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The Securities and Exchange Commission has charged six former Fannie Mae and Freddie Mac officials with misleading investors about risky loans. Judy Woodruff discusses how the alleged wrongdoings may have contributed to the mortgage meltdown with Edward Pinto of the American Enterprise Institute and Lynn Turner of LitiNomics.
The people who were running two mortgage giants when the housing bubble burst were formally accused today of civil fraud. The Securities and Exchange Commission filed a lawsuit naming six former executives at Fannie Mae and Freddie Mac.
The six were accused of lying about how deeply Fannie and Freddie had invested in securities backed by risky home mortgages.
ROBERT KHUZAMI, Securities and Exchange Commission: In two separate complaints, we allege that these individuals caused their companies to materially — materially misstate their subprime mortgage exposure in filings with the SEC, through public statements, through investor calls and media interviews.
The head of the SEC's Enforcement Division, Robert Khuzami, spoke in Washington, and said the charges go right to the top.
Our suits reach into the corporate boardrooms and name the former CEO of Fannie Mae, Daniel Mudd, and the former chairman and CEO of Freddie Mac, Richard Syron.
Together, Mudd and Syron, seen here at a congressional hearing in 2008, are the highest-profile individuals to be accused in the financial crisis. Four other senior executives were also named, two from each company.
Fannie and Freddie own or guarantee about half of all U.S. home mortgages. But the housing meltdown brought them to the brink of collapse, and the government seized control of both in September 2008. Since then, the federal government has lent the firms more than $150 billion, the largest bailout of the financial crisis.
Mudd was fired from Fannie after the federal takeover, and, today, he insisted the lawsuit should never have been brought. He said — quote — "Every piece of material data about loans held by Fannie Mae was known to the United States government and to the investing public. The SEC is wrong" — end quote.
The institutions Fannie and Freddie entered agreements with the government today, accepting responsibility for their conduct, without admitting or denying the allegations. Federal criminal investigations are also under way into the two firms.
And we take a closer look now at today's charges with Edward Pinto. He's a resident fellow at the American Enterprise Institute, and he served as executive vice president and chief credit officer for Fannie Mae in the 1980s. And Lynn Turner was chief accountant for the Securities and Exchange Commission from 1998 to 2001. He's now a managing director at the consulting firm LitiNomics.
We thank you both for being with us.
Edward Pinto, to you first.
Remind us before we talk about these charges of, what exactly was Fannie Mae and Freddie Mac's role during the time of this complaint, late 2006 to the middle of 2008, in the housing market?
EDWARD PINTO, former Fannie Mae executive: Fannie and Freddie were the biggest players in the secondary market. They controlled a substantial portion.
Another substantial portion was controlled by private mortgage-backed security issuers. But they had a very large participation in the marketplace and were buying large quantities.
Secondary market meaning?
Primary market is the origination. Secondary market is what happens to the loans after they're originated, who ends up with the loans.
Now, Lynn Turner, how significant are these fraud charges?
LYNN TURNER, former Securities and Exchange Commission chief accountant: I think these are very significant.
I think they're a very positive development for investors, in that it shows, in this case, the government is willing to go after and hold accountable the people at the very top when they don't fully disclose very important information to those who are buying stocks, making investment in this type of company.
But it has taken several years to bring these charges. What does that say to you?
You know, having been involved with SEC investigation and the legal process, it is not unusual that it would take this long to start an investigation, issue subpoenas, get documents, go through them, go back and forth in the court with the defense attorneys.
So I don't think this is a particularly long period of time. It's just that the wheels of justice grind slowly at this time. And I do think the SEC has within a reasonable time period brought this case.
Edward Pinto, I read much of the language in both of these complaints today, a lot of detail about particularly what Daniel Mudd and Syron did at Fannie and Freddie.
Help us understand what they are being charged with. What specifically did they do that was wrong, that was illegal?
I think, to simplify it, they made many statements that said, we are not really investors in subprime mortgages. And we define subprime mortgages — in some places, they talk about them as mortgages with impaired credit, but in other places, they said, but the only things that we actually count as subprime mortgages are those where someone else called them subprime or someone else called them Alt-A.
