Part 2 - Countrywide Financial

Part 1 - You Can Blame The French is below.

tradersutra.blogspot.com/2009/08/you-can-blame-french.html

On a side note, there is a very interesting article in the NY Times.

www.nytimes.com/2009/08/22/business/22museum.html?_r=1"

This is Part 2 of a multi-part series on the credit crisis.

On or about late October 2007, Countrywide Financial which was led by the George Hamilton-esqe perpetual tanned Angelo Mozillo reported a stunning $1.2B loss that was twice as worst what analysts were predicting. This was the first loss the company had posted in nearly 25 years. Countrywide was at the time the 2ND largest mortgage lender behind Wamu. Of course, like BNP Paribas, CEO, Mozillo dismissed the losses as a temporary thing. That the company was transitioning into different type of lending. The stock tanked badly that day continuing its downward path, but analysts as they do tried to keep the lid on the situation.

The words "SUB PRIME", had crept into investors vocabulary earlier in the spring/summer, first with BNP Paribas, then US Lenders like New Century Financial and American Home Mortgage collapsed.

Countrywide finances mortgages, then they package them for sale as MBS to investors and institutions. Most if not a huge percentage of the securitization of these loans were non conforming. A non conforming mortgage is a residential mortgage that does not conform to the rules set by Fannie Mae & Freddie Mac. This just means that the underlying individual mortgages have a dollar amount above the guidelines set forth by the GSE's. These mortgages are considered "Jumbo" mortgages, and cant be packaged and guaranteed by the GSE's. The figure or cut off currently is $417K, which has steadily risen from $215K just 12 years ago.

www.fanniemae.com/media/pdf/historicalloanlimits.pdf"

As the mortgage market gained steam, housing prices appreciated, and it made Fannie and Freddie buy and guarantee more and more mortgages. As lending standards evaporated so did the solvency of these two GSE's.

Lot of these were also "sub prime" mortgages, loans which did not meet FNMA/FