It’s official: Deutsche Bank reaches $7.2 billion RMBS settlement

Largest RMBS settlement ever

Late last year, Deutsche Bank announced that it reached a $7.2 billion settlement with the Department of Justice in connection with the bank’s issuance and underwriting of residential mortgage-backed securities between 2005 and 2007.

Although the bank made the announcement in late December, the settlement was not official, but it is now.

On Tuesday, the Department of Justice announced that it reached a final settlement with Deutsche Bank for $7.2 billion, matching the figure Deutsche Bank disclosed in December.

While the settlement is roughly half of what the DOJ initially wanted, the settlement is still the “single largest RMBS resolution for the conduct of a single entity,” the DOJ said Tuesday.

Under the terms of the settlement, Deutsche Bank will pay a $3.1 billion civil penalty under the Financial Institutions Reform, Recovery and Enforcement Act, and provide $4.1 billion in relief to underwater homeowners, distressed borrowers and affected communities.

“This $7.2 billion resolution – the largest of its kind – recognizes the immense breadth of Deutsche Bank’s unlawful scheme by demanding a painful penalty from the bank, along with billions of dollars of relief to the communities and homeowners that continue to struggle because of Wall Street’s greed,” said Principal Deputy Associate Attorney General Bill Baer. “The Department will remain relentless in holding financial institutions accountable for the harm their misconduct inflicted on investors, our economy and American consumers.”

According to the DOJ, Deutsche Bank “knowingly made false and misleading representations to investors about the characteristics of the mortgage loans it securitized in RMBS worth billions of dollars issued by the bank” between 2006 and 2007.

The DOJ stated that as part of the settlement, Deutsche Bank agreed to a litany of charges about its underwriting and securitization practices during the time period in question.

According to the DOJ, Deutsche Bank told investors that loans securitized in its RMBS were originated with sound underwriting guidelines.

“But as Deutsche Bank now acknowledges, the bank’s own reviews confirmed that ‘aggressive’ revisions to the loan originators’ underwriting guidelines allowed for loans to be underwritten to anyone with ‘half a pulse,’” the DOJ said. “More generally, Deutsche Bank knew, based on the results of due diligence, that for some securitized loan pools, more than 50% of the loans subjected to due diligence did not meet loan originators’ guidelines.”

Deutsche Bank also “knowingly misrepresented” that loans were reviewed to ensure borrowers had the ability to repay their loans.

“As Deutsche Bank acknowledges, the bank’s own employees recognized that Deutsche Bank would ‘tolerate misrepresentation’ with ‘misdirected lending practices’ as to borrower ability to pay, accepting even blocked-out borrower pay stubs that concealed borrowers’ actual incomes,” the DOJ said. 

According to the DOJ, one Deutsche Bank employee during the time said, “What goes around will eventually come around; when performance (default) begins affecting profits and/or the investors who purchase the securities, only then will Wall St. take notice. For now, the buying continues.”

The DOJ also said that Deutsche Bank admitted to the following actions;

  • Deutsche Bank concealed from investors that significant numbers of borrowers had second liens on their properties.
  • Deutsche Bank purchased and securitized loans with substantial defects to provide “flexibility” to the mortgage originators on whom Deutsche Bank’s RMBS program depended for a continued supply of loans. Indeed, after the president of a large mortgage originator told Deutsche Bank he was “very upset with the rejection percentage,” Deutsche Bank’s diligence team was instructed, on three separate occasions, to clear loans it previously determined should be rejected.  
  • While Deutsche Bank conducted due diligence on samples of loans it securitized in RMBS, Deutsche Bank knew that the size and composition of these loan samples frequently failed to capture loans that did not meet its representations to investors. In fact, Deutsche Bank knew “the more you sample, the more you reject.”
  • Deutsche Bank knowingly and intentionally securitized loans originated based on unsupported and fraudulent appraisals. Deutsche Bank knew that mortgage originators were “‘giving’ appraisers the value they want[ed]” and expecting the resulting appraisals to meet the originators’ desired value, regardless of the actual value of the property. Deutsche Bank concealed its knowledge of pervasive and consistent appraisal fraud, instead representing to investors home valuation metrics based on appraisals it knew to be fraudulent.
  • By May 2007, Deutsche Bank knew that there was an increasing trend of overvalued properties being sold to Deutsche Bank for securitization. As one employee noted, “We are finding ourselves going back quite often and clearing large numbers of loans [with inflated appraisals] to bring down the deletion percentages.”  Deutsche Bank nonetheless purchased and securitized such loans because it received favorable prices on the fraudulent loans. Ultimately, Deutsche Bank enriched itself by paying reduced prices for risky loans while representing to investors valuation metrics based on appraisals the Bank knew to be inflated.

“This resolution holds Deutsche Bank accountable for its illegal conduct and irresponsible lending practices, which caused serious and lasting damage to investors and the American public,” said Attorney General Loretta Lynch. 

“Deutsche Bank did not merely mislead investors: it contributed directly to an international financial crisis,” Lynch continued. “The cost of this misconduct is significant: Deutsche Bank will pay a $3.1 billion civil penalty, and provide an additional $4.1 billion in relief to homeowners, borrowers, and communities harmed by its practices. Our settlement today makes clear that institutions like Deutsche Bank cannot evade responsibility for the great cost exacted by their conduct.”

As Lynch noted, the settlement includes $4.1 billion in consumer relief.

Earlier this month, a report from Bloomberg suggested that Deutsche Bank is considering an unorthodox method for providing that $4.1 billion in consumer relief – lending to private equity firms.

There is no mention in the DOJ press release of lending to private equity firms. The DOJ states that the consumer relief portion of the settlement will be in the form of loan modifications, including loan forgiveness and forbearance, to distressed and underwater homeowners throughout the country.

Deutsche Bank will also be required It will also provide financing for affordable rental and for-sale housing throughout the country, the DOJ said.

The DOJ said that an independent monitor will be tasked with overseeing the consumer relief portion of the settlement.

The DOJ also notes that the settlement does not release any individuals from potential criminal or civil liability. As part of the settlement, Deutsche Bank has agreed to fully cooperate with investigations related to the conduct covered by the agreement, the DOJ said.

In a letter posted to Deutsche Bank’s website, John Cryan, the bank’s CEO, said that while the price the bank is paying to settle the case is “high,” the bank’s conduct is “unacceptable.” Cryan also offered an apology.

“Although it is good that we can bring this matter to a close, the price we are paying is high,” Cryan said.

“The DOJ is highly critical of these transactions. The conduct they cite, which occurred from 2005 to 2007, falls short of our standards and is unacceptable. We apologize unreservedly for it,” Cryan continued.  

Cryan said that the bank has “subsequently exited many of the underlying activities and comprehensively improved our standards” in the convening years.

Cryan also called the $7.1 billion settlement a “financial burden” for the bank, but said that the despite the settlement’s hefty price tag, the bank is “pleased” to be able to move on.

“We had to invest a vast amount of time and energy in these negotiations, and the resolution of this matter creates a lot more certainty,” Cryan said.

“Given other lawsuits, it is still too early to talk of having drawn a line under all matters,” Cryan continued. “We are, however, nearing our objective of being able to concentrate primarily on the future instead of repeatedly having to look over our shoulders at past events.”

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