WaMu Curtails Subprime Lending
and 2/28 & 3/27 Loan Programs
In July of 2007, Washington Mutual announced that it was cutting off its subprime lending. As a major originator of residential mortgages Washington Mutual’s announcement that it was requiring “Full Documentation” of borrower’s income caught the industry by surprise. Also WaMu advised that it was no longer going to offer what the lending industry called 2/28 and 3/27 initial fixed term loans. The reason given was difficulty is selling loan bundles containing these mortgage backed securities to investors. This move made before any real problems from the subprime markets had affected traditional lending programs such as the short-term fixed rate adjustable markets. In hindsight an exceptionally smart decision.

Question: Mr. Killinger, could you please tell us what has happened to the mortgage market and how it has happened?

Answer: Housing prices appreciated in the United States at significantly higher rates for several years, fueled by a strong economy, low interest rates and a limited supply of housing in some parts of the country. This increased market demands.

This led to price increases rising faster than average which further accelerated speculative investing and created a bit of a “bubble.” The general attitude was that housing values were going to continue increasing at above average rates forever. The market peaked about 2 years ago. Simply put, prices were rising much faster than they should have.

On the liquidity side, the sources of what  I call the irrational money from Wall Street are now reversing themselves. They are now admitting their underwriting guidelines were too loose, and that credit losses are rising to levels well beyond expectations. These funding sources of liquidity are drying up. Today there is starting to become a shortage of capital available for housing.

Question: Mr. Killinger, in hindsight, would you have changed Washington Mutual’s underwriting criteria a few years earlier? WaMu recently stopped making Stated-Income Loans; do you wish you had stopped them a few years earlier?

Answer: Let me mention the things we did we began two years ago. We were concerned there was a risk of a correction in housing prices, so Washington Mutual sold all of its 2004 and 2005 residuals from our subprime originations.

Washington Mutual also started two years ago to tighten underwriting guidelines in many loan categories, both prime and subprime. We also sold the majority of Washington Mutual’s prime loan originations in the past two years, whereas in the past WaMu held all of these.

Question: Mr. Killinger, Did you stay as the servicer for these loans you sold off?

Answer: Yes, we maintained our servicing rights.

Question: Mr. Killinger, Why would anyone make a Stated-Income loan in the first place? Why would a practice like this ever become the norm?

Answer: From competitive pressures, from significant excesses of capital flooding into the Wall Street Markets. That’s really what it was. Severe competition pressures leading to a loosening of lending underwriting guidelines.

Question: Mr. Killinger, What happens if one of Washington Mutual’s mortgage customers falls behind on their payments? WaMu has a new 2-Billion Dollar program to refinance borrowers out of trouble, but only if they have managed to keep up with their payments.

Answer:Washington Mutual’s goal is to assure as many homeowners keep their homes as possible. It is in their and WaMu’s best interest to try to minimize the number of foreclosures. WaMu has a substantial group of our loan-servicing people to work with customers that need help.

Question: Mr. Killinger, Washington Mutual is one of the biggest mortgage lenders in the country, but WaMu is also one of the biggest banks in the country. What growing pains has the bank experienced growing from a small regional bank to becoming one of the country’s biggest financial institutions?

Answer: The core part of Washington Mutual; the Crown Jewel, is the retail banking powerhouse that has been built. Even though much of this interview has been about WaMu’s mortgage business, it is the smallest business segment Washington Mutual has today. WaMu’s largest business by far is their retail banking division.

Editing Note: This point of the article marks the end of the portion of the interview credited to the San Francisco Chronicle newspaper.

So what as a Mortgage Lender and Loan Officer do I, Ed Wright find interesting and relevant for added discussion about this interview with one of the most powerful banking CEOs in the country? 

Quite simply the timing of such instinctually brilliant financial decisions Kerry Killinger was capable of making… easily explaining how he was capable of leading Washington Mutual to such incredible levels of growth.

