Wall Street often shelved damaging subprime reports
WASHINGTON (Reuters) - Investment banks that bundle and sell home mortgages often commissioned reports showing growing risks in subprime loans to less creditworthy borrowers but did not pass much of the information to credit rating agencies or investors, Wall Street sources said.
The mortgage consultants, known as "due-diligence firms", were hired by investment banks to make sure blocks of mortgages conform to the mortgage seller's own standards. The studies provided a first glimpse of loan quality for ratings agencies and investors who do not normally see the full reports.
As the U.S. housing boom reached its crescendo in 2006 and investors showed a strong appetite for mortgages, lenders relaxed their underwriting standards, and millions of borrowers with poor credit records were able to obtain subprime mortgages as a result.
Default rates on many of those subprime mortgages are now rising, some borrowers face foreclosure on their homes, and investors in the mortgages face losses.
"If all the information about these investments was properly disclosed, our client would have made different decisions...and, specifically, not bought these investments," said Dale Ledbetter, a Florida attorney suing Credit Suisse Group (CSGN.VX) on behalf of an insurer that lost money on mortgage bond investments.
Now some of the firms that prepared those damaging due-diligence reports say their work should be turned over to investors so they understand the underlying assets better.
"I am sure there is a value in those reports," said Joe Andrea, a partner with Opus Capital Markets Consultants of Chicago but due diligence firms like his are not empowered to release the reports, he added.
While subprime mortgage security prospectuses warned about the perils of such loans in recent years, they did not enumerate the findings of due diligence reports.
Ledbetter's suit, filed on behalf of Bankers Life Insurance Co., claims that the investment bank failed to perform or disclose proper due diligence on the mortgages it sold to investors. One of those investments was downgraded five times from early 2005 to late 2006.
Credit-Suisse has filed a motion to dismiss the case said a spokesman, Bruce Corwin.
Several due diligence firm executives said that they reported a slide in loan quality to their investment bank clients but that those mortgages were still bought up and passed on to investors.
"In some cases we felt that we were potted plants," said Keith Johnson, president of Clayton Holdings, Inc. CLAY.O, a large due-diligence firm based in Connecticut.
During the housing frenzy, many Wall Street firms appear to have overlooked due diligence warnings about problem mortgages in order to keep up with the market, due diligence executives said.
"Twelve months ago there was a lot of competition for newly originated loans and the buyer who would purchase more of the (loan) pool was more likely to win that bid. The choices sometimes were business choices," said Bruce Watterson, the president of Watterson Prime LLC of Bellevue, Washington. Watterson Prime is owned by Fidelity National Information Service Inc. (FIS.N), Watterson said.
LOAN STANDARDS EASE Continued...
