Subprime Growth, Operational Weakness Collapsed WaMu: Former Execs

The former president and CEO of Washington Mutual told a Senate panel today that a rapid growth in the subprime lending and securitization business, coupled combined with overall operational weakness, contributed to the losses that eventually collapsed the bank. Former WaMu president and chief operating officer Stephen Rotella told the Senate Permanent Subcommittee on Investigations that the credit risk inherent in the bank’s business was highly concentrated within residential lending. He also noted “significant operating weakness” at the company’s home lending business, which he said grew quickly in late 1990s to early 2000s. For example, he said WaMu experienced rapid growth in high-risk originations — echoing earlier statements from the Subcommittee that high-risk loans created a “mortgage time bomb” at the bank. WaMu hit its peak in 2003 with $435.4bn in origination, and with 11.4% of market share, it was second only to Wells Fargo. While the bank experienced a growth in home lending business its management and infrastructure failed to develop at the same pace, according to Rotella. “When I arrived at WaMu in 2005, the bank was separately operating three home lending businesses (prime, subprime and home equity), with outdated infrastructure and multiple, inconsistent systems and processes resulting from the succession of acquisitions noted above,” Rotella said in prepared remarks. “Operational weaknesses made it very difficult to properly manage such a complex business—particularly during a high growth, high volume period.” His comments mark a sharp reversal from witnesses that earlier in the day blamed public policy, securities investor demand — and even other ex-WaMu staffers — for the funding and selling of delinquency-prone mortgages. Kerry Killinger, former WaMu president, CEO and chairman of the board, went a step further in owning up to the bank’s business operations. “As CEO, I accept responsibility for our performance and am deeply saddened by what happened,” he told the Subcommittee. Killinger noted that, despite aggressively reducing lending, raising new capital and cutting operating expenses, there was more WaMu and the financial services industry could have done to prepare for the recession. In order to prevent other failures of large financial institutions, he recommended the regulation of mortgage brokers and greater oversight of broker compensation. He told the Senate panel there should be a greater focus on consumer protection and product disclosures. Additionally, Killinger suggested requiring banks to maintain high levels of risk-based capital, as well as changing accounting principles to permit the building of loan loss reserves during “times of economic prosperity.” Allowing this accumulation of loan loss reserves may give certain banks the financial strength to withstand financial turmoil and not be shut down and sold off like WaMu. In prepared remarks (download here), Killinger said WaMu was not given the opportunity to ride out the storm of financial fallout. He noted that, in seizing WaMu and selling its business to JP Morgan Chase (JPM), regulators denied the bank the opportunity to access liquidity through government-led bailout initiatives. “None of us can survive on oxygen if it’s cut off,” he told he Subcommittee, adding that liquidity works the same way. Killinger said that, in being denied access to liquidity programs, WaMu’s oxygen source was effectively cut off. “It was with shock and great sadness that I read of the seizure and bargain sale of Washington Mutual on Sept. 25, 2008,” he said. “I recognize that policy makers and regulators had no blueprint for dealing with the worldwide financial crisis that developed in the aftermath of the collapse of Lehman Brothers. But I believe that Washington Mutual’s seizure was unnecessary, and the company should have been given a chance to work its way through the crisis.” Write to Diana Golobay.

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