All the Devils Are Here Read online

  Table of Contents

  Title Page

  Copyright Page

  Dedication

  Chapter 1 - The Three Amigos

  Chapter 2 - “Ground Zero, Baby”

  Chapter 3 - The Big, Fat Gap

  Chapter 4 - Risky Business

  Chapter 5 - A Nice Little BISTRO

  Chapter 6 - The Wizard of Fed

  Chapter 7 - The Committee to Save the World

  Chapter 8 - Why Everyone Loved Moody’s

  Chapter 9 - “I Like Big Bucks and I Cannot Lie”

  Chapter 10 - The Carnival Barker

  Chapter 11 - Goldman Envy

  Chapter 12 - The Fannie Follies

  Chapter 13 - The Wrap

  Chapter 14 - Mr. Ambassador

  Chapter 15 - “When I Look a Homeowner in the Eye…”

  Chapter 16 - Hank Paulson Takes the Plunge

  Chapter 17 - “I’m Short Your House”

  Chapter 18 - The Smart Guys

  Chapter 19 - The Gathering Storm

  Chapter 20 - The Dumb Guys

  Chapter 21 - Collateral Damage

  Chapter 22 - The Volcano Erupts

  Epilogue: Rage at the Machine

  Acknowledgements

  INDEX

  PORTFOLIO / PENGUIN

  Published by the Penguin Group

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  First published in 2010 by Portfolio / Penguin, a member of Penguin Group (USA) Inc.

  Copyright © Bethany McLean and Joseph Nocera, 2010 All rights reserved

  Library of Congress Cataloging-in-Publication Data

  McLean, Bethany.

  All the devils are here : the hidden history of the financial crisis / Bethany McLean and Joe Nocera. p. cm.

  Includes index.

  eISBN : 978-1-101-44479-5

  1. Global Financial Crisis, 2008-2009 2. Financial crises—United States—History—21st century. 3. Mortgage-backed securities—United States. 4. Subprime mortgage loans—United States. I. Nocera, Joseph. II. Title.

  HB37172008 .M35 2010

  330.973’093—dc22

  2010032893

  Without limiting the rights under copyright reserved above, no part of this publication may be reproduced, stored in or introduced into a retrieval system, or transmitted, in any form or by any means (electronic, mechanical, photocopying, recording, or otherwise), without the prior written permission of both the copyright owner and the above publisher of this book.

  The scanning, uploading, and distribution of this book via the Internet or via any other means without the permission of the publisher is illegal and punishable by law. Please purchase only authorized electronic editions and do not participate in or encourage electronic piracy of copyrightable materials. Your support of the author’s rights is appreciated.

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  For Sean, and Dawn

  CAST OF CHARACTERS

  THE MORTGAGE MEN

  Ameriquest

  Roland Arnall Founder of ACC Capital Holdings, the parent company of Ameriquest. A subprime lending pioneer who became a billionaire. His first company, Long Beach Mortgage, spawned more than a dozen other subprime companies.

  Aseem Mital Ameriquest veteran who became CEO in 2005.

  Ed Parker Mortgage veteran hired in 2003 to investigate lending fraud in Ameriquest’s branches.

  Deval Patrick Assistant attorney general who led the government’s charge against Long Beach in 1996, only to join Ameriquest’s board in 2004.

  Countrywide Financial

  Stanford Kurland President and COO. Long seen as Mozilo’s successor, he left the company in 2006.

  David Loeb Co-founder, president, and chairman. Stepped down in 2000.

  John McMurray Countrywide’s chief risk officer.

  Angelo Mozilo Co-founder and CEO until 2008. Dreamed of spreading homeownership to the masses. Became a billionaire in the process, but couldn’t resist pressure to enter the subprime mortgage business.

  David Sambol The head of Countrywide’s sales force. Aggressively pushed Countrywide to keep up with subprime lenders.

  Eric Sieracki Longtime Countrywide employee who was named CFO in 2005.

  Primary Residential

  Dave Zitting Old-school mortgage banker who steered clear of subprime lending.

