WaMu Hawaii Trips Drove Risk as Regulator Failed, Report Says

Former WaMu CEO Kerry Killinger
Kerry Killinger, former chief executive officer of Washington Mutual Inc., was sued by the Federal Deposit Insurance Corp. last month for taking extreme risks with the bank’s mortgage portfolio, causing billions of dollars in losses. Photographer: Jay Westcott/Bloomberg

Washington Mutual Inc., once the largest U.S. thrift, rewarded bankers for overcharging customers on subprime mortgages and selling the worst-performing loans to investors, a U.S. Senate panel concluded.

The lender gave its top producers free trips to places like Hawaii and the Bahamas in return for increasing mortgage volume, even as performance of the loans deteriorated, according to the Senate Permanent Subcommittee on Investigations report on the financial crisis.

“Loan officers and processors were paid primarily on volume, not primarily on the quality of their loans, and were paid more for issuing higher-risk loans,” the panel found. “Loan officers and mortgage brokers were also paid more when they got borrowers to pay higher interest rates, even if the borrower qualified for a lower rate -- a practice that enriched WaMu in the short term, but made defaults more likely.”

The report of more than 600 pages, released yesterday, is based on internal documents and testimony from executives and regulators. The subcommittee concludes that WaMu’s primary regulator, the Office of Thrift Supervision, identified hundreds of the lender’s failings without taking effective action and impeded the Federal Deposit Insurance Corp. from ordering corrective steps.

Kerry Killinger, the former chief executive officer of WaMu, and another executive were sued by the FDIC last month. They were accused of taking extreme risks with the bank’s mortgage portfolio, causing billions of dollars in losses. Barry Kaplan, Killinger’s attorney, declined to comment yesterday when asked about the Senate report.

Compensation Practices

WaMu’s “troubling compensation practices went right to the top,” the panel found. Killinger received a $15 million severance payment in 2008 “when he was asked to leave the bank that failed under his management,” according to the report.

The Seattle-based lender was sold to JPMorgan Chase & Co. in September, 2008, as it collapsed. “The activities described in the subcommittee staff’s report obviously took place before we purchased Washington Mutual’s assets,” Joseph Evangelisti, a spokesman for JPMorgan, said yesterday.

WaMu, which had $300 billion of assets and 2,300 branches when it collapsed, began a strategy of emphasizing high-risk loans in 2004, the subcommittee said. The panel found that the bank’s efforts to boost loan volume involved fraud.

“WaMu management was provided with compelling evidence of deficient lending practices in internal e-mails, audit reports, and reviews,” the panel said. “Internal reviews of WaMu’s loan centers, for example, described ‘extensive fraud’ from employees ‘willfully’ circumventing bank policy.”

‘Predatory’ Lending

An internal audit of a Washington Mutual subprime subsidiary in 2005 identified “predatory” lending practices and found that staff sometimes failed to provide proper documentation. The review of early-default cases found that fraud should have been “easily detected,” the panel said.

WaMu officers who had responsibility for loan quality tried to reject some loan applications, and found that their decisions were sometimes overridden, according to the report.

Diane Kosch, a quality-assurance officer in Dublin, California, told the panel about “enormous” pressure to keep up with loan volume. “Often, when she tried to stop the approval of a loan that did not meet quality standards, it would be referred to management and approved anyway.”

WaMu’s mortgages and mortgage-backed securities were among the worst-performing in the industry, the panel found. That prompted some investors to complain.

Buyers Want Answers

David Beck, head of WaMu’s capital markets division, sent an e-mail in November, 2006, to David Schneider, the bank’s home loans president, about defaults and angry investors.

Securities issued by a WaMu subsidiary were “among the worst performing paper in the mkt in 2006,” the e-mail said. “Subordinate buyers want answers.”

Cheryl Feltgen, the chief risk officer in the home-loan division, wrote in an e-mail in February, 2007, that there was “a meltdown in the subprime market.” She recommended the thrift sell off loans, especially Option Adjustable-Rate Mortgages, or an Option ARMs.

“This seems to me to be a great time to sell as many Option ARMs as we possibly can,” she wrote to an executive.

The OTS discovered more than 500 “serious deficiencies” at WaMu from 2004 to 2008, the subcommittee reported.

The agency “failed to take action to force the bank to improve its lending operations and even impeded oversight by the bank’s backup regulator, the FDIC,” the panel said in its report.

William Ruberry, the spokesman for the OTS, which is being phased out under the Dodd-Frank financial reforms, said the agency would have no comment.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE