Risk Management

Does Crime Rhyme with Subprime?

News that the feds are probing 14 companies involved in mortgage securitization was applauded today by presidential candidate Hillary Clinton, but ...
Stephen TaubJanuary 30, 2008

News that the FBI has launched criminal investigations of 14 companies connected to the subprime mortgage crisis was applauded today by the presidential campaign of Senator Hillary Clinton (D-NY).

“For a long time families and community groups have been saying that the subprime mortgage industry was rife with abuses,” Clinton said in a statement released to the press. “A federal investigation of industry practices is long overdue.”

By contrast, in a speech before the Real Estate Roundtable today, Treasury Secretary Henry Paulson made no mention of any potential criminal activity, characterizing the current crisis as “a significant housing correction.” Paulson added that “some lessons are very clear,” and said “an abundant supply of easy credit and a decline in lending standards were major contributors” to the crisis.

The Wall Street Journal reported Tuesday that the FBI is looking into possible fraud by various parties involved in mortgage securitization, including those that bundled the loans and the banks that invested in the securities. However, none of the 14 companies supposedly under investigation was named.

The FBI also is probing possible insider trading and other wrongdoing at financial firms that have been forced into bankruptcy as a result of the mortgage crisis, according to the report, which said that as many as 1,200 potential mortgage fraud cases are being investigated.

“We have observed that subprime loans are decreasing, but the suspicious activity reports we see have noted that suspicions of mortgage fraud are increasing,” Sharon Ormsby, the financial crimes section chief in the FBI’s criminal investigative division, told Journal.

Despite reports that the FBI’s investigation apparently focuses on companies involved in writing subprime mortgages, Paulson’s speech praised an industry-led effort to rewrite some of the most troubled mortgages. As CFO.com has reported, that effort stretches some of the accounting rules involved in securitization, but received the approval of the Securities and Exchange Commission. In an apparent nod to the problems created by the financing technique, Paulson noted that another partial cause of the crisis has been “complex and opaque financial instruments and structures, such as the use of conduits and SIVs.” He also noted that “investor practices and rating agency issues,” bore some of the blame.