How Allstate Used Sampling To Confirm JPMorgan/WaMu Lied About Virtually Everything When Selling Mortgages

Tyler Durden's picture

A month ago, we wrote an article titled: "How Allstate Used Sampling To Confirm BofA/Countrywide Lied About Virtually Everything When Selling Mortgages" in which we described how the insurance company used sampling to confirm that Bank of America had misrepresented virtually every metric when selling mortgages: everything from loan LTV, to percentage of owner-occupied properties. The differentials in some cases were as large as 50%. Today, Allstate, again under the guidance of Quinn Emmanuel, has used the same technique to determine that JPM and WaMu are guilty of precisely the same criminal misrepresentation in its prospectuses when selling tens of thousands of loans. And once again, this will most certainly lead to absolutely nothing. The reason? Just read Matt Taibbi's Rolling Stone piece on why when it comes to crime, Wall Street has a limitless "get out of jail" card. The alternative is a domino-like fall out that would likely see most if not all Wall Street executives actually having to lose sleep over the possibility of jail time (which would also take down every single externally regulating and SRO organization created to "police" the greatest scam in history). And that, as the FCIC has determined, will never happen until the market is in an uptrend. What happens after the next (and final, unless intelligent and wealth extraterrestrial life is discovered, willing to bail out the entire world which has gone all in the ponzi recreation quest) crash is a different story.

From the Allstate vs JP Morgan lawsuit:

Allstate selected a random sample of loans from each offering in which it invested to test Defendants’ representations on a loan-level basis. Using techniques and methodologies that only recently became available, Allstate conducted loan-level analyses on nearly 26,809 mortgage loans underlying its Certificates, across 17 of the offerings at issue here.

For each offering, Allstate attempted to analyze 800 defaulted loans and 800 randomly-sampled loans from within the collateral pool. These sample sizes are more than sufficient to provide statistically-significant data to demonstrate the degree of misrepresentation of the Mortgage Loans’ characteristics. Analyzing data for each Mortgage Loan in each Offering would have been cost-prohibitive and unnecessary. Statistical sampling is an accepted method of establishing reliable conclusions about broader data sets, and is routinely used by courts, government agencies, and private businesses. As the size of a sample increases, the reliability of its estimations of the total population’s characteristics increase as well. Experts in RMBS cases have found that a sample size of just 400 loans can provide statistically significant data, regardless of the size of the actual loan pool, because it is unlikely that such a sample would yield results markedly different from results for the entire population.

Specifically, Allstate did the following:

To determine whether a given borrower actually occupied the property as claimed, Allstate investigated tax information for the sampled loans. One would expect that a borrower residing at a property would have his or her tax bills sent to that address, and would take all applicable tax exemptions available to residents of that property. If a borrower had his or her tax records sent to another address, that is good evidence that he or she was not actually residing at the mortgaged property. If a borrower declined to make certain tax exemption elections that depend on the borrower living at the property, that also is strong evidence the borrower was living elsewhere.

A review of credit records was also conducted. One would expect that people have bills sent to their primary address. If a borrower was telling creditors to send bills to another address, even six months after buying the property, it is good evidence he or she was living elsewhere.

A review of property records was also conducted. It is less likely that a borrower lives in any one property if in fact that borrower owns multiple properties. It is even less likely the borrower resides at the mortgaged property if a concurrently-owned separate property did not have its own tax bills sent to the property included in the mortgage pool.

A review of other lien records was also conducted. If the property was subject to additional liens but those materials were sent elsewhere, that is good evidence the borrower was not living at the mortgaged property. If the other lien involved a conflicting declaration of residency, that too would be good evidence that the borrower did not live in the subject property.

In a nutshell, as Allstate summarizes, it was lies all the way:

the disclosed underwriting standards were systematically ignored in originating or otherwise acquiring non-compliant loans. For instance, recent reviews of the loan files underlying some of Allstate’s Certificates reveal a pervasive lack of proper documentation, facially absurd (yet unchecked) claims about the borrower’s purported income, and the routine disregard of purported underwriting guidelines. Based on data compiled from third-party due diligence firms, the federal Financial Crisis Inquiry Commission (“FCIC”) noted in its January 2011 report:

The Commission concludes that firms securitizing mortgages failed to perform adequate due diligence on the mortgages they purchased and at times knowingly waived compliance with underwriting standards. Potential investors were not fully informed or were misled about the poor quality of the mortgages contained in some mortgage-related securities. These problems appear to be significant.

