If the housing boom was a drug epidemic, investors were like crack addicts, driven by the need for more and more profit. Mortgage brokers were the street dealers, doing the dirty work to get the deals done.
And Wall Street was the drug cartel. Investment firms including Goldman Sachs, Merrill Lynch and Lehman Brothers controlled the mortgage business from top to bottom. They knew they were selling poison. But they continued anyway, because they were making so much money, according to “Reckless Endangerment,” a new book by New York Times writer Gretchen Morgenson and financial consultant Joshua Rosner.
It’s the second book published this month to reach the same conclusion, that Wall Street firms were responsible for the subprime mortgage bubble and bust.
“Just as drug lords know that their products pose hazards to their customers, the Wall Street firms packaging and selling mortgage pools to investors knew well before their customers did that the loans inside the securities had begun to go bad,” according to an adaptation of “Reckless Endangerment” published in the Huffington Post.
The new book is the latest in a string of publications with similar findings. As we reported earlier this month, law professor Kathleen Engel followed the subprime mortgage boom from its beginning in the late 1990s. Her book, the “Subprime Virus,” reached the same conclusions as Morgenson and Rosner about who caused the current mess.
“The investment banks like to portray themselves as just innocent middlemen,” says Engel, a law professor at Suffolk University in Boston. “That’s just not true. They made the market. They were in control.”
Where Engel’s research is airtight and her descriptions meticulous, Morgenson and Rosner shoot from the hip. The excerpt printed in Huffington Post careens randomly from Goldman Sachs’ role in orchestrating the mortgage meltdown to the collection of Ansel Adams photographs amassed by Fremont Investment & Loan, which used Goldman’s money to sell $28 billion in mostly subprime mortgages in 2006.
But if the writing in “Reckless Endangerment” feels a little overheated and disorganized, it may do a better job than Engel’s relatively academic work of translating the arcane actions of Wall Street investment firms into plain English.
By early 2004, fees from securitizing new mortgages began to falter because most people who could afford to buy homes had already done so, taking advantage of the Fed’s super-low interest rates. So Wall Street firms faced a choice, Morgenson and Rosner write: Do the hard work of finding legitimate ways to keep profits high, or take the easy route and keep the mortgage geyser going by offering ever-more risky loans.
Wall Street chose the easy route, Rosner and Morgenson find.
[Article: Finally, Bank Villains Are Named]
“(K)eeping the mortgage machine humming would also require that investment banks ignore numerous signs of wrongdoing along the way. This meant putting their own interests ahead of their clients’ at every turn,” they write. “While nobody mistook Wall Street banks for charity organizations, the degree to which these firms embraced and facilitated corrupt mortgage lending was stunning.”
Wall Street deceived its customers by hiding risky loans inside larger packages of safer mortgages, and paying ratings firms to describe the deals as safer than they really were, Morgenson and Rosner find. Firms including Bear Stearns and Morgan Stanley also created side bets called Collateralized Debt Obligations, which ostensibly acted like insurance but actually increased the risk by allowing investors to bet multiple times on the same–fundamentally bad–mortgages.
Most insidious, these complicated investment deals “allowed the firms who were selling them to bet against the clients buying them,” Morgenson and Rosner write.
“It’s like dog racing,” Engel told us. “You could have a trillion dollars’ worth of bets on an issuance of a million dollars.”