESPONSIBILITY. IF I WERE THE KING OF THIS WORLD BANKS WOULD BE OUTLAWED AND REPLACED WITH INTEREST FREE MONEY MANAGED BY A GLOBAL NON PROFIT WITH 6 BILLION STAKE HOLDERS.

2007 Nov 05 11:52 PM

[User 53493:]

When I considered refinancing my house about two years ago the appraisal came in at 250% of what it was worth. I was shocked; when I tried to talk to friends about it all I got in return were glassy -eyed, disinterested stares. I ended up not refinancing for other reasons but it was obvious then that something was terribly wrong. In retrospect maybe I should have taken the cash and invested in the Euro.

2007 Nov 05 10:06 PM

[bigcityloans:]

If my memory is correct ... I believe that Janet Reno put a very large developer in Florida ... General Development Corp. ... out of business in the late 1980s for putting pressure on appraisers to inflate appraisals ... as well as prosecuting the company executives ... some were convicted and served jail time ... perhaps Cuomo should read the Florida court's decision.

2007 Nov 06 12:15 PM

[User 120861:]

the mortgage industry is set up for failure. all the laws, ethic requirements, oversight etc... is hogwash. the fact is that currently companies like the one mentioned in this article are even making it worse. appraisal management companies are set up soley to make it look like mortgage originators who use them are trying to weed out appraisal fraud.

i have seen first hand that these mgt. companies also pressure appraisers on value while at the same time hire only the hungriest of appraisers to work at 1/2 their normal wages and turn the reports around in half the normal time. really gonna get some solid appraisals under those circumstances aren't we?


to user 53943: i severly doubt your individual refinance appraisal came in at 250% of real market value. could have been that you didn't know the value of your own home in a market gone crazy and the appraiser also stretched the value.

in your defense i will say as an appraiser with 15 years experience that this business is overun with never ending pressure to "make the loan work". i am disgusted with this profession and most people in it. the only reason why i've lasted this long is that i had found a mortgage broker who applied very little pressure on me. but as honest mortgage brokers go he is virtually out of business because he looses a substantial amount of business to the "ive got a better deal" type brokers. they will get "their" appraiser to over appraise property thus helping the borrowers achieve a better LTV and qualify for better loan terms.

2007 Nov 07 12:57 PM

[Casey:]

As an independent and experienced Certified General Real Estate Appraiser, I largely agree with article.

2007 Nov 07 05:57 PM

[Alex S. Gabor:]

Washington Mutual is a bankrupt bank. The only people who don't know it yet are the stock brokers who keep flinging the stock around the planet, and the employees who don't have a clue about customer service! Read my article about WAMU written presciently many moons ago! It doesn't take a genius to figure out which banks are corrupt! They all are!

2007 Dec 20 03:25 PM