  Ownit

  Bill Dallas Founder of Ownit, a subprime company in which Merrill Lynch held a 20 percent stake.

  THE FINANCIAL INSTITUTIONS

  American International Group (AIG)

  Steve Bensinger CFO under Martin Sullivan from 2005 to 2008.

  Joe Cassano CEO of AIG Financial Products from 2001 to 2008.

  Andrew Forster One of Cassano’s chief deputies in London.

  Al Frost AIG-FP marketer at the center of the multisector CDO deals that put AIG on the hook for $60 billion of subprime exposure.

  Maurice R. “Hank” Greenberg AIG’s CEO from 1968 to 2005. Forced to resign by Eliot Spitzer.

  Gene Park AIG-FP executive who noticed the early warning signs on multisector CDOs.

  Tom Savage CEO of AIG-FP from 1994 to 2001.

  Howard Sosin Founder of AIG-FP. Ran it from 1987 to 1993.

  Martin Sullivan Succeeded Greenberg in 2005. Forced out by the board in 2008.

  Robert Willumstad Sullivan’s successor as CEO until the financial crisis hit four months later.

  Bear Stearns

  Ralph Cioffi Bear Stearns hedge fund manager. His two funds—originally worth $20 billion—went bankrupt in the summer of 2007 because of their subprime exposure.

  Matthew Tannin Cioffi’s partner. Cioffi and Tannin were tried for fraud and found not guilty.

  Steve Van Solkema Analyst who worked for Cioffi and Tannin.

  Fannie Mae

  Jim Johnson CEO from 1991 to 1998. Perfected Fannie’s take-no-prisoners approach to regulators and critics.

  Daniel Mudd CEO from 2005 to 2008.

  Franklin Raines CEO from 1999 to 2004. Forced to step down over an accounting scandal.

  Goldman Sachs

  Josh Birnbaum Star trader who specialized in the ABX index.

  Lloyd Blankfein Current CEO.

  Craig Broderick Current chief risk officer.

  Gary Cohn Current president and COO.

  Jon Corzine Senior partner who convinced the partnership to go public. Replaced by Hank Paulson within days of the IPO.

  Steve Friedman Co-head of Goldman Sachs with Robert Rubin.

  Dan Sparks Head of the Goldman mortgage desk from 2006 to 2008.

  Michael Swenson Co-head of the structured products group under Sparks.

  John Thain Co-COO under Paulson until 2003.

  Fabrice Tourre Mortgage trader under Sparks. Later named as a defendant in the SEC’s suit against the company.

  David Viniar CFO.

  J.P. Morgan

  Mark Brickell Lobby
ist who fought derivatives regulation on behalf of J.P. Morgan and the International Swaps and Derivatives Association. President of ISDA from 1988 to 1992.

  Till Guldimann Executive who led the development of Value at Risk modeling and shared VaR with other banks.

  Blythe Masters Derivatives saleswoman who put together J.P. Morgan’s first credit default swap in 1994.

  Sir Dennis Weatherstone Chairman and CEO from 1990 to 1994.

  Merrill Lynch

  Michael Blum Executive charged with purchasing a mortgage company, First Franklin, in 2006. Served on Ownit’s board.

  John Breit Longtime Merrill Lynch risk manager who specialized in evaluating derivatives risk.

  Ahmass Fakahany Co-president and COO under CEO Stanley O’Neal.

  Greg Fleming Co-president—with Fakahany—until O’Neal’s resignation in 2007.

  Dow Kim Head of trading and investment banking until 2007.

  David Komansky O’Neal’s predecessor as CEO.

  Jeffrey Kronthal Oversaw Merrill’s mortgage trading desk under Kim. Fired in 2006.

  Dale Lattanzio Chris Ricciardi’s successor as the leader of Merrill Lynch’s CDO business.

  Stan O’Neal CEO from 2002 to 2007. Created the culture that allowed the buildup of Merrill Lynch’s massive exposure to securities backed by subprime mortgages.

  Tom Patrick CFO under Komansky and executive vice chairman under O’Neal. Seen as O’Neal’s ally until O’Neal fired him in 2003.

  Chris Ricciardi Head of Merrill’s CDO team from 2003 to 2006. While at Prudential Securities in the mid-1990s, worked on one of the first mortgage-backed CDOs.

  Osman Semerci Installed as global head of fixed income, reporting to Kim, in 2006. Fired in 2007.

  Arshad Zakaria Head of global markets and investment banking. Considered a close ally of O’Neal until forced out in August 2003.

  Moody’s

  Mark Adelson Longtime Moody’s analyst and co-head of the asset-backed securities group whose skepticism was at odds with Brian Clarkson’s vision for the agency. Quit in 2000.

  Brian Clarkson Co-head of the asset-backed securities group who aggressively pursued market share. Named president in 2007.

  Eric Kolchinsky Managing director in charge of rating asset-backed CDOs. Oversaw the rating process for John Paulson’s Abacus deal.

  Raymond McDaniel CEO.

  THE PIONEERS

  Larry Fink Devised the idea of “tranching” mortgage-backed securities to parcel out risk. Underwrote some of the first mortgage-backed securities for First Boston in the 1980s. Later founded BlackRock and served as a key government adviser during the financial crisis.

  David Maxwell Fannie Mae’s CEO from 1981 to 1991. Important player in the early days of mortgage securitization.

  Lew Ranieri Salomon Brothers bond trader who helped invent the mortgage-backed security in the 1980s.

  THE REGULATORS

  Attorneys General

  Prentiss Cox Head of the consumer enforcement division in the Minnesota attorney general’s office from 2001 to 2005.

  Tom Miller Iowa attorney general who fought predatory lending.

  Eliot Spitzer New York State attorney general from 1999 to 2006.

  Commodity Futures Trading Commission

  Brooksley Born Chair of the CFTC from 1996 to 1999. Attempted to increase oversight of derivatives dealers.

  Wendy Gramm Chair of the CFTC from 1988 to 1993.

  Michael Greenberger Director of the CFTC’s division of trading and markets under Born.

  United States Congress

  Richard Baker Louisiana congressman who introduced a bill to reform Fannie Mae and Freddie Mac in 1999.

  James Bothwell Author of two key General Accounting Office reports, one criticizing Fannie and Freddie and the other calling for regulation of derivatives.

  Charles Bowsher Head of the GAO from 1981 to 1996. Bothwell’s ally.

  Phil Gramm Chairman of the Senate banking committee from 1989 to 2003. Opposed regulation of derivatives. The “Gramm” in Gramm-Leach-Bliley, the law that abolished the Glass-Steagall Act.

  Jim Leach Chair of the House banking committee from 1995 to 2001. Criticized Fannie and Freddie. The “Leach” in Gramm-Leach-Bliley.

  Department of Housing and Urban Development

  Andrew Cuomo HUD secretary from 1997 to 2001. Crossed swords with Jim Johnson. Increased Fannie and Freddie’s affordable housing goals.

  Armando Falcon Jr. Director of the Office of Federal Housing Enterprise Oversight from 1999 to 2005. Outspoken critic of Fannie and Freddie, the two institutions his office was charged with regulating.

  Jim Lockhart Director of OFHEO from 2006 to 2008.

  Department of the Treasury

  John Dugan Comptroller of the currency starting in 2004.

  Gary Gensler Former Goldman executive who became assistant Treasury secretary under Robert Rubin. Testified in favor of Baker’s bill. Current chairman of the U.S. Commodity Futures Trading Commission.

  James Gilleran Director of the Office of Thrift Supervision from 2001 to 2005.

  John “Jerry” Hawke Comptroller of the currency from 1998 to 2004.

  Henry “Hank” Paulson Jr. Treasury secretary from 2006 to 2009. Previously chairman and CEO of Goldman Sachs.

  John Reich Director of the OTS from 2005 to 2009.

  Robert Rubin Treasury secretary from 1995 to 1999. Previously co-chairman of Goldman Sachs.

  Bob Steel Undersecretary for domestic finance in 2006. Former Goldman vice chairman brought to Treasury by Paulson.

  Larry Summers Treasury secretary from 1999 to 2001. Rubin’s deputy before that. Along with Rubin and Alan Greenspan, the third member of “the Committee to Save the World.”

  Federal Deposit Insurance Corporation

  Sheila Bair Current chair of the FDIC. Assistant Treasury secretary for financial institutions from 2001 to 2002.

  Donna Tanoue Chair of the FDIC from 1998 to 2001.

  Federal Reserve

  Ben Bernanke Chairman of the Federal Reserve starting in 2006.

  Timothy Geithner President of the New York Federal Reserve from 2003 to 2009.

  Edward “Ned” Gramlich Federal Reserve governor from 1997 to 2005. Longtime head of the Fed’s committee on consumer and community affairs under Alan Greenspan.

  Alan Greenspan Chairman of the Federal Reserve from 1987 to 2006.

  Securities and Exchange Commission

  Christopher Cox Chairman from 2005 to 2009.

  Arthur Levitt Chairman from 1993 to 2001.

  THE SKEPTICS

  Michael Burry California hedge fund manager who began shorting mortgage-backed securities in 2005.

  Robert Gnaizda Former general counsel of the public policy group Greenlining Institute who called for scrutiny of unregulated lenders.

  Greg Lippman Deutsche Bank mortgage trader. One of the few Wall Street traders to turn against subprime mortgages early on.

  John Paulson Hedge fund manager who made $4 billion buying credit default swaps on subprime mortgage-backed securities.

  Andrew Redleaf Head of the Minneapolis-based hedge fund Whitebox Advisors. Used credit default swaps to short the subprime mortgage market in 2006.

  Josh Rosner Former Wall Street analyst who grew skeptical of the housing boom. Published a research paper entitled “A Home without Equity Is Just a Rental with Debt” in 2001.

  KEY ACRONYMS

  ABCP: Asset-backed commercial paper. Very short-term loans, allowing firms to conduct their daily business, backed by mortgages or other assets. Part of the “plumbing” of Wall Street.

  ABS: Asset-backed securities. Bonds comprising thousands of loans—which could include credit card debt, student loans, auto loans, and mortgages—bundled together into a security.

  AIG: American International Group.

  ARM: Adjustable-rate mortgage.

  CDOs: Collateralized debt obligations. Securities that comprise the debt of different companies or tr
anches of asset-backed securities.

  CDOs Squared: Collateralized debt obligations squared. Securities backed by tranches of other CDOs.

  CFTC: Commodities Futures Trading Commission. Government agency that regulates the futures industry.

  CSE: Consolidated supervised entities. An effort by the Securities and Exchange Commission in 2004 to create a voluntary supervisory regime to regulate the big investment bank holding companies.

  FCIC: Financial Crisis Inquiry Commission. Commission charged by Congress with investigating the causes of the financial crisis.

  FDIC: Federal Deposit Insurance Corporation. Government agency that insures bank deposits and takes over failing banks. Also plays a supervisory role over the banking industry.

  FHA: Federal Housing Administration.

  GAO: General Accounting Office. Government agency that conducts investigations at the request of members of Congress.

  GSEs: Government-sponsored enterprises. Washington-speak for Fannie Mae and Freddie Mac.

  HOEPA: The Homeownership and Equity Protection Act. A 1994 law giving the Federal Reserve the authority to prohibit abusive lending practices.

  HUD: Department of Housing and Urban Development. Sets “affordable housing goals” for Fannie Mae and Freddie Mac.

  LTCM: Long-Term Capital Management. Large hedge fund that collapsed in 1998.

  MBS: Mortgage-backed securities.

  NRSROs: Nationally Recognized Statistical Ratings Organizations. The three major credit rating agencies, Moody’s, Standard & Poor’s, and Fitch, were granted this status by the government.

  OCC: Office of the Comptroller of the Currency. The primary national bank regulator.

  OFHEO: Office of Federal Housing Enterprise Oversight. Fannie Mae’s and Freddie Mac’s regulator from 1992 to 2008.

  OTS: Office of Thrift Supervision. Regulated the S&L industry, as well as certain other financial institutions, including AIG.