And yet, internally, they were tracking things another way. And so in the case of Freddie Mac, according to the SEC complaint, they say Freddie Mac was counting things as subprime-like or near-subprime. And so they're saying, well, on one hand, they're telling investors one thing, but internally they were keeping track of other things.
And this really relates to the Jekyll and Hyde nature that people have talked about with Fannie and Freddie. They had one persona that they presented to investors, which said, we're low-risk, we're not doing this, we're not doing that. On the other hand, they would go to the government and say, we're doing affordable housing and higher-risk loans, and we are getting credit for that.
So it really put them in a very difficult position.
Well, Lynn Turner, as we just reported a moment ago, what — what — the statement from Daniel Mudd is that the — he said the SEC is wrong. He said, the government knew everything we were doing. He said, the public, the investing public knew everything we were doing.
What do you make of that?
Well, I think that's pretty well describing what his defense case is going to be. He's going to argue that the regulator, in this case the Federal Housing Finance Authority, had the chance to look at everything, which is true, knew about everything. That, we will find out.
But I suspect that, at the end of the day, he will have a difficult time showing that the investors he sold stock to really were told about all the type of information on these loans that made them so risky. I think that's going to be the crux of the case. And I suspect, at the end of the day, the SEC will have a good case.
How do you see that, Edward Pinto, having looked at the complaint?
I have looked at the complaint. I can tell you a couple of things.
One is I know on good authority the SEC has been looking at this for three years. So it took them time to develop this. It's a very detailed complaint, going into a lot of information. They seem to understand things. I was very impressed with that understanding in how they laid things out.
Secondly, I have talked to people, including one individual, a very sophisticated chief investment officer who went through the Fannie-Freddie documents back three, four years ago, and concluded they didn't have much exposure, based on what they were telling them.
And then, when you actually parse through things and add everything up that was in various spots, things they disclosed, didn't disclose, you get a very different picture. And so I think what is impressive about this particular set of complaints is that they really go into the details and show that, internally, they were describing one thing, and, externally, they were describing something else.
They had a program called the Expanded Approval Program, where they would basically create expanded guidelines and take much more risky loans. They clearly knew what these were, how risky they were, and they were very specific about not including them in the subprime, even though they had characteristics, as the complaint describes, that were more risky than what they were calling subprime.
Now, Lynn Turner, we know that there have been so many other private sector financial institutions that were involved in the housing, in the mortgage markets, including ones that went under, Bear Stearns, Lehman Brothers, to varying degrees, and many other institutions that were helped by the government.
What is your sense of why the SEC chose to go after Fannie and Freddie first or rather than the other private sector institutions?
I suspect part of what may be behind this is, in fact, the government controls Fannie and Freddie now. Their regulator runs and operates them.
So when the SEC reaches an agreement with the company, it's like the government negotiating with itself on these particular cases. And it might have made it easier to do some of these filings from that perspective. On the other hand, it does raise the question of, when you had similar situations at the private sector, large institutions, the big banks that required the bailouts and all, just as Fannie and Freddie did, why hasn't the SEC brought the same type of cases at those?
For example, we know that those executives were telling investors things were okay at the same time that we now know the Fed was lending massive amounts of money for them. So, it seems like you have got a dichotomy between how the SEC is treating someone that's totally controlled by the government now and those that are out in the private sector.
Edward Pinto, how do you see that?
Well, I think what they have concluded is that Fannie and Freddie — and you asked how big they were — back in 2008, they had about $4.5 trillion of single-family mortgages, which was a little under half of all the mortgages outstanding.
It now turns out, based on the SEC analysis, which really corroborates analysis I did three years ago, that about a third of Fannie and Freddie's exposure were these risky loans. Well, you couldn't tell that from their disclosures. And that had an impact on the entire market because they were so huge. You're talking about $1.5 trillion of very risky loans. And they were telling people, we don't have that many risky loans.
Gentlemen, we are going to leave it there.
Edward Pinto and Lynn Turner, thank you very much.
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