Some of the unbelievable findings are presented below. They speak for themselves...and, again in any normal non-banana republic, would lead to at least several criminal prosecutions. In America? No way.

Not surprisingly, the performance of loans issued by JPM and its acquisition Bear, deteriorated rapidly post issuance:

And some other notable disclosures from the Allstate filing:

Evidence Demonstrates That Credit Ratings Were A Garbage-In, Garbage-Out Process
The supposedly-independent ratings given to the Certificates by the major credit rating agencies were based on the loan profiles fed to the agencies by Defendants. As previously explained, key components of that data were false. As such, Defendants essentially predetermined the ratings by feeding garbage into the ratings system. This rendered misleading Defendants’ representations concerning the significance of the Certificates’ credit ratings because Defendants failed to disclose that the ratings would be based entirely on information provided by Defendants themselves, and therefore would not reflect the true credit risk associated with the Certificates.

Defendants Were An Integrated Vertical Operation Controlling Every Aspect Of The Securitization Process
Because the Wall Street banks, such as JPMorgan and Bear Stearns, wanted to ensure a steady supply of mortgage loans to securitize, they often acquired their own loan originators. Conversely, loan originators, such as WMB, often formed their own underwriters so they could securitize their loans without paying fees to the Wall Street banks. In this way, Defendants became integrated vertical operations controlling every aspect of the securitization process, giving them actual knowledge about every aspect of the securitization process, from loan origination through sale to Allstate.

Percentage of Known Non-Conforming Loans. Defendants fraudulently omitted the fact that both the underwriters’ internal due diligence, as well as third-party due diligence firms, had identified numerous loans that did not conform to the stated underwriting guidelines. Nor did Defendants disclose that many of those very same non-conforming loans had been “waived” into the collateral pools underlying the Certificates anyway. That high numbers of rejected loans were knowingly being included in the underlying mortgage pools is not only a fraudulent omission in its own right, but makes even more misleading Defendants’ disclosures about their underwriting process.

Owner Occupancy Statistics. The Offering Materials made specific representations regarding the percentage of borrowers who would be occupying the property being mortgaged – a key risk metric given that borrowers are less likely to “walk away” from properties they live in, as compared to properties being used as vacation homes or investments. Analytical tools recently made available to investors confirm that, in truth, a far greater percentage of the loans underlying Allstate’s Certificates than represented were given to borrowers who lived elsewhere.

(iv) Loan-to-Value Ratios. The Offering Materials represented that the underlying loans had specific loan-to-value (“LTV”) and combined loan-to-value (“CLTV”) ratios. These are additional key risk metrics, because they represent the equity “cushion” that borrowers have, and the likelihood of repayment to lenders upon foreclosure. Analytical tools recently made available to investors confirm that the Offering Materials vastly overstated the value of the collateral being included in the loan pools, and hid additional liens that had been placed on the properties. This falsely reduced the loans’ LTV and CLTV ratios.

(v) Purpose And Use Of Exceptions. The Offering Materials represented that loans which did not meet certain criteria were approved as “exceptions” only on the basis of countervailing features of the borrowers’ risk profiles that ‘made up’ for negative aspects of the risk profile. In truth, however, “exceptions” were used as a way to increase loan volume by circumventing the applicable underwriting guidelines. For instance, recent reviews of the loan files underlying some of Allstate’s Certificates reveal that non-compliant mortgage loans did not have any identified countervailing features, and that various undisclosed procedures were employed to create loan pools outside of the disclosed underwriting guidelines.

Credit Enhancement Features. The Offering Materials represented that the Certificates had certain “credit enhancements” used to improve the likelihood that holders of such certificates would receive regular principal and interest payments thereon.  “Credit enhancements” are features designed to reduce the risk of loss to investors in the senior tranches of certificates. These features can include overcollateralization (i.e., the value of the collateral underlying the certificates is greater than the principal balance of the certificates), the subordination in right of payment of junior certificates to senior certificates, the establishment of reserve accounts, a mortgage pool insurance policy, an interest rate swap agreement, or a combination of such features

Regardless of the glaring evidence to the contrary, we are now 100% confident that nothing short of another cataclysmic market crush, which will occur once the Central Planning cartel finally loses control of the market, nobody will be held accountable for the same bubble reflation that the Fed itself is now hoping and praying that banks can succeed in. Hoping otherwise is nothing less than supreme naivete as to how the US "democratic" system operates.

Full filing