Forms and Regulations? We don't need any stinking forms and regulations!

I had been at the Bank of Hell for a few weeks when a staff meeting was held, for my benefit, to fill me in on the nuances around the local Bank of Hell branch. The Mortgage Devil had called the meeting under the guise that it was to help me but like everything he does, it really was all about giving him an hour of floor time so that we might be enlightened as to why he was God's gift to the mortgage industry and a fabulous boss.

I was still adjusting to the fact that everyone in that office seemed to hate me right off the bat and it was pretty obvious that they didn't take well to newbies. If I hadn't been so distracted by the office bitchiness and what was proving to be an interesting case study in sociology and anthropology, I would have realized that something was seriously wrong.

In the interest of full disclosure, I have to point out that at the time of this meeting I was still largely ignorant of the internal functions of the mortgage industry. Compounding this ignorance, was an unfamiliarity with the processes of working for a bank rather than a broker. As a broker, my company did not service any of its own loans and I had two outlets for lending. The first being the correspondent loan channel, where we underwrote loans internally according to the investor's guidelines and then they purchased the loan after double checking that we handled the loan according to their standards. The other channel was the broker channel, where I sent the loan to another company to be underwritten and it closed in that company's name. This didn't necessarily mean that the loan would be serviced by the company I shipped the loan to, just that it never had the appearance of being my company's loan product. Basically, I was leaving an environment where I sold other company's loan products to join an environment where I sold the Bank of Hell's loan products. This distinction is tremendously important to the incentives facing decision makers within these firms.

The meeting starts with the Mortgage Devil pontificating about how great the Bank of Hell is and how his production stacks up in the company. At this point, I am a bit in awe of him, I still think he might be a mentor and help me become more successful. So like a complete asshole, I nod and smile at all his accomplishments while ignoring the eye rolling and under the breath comments of his assistants. During staff meetings they would pass notes and call him an asshole and douchebag under their breath while sporting fake smiles to go with their fake tans, fake hair, and fake intelligence.

The meeting goes on and we are discussing a few of my loans and I ask a simple question: "Where do I get a condo questionnaire?" The Mortgage Devil says, "What the hell is a condo questionnaire?" I feel stupid because this man has been in the industry 30 years longer than me and if he doesn't know what a condo questionnaire is then perhaps, I shouldn't either. I explain that at my previous company, if I did a loan on a condominium or a loan in certain developments, we had to send out a form to the homeowner's association that would verify if it was "warrantable" and approved by Fannie Mae or Freddie Mac. The Mortgage Devil looked at me like I just suggested that that we should elect Brittney Spears president of the mortgage division. He dismissed me with, "We don't do that here, we are a bank." So I asked if all condominiums are eligible to lend money on at the Bank of Hell and he told me that indeed, there is no such thing as an ineligible condominium and that we don't worry about those matters because we don't have to sell our loans. I was confused but since I really didn't know the channels and approval processes of the bank, I figured I should take the word of the Mortgage Devil. I even remember thinking how great it was to be at a bank since there was going to be a lot less red tape and impediments to getting loans closed. Yippee, more money for me.

For those of you whom have never worked in the mortgage business, this probably seems like an incredibly innocous conversation. But make no mistake, this is an example of what was happening around the mortgage industry during the housing boom that eventually led to the demise of banks, homeowners, and millions of investors. What I didn't know at the time, was that lack of a condo questionnaire was indicative of a more pervasive problem and that ranged from cutting corners to what probably was outright mortgage fraud by the Mortgage Devil and his minions at the Bank of Hell.

The best I can figure now, with perspective and distance, is that if a loan was underwritten in our office, and not sent to corporate headquarters in Dante's Inferno, corners were cut and forms that were actually required by Fannie Mae were either filled out by processors to make the loan look compliant or were just ignored.

In later posts, I will elaborate on why the regulation of banks is so ineffective but I want to at least make a point about the incentive structure that is responsible for a lot of the ills in the mortgage business.

1. At some point, banks became more concerned about the number of loans closed than the quality of those loans. Now this was intertwined with the ability to package and ship ugly loans as mortgage backed securities but also was cemented into policies within the bank that made for fast and loose decision making and underwriting. At some point, the Bank of Hell changed the payment structure for loan processors and underwriters, such that their salary was now tied to the number of loans that they approved and closed. It basically was like putting the gate keepers on commission for the number of people they let through the gate. Ummm, turns out, that is a pretty shitty idea. When you are getting rewarded for opening the gates, you become a greeter rather than a gatekeeper.

2. The compensation structure for loan officers was incredibly lucrative. At small local banks, historically, loan officers were typically paid a salary and then rewarded for the quality of their loans in bonuses. At some point, this model was abandoned in favor of a bank not having to pay their loan officer any kind of base salary. Obviously, this reduced short term expenses for the bank by making loan officers accountable for generating their own salary in commission. The problem is, that a loan officer who doesn't get rewarded for the quality of their loans, has every incentive to go out and get every loan they can to increase their bottom line. And this is exactly what happened. The long term cost of this probably outweighed the short term savings for a lot of companies because it created an environment where everyone who should have known a loan shouldn't get made had every incentive to make that loan.

3. This doesn't even touch the surface of the perverse incentives rampant in the banking and mortgage industry. I haven't even gotten to district managers, vice presidents, and the financial market innovations that allowed risk to be distributed to those people who didn't even know they were taking it.

I don't want to give the impression that everyone in the mortgage industry was an unscrupulous douchebag, some people like A. Hole and myself behaved ethically and didn't realize what was going on around us at the time and how it played into the bigger picture. On the other hand, The Mortgage Devil was an unscrupulous douchebag and our company not only gave gave him every incentive to do so but they rewarded him handsomely for his behavior.

Two weeks in hell, seventy six to go. Stay tuned, it gets ugly quick.