COMMENTARY "Fraud pays." That's what an executive at General Electric (GE) subsidiary WMC Mortgage told one of the subprime lender's own fraud investigators at a 2006 meeting to discuss using new software to identify dodgy home loans, reports the Center for Public Integrity.
The technology was largely shelved. So was the investigator, one Dave Riedel, who worked as a loan compliance manager at WMC after GE bought the lender in 2004. He says he was stripped of his working title and duties in an account confirmed by other former WMC employees. GE also took action against other WMC workers who raised concerns about fraudulent mortgages, writes Michael Hudson, a staff writer with the nonpartisan investigative news organization:
[E]ight former WMC employees claim WMC's management ignored them when they reported loans supported by falsified documents, inflated incomes or other legerdemain. Two of them say they were transferred and demoted because they pressed too hard to expose corrupt practices.
GE denies that it punished Riedel. A company spokesman told me by e-mail that GE is "committed to maintaining strong compliance programs in all of its businesses." He added:
Consistent with that commitment, when any allegations of compliance violations at WMC came to our attention, those claims were investigated and when evidence of a violation was uncovered, disciplinary actions were taken, including terminations. It is untrue that WMC took any retaliatory actions against Mr. Riedel, but we do not otherwise comment on specific employment issues.
What seems clear, by contrast, is that GE officials knew that WMC was in trouble. Riedel says a 2006 audit showed that 78 percent of loans investors had asked WMC to repurchase turned out to be fraudulent. Roughly four out of five of the loan applications filed for these mortgages misrepresented borrowers' incomes or employment.
That, too, would have come as no surprise. Riedel says he found numerous examples of fraud committed by WMC staff or independent mortgage brokers who funneled loans to the lender. Among the scams: Using software to create fake W-2 tax forms to falsify a loan applicant's income; faking proof of a borrower's employment; listing fake jobs in the applicant's paperwork; and WMC salespeople listing their own cell-phone numbers in order to pose as a borrower's superior so they could "confirm" that the person was working at a (non-existent) company.
By October 2007, WMC, which GE had acquired some three years earlier for nearly $500 million, was out of business. Total losses -- more than $1 billion. GE also had to set aside hundreds of millions more to cover the cost of repurchasing faulty loans that had been securitized and sold to investors.
Under GE, which before the housing bust routinely made lists of America's most admired companies, WMC made roughly $110 billion in subprime and "Alt-A" loans. A subsequent federal study concluded that the lender trailed only one other subprime mortgage firm, New Century Financial, in terms of loans that had resulted in foreclosures in some of the country's hardest-hit real estate markets.
Swallow the whistle
Read Hudson's terrific expose for more of the grisly details, of which there are plenty. What is to be learned?
First, and most broadly, the idea preached by many financial industry executives that the subprime crash was unforeseeable is a crock. The tide of bad loans was foreseen -- not only by a handful of shrewd economists and other outside observers, but by big mortgage lenders' own employees. These financial firms didn't only sanction fraudulent loans, of course -- they also peddled millions of ostensibly sound mortgages despite knowing that borrowers would struggle paying them off. As Hudson notes, sales trumped judgment. The push for profits also aced out ethics and, in the , the law.
Second -- and this relates to the first point -- large financial firms often suppressed clear evidence of fraud. One way they did that was to punish employees who sounded the alarm about illegal loans and abusive sales tactics.
For instance, Hudson has also documented howits own fraud investigations chief in 2008 for discovering widespread fraud within its Countrywide subprime lending unit. The U.S. Department of Labor earlier this year ordered B of A to rehire the employee after finding that the banking giant had used "illegal retaliatory tactics" against the executive.
In another case of a whistle-blower getting the axe, wasting taxpayer money by inappropriately processing so-called trial modifications under a federal mortgage relief program (The case is ongoing.) Meanwhile, a suit earlier this year filed by a former assistant vice president who accused the company of firing her after she raised concerns about about its illegally "robo-signing" thousands of documents used to collect credit-card debt.executive Caroline Herron sued the government-sponsored lender for wrongful termination after it fired her last year. She had uncovered evidence that the company was
It wasn't that financial firms couldn't handle the truth, in other words; it was that they had strong economic incentives -- disbursed in fat commissions, lavish executive bonuses and rising stock prices -- to bury the truth. As Hudson, a highly regarded investigative journalist and, told me in an interview:
If you talk to people who work on the front lines, they'll tell you again and again that they saw [the crash] coming. There were people in the mortgage industry and even on Wall Street who were trying to blow the whistle. In most cases, they say they were ignored, marginalized, harassed, demoted, fired or some combination thereof. And this idea that there was some sort of global financial act of nature that no one could've expected doesn't stand up to scrutiny. People knew about it, but they were muzzled or ignored.
Drawing on federal whistle-blower claims, court documents and their own reporting, Hudson and his colleagues at the Center for Public Integrity have identified 63 former employees at 20 financial institutions who say they were fired or demoted for reporting fraud or refusing to commit fraud. That total doesn't count financial firm staff who expressed concerns about their companies' practices and were simply ignored.
You get what you pay for
The rampant fraud at WMC raises another key question: Why did GE buy the subprime lender in the first place? After all, Hudson writes, problem loans had started surfacing at the company in the late 1990s, or well before GE decided to plunge into subprime. Even then, some newspapers were describing WMC's lending policies as reckless. By 2004, meanwhile, federal and state government officials had already cracked down on some of the nation's biggest subprime players, such as Household Finance and The Associates, for their predatory lending practices. In short, GE had good reason to beware the subprime sector.
GE, vaunted in M&A circles for its careful screening of acquisition targets, also seems to have gotten the company it wanted to spearhead the subprime push. GE officials said around the time of the deal that they considered several different lenders before settling on WMC, which was previously owned by private equity firm Apollo Management. "We ... chose WMC because of its solid management team, technology and proven record of success," said one GE spokesman after the acquisition was disclosed.
That suggests two possibilities. One is that GE did an uncharacteristically poor job in its due diligence on WMC. Alternatively, GE knew exactly what it was getting with the firm, but ignored the danger signs. Why? Following the dot-com meltdown, GE chief Jeffrey Immelt was under pressure to boost growth at the company, and fast. With the housing boom at full throttle at the time, subprime was a lucrative extension of GE's huge consumer finance business -- for a while.
A company spokesman declined to answer my questions regarding the WMC acquisition, including whether GE interviewed current or former employees of the lender before proceeding with the purchase. Indeed, the company appears eager to close the door on its foray into subprime lending. After its problems with WMC, GE chief Jeffrey Immelt told shareholders that the conglomerate was quitting the subprime sector.
As for ex-WMC CEO Amy Brandt -- who as a 31-year-old wunderkind led the company during its heyday and who collected a $10 million bonus from GE after it bought the mortgage firm -- here's what she is up to these days, Hudson notes:
WMC's former CEO had a 30-acre ranch outside Los Angeles where she kept a dozen horses. She'd used some of the millions she'd earned at the lender, the magazine said, to start an independent record label, YMA Music Group, which signed such artists as former Limp Bizkit guitarist Wes Borland. She'd also become CEO of Vantium Capital, a private equity fund that planned to make money off distressed mortgages.
The episode also hasn't sullied Immelt's career. Along with retaining his CEO duties, he today serves as President Obama's jobs "czar." His mandate as head of the White House's Council on Jobs and Competitiveness: "To create jobs, opportunity, and prosperity for the American people."