For those not directly involved in the Banking, lending or Real Estate Industries the time period during which CEO Killinger was taking such evasive actions. WaMu admits to selling its very profitable loan portfolios and changing its underwriting guidelines at the same time the market was beginning to peak! While everyone in banking was enjoying record setting years and banner production levels Kerry Killinger was wise enough to sell the assets every other banker was working so hard to develop.

It is insightful to note that when asked about “Stated Income Loan” Programs Kerry Killinger admits that Washington Mutual gave in to competitive pressures and offered such programs accordingly. So how was it at the absolute height of a real estate market just about every other expert thought would increase forever WaMu did not maintain it’s leading market position and continue offering these programs? There was no shortage of Wall Street money to purchase such mortgage backed securities, and no shortage of borrowers looking to buy homes… so how did Kerry Killinger know to back off such programs. It is interesting to note that WaMu maintained the servicing rights to these loan portfolios they sold off… so clearly Washington Mutual was still competitive and looking to profit from their sale.

With strategic insight as keen as Washighton Mutual’s one might not wonder how it failed to spill over to any of the mortgage banks? Kerry Killinger indicated he thought quite a few might go out of business; how was it their CEOs did not see this coming?

Consider that at the time this interview was done the Melt Down was barely a financial section footnote, and very few thought it would expand into what it has today. Literally nobody thought the repercussions from the subprime market would spill over to the Prime Markets, but WaMu had already canceled their Stated Income Loan Programs to even that segment. Extraordinary timing.

Is it reasonable to suggest that perhaps somewhere in the government, the FED did not want to see a melt down affect the Savings and Loans again. Up to this point all talk of a “Melt Down” was not supported by anything outside some in the press suggesting such to sell papers.

Everyone with any experience in the markets knew a market reversal was possible… but it was moves like the ones taken by Washington Mutual that triggered the actual melt down. The investor panic on Wall Street followed after the fact, not before. Check the dates… read the papers, or Google it.

Just Thinking: What is important here is that Big Banking has long been looking to reclaim the 80% plus market share that the mortgage banks and brokers represented in the mortgage markets. The Fed and the government desperately wanted to avoid any Saving & Loan Crisis like occurred with the early 1990s market reversals… and our politicians work closely with big banking, campaign donations, legislative input, and the like.

NOTE: Over 75% of the major mortgage banks and lenders have already closed their doors because of this cumulative meltdown and values reversal. Banks have tried for years to eliminate the mortgage banks they compete with; and now within a matter of weeks the majority of that competition is gone. 

The banking world has semi regained market control of the residential mortgage lending markets by shear attrition, not because of anything they have done to earn it. Initially it was only borrowers with credit problems that mortgage brokers specialized in working with, but this has changed dramatically. Presently mortgage brokers provide superior service and better rates than most banks. With many mortgage banking funding channels drying up many banks are making it even harder for affiliated brokers to by restricting their access to wholesale lending programs. This can only hurt the free market competition of mortgage products for borrowers as increasingly they are forced to qualify for loan through their local bank.

It brings to mind the old political saying that; “If You’re Not a Part of the Solution, There’s Good Money to be Made in Prolonging the Problem.” This could be the perfect time for banks to once again look for favorable legislation allowing them to directly market and sell homes… lord knows they have not been working on that long enough.

All things considered… probably not! No body can argue that Kerry Killinger is not one of the smartest banking CEOs on the planet; because his track record proves he is.

It must be just a kawinkydink that so few federally charted banks have gone out of business while just about every major mortgage bank and banker has. After all Countrywide the Bank is doing just fine, it is their Countrywide Broker division having funding. The government, FED thing is all too much paranoia, and is too boring for a movie plot (so it could happen). But inquiring minds want to know… which is why I am simply a loan officer and Kerry Killinger gets all the good interviews, and the big bucks.

Note about this interview: This is just a small portion of a much larger interview with Kerry Killinger; Washington Mutual CEO, Published in the San Francisco Chronicle; Sunday, Aug. 12, 2007 on page E-1. The portion that has been reported on here was done so to facilitate this article and responses attributed to Mr. Killinger and Washington Mutual Bank as accurately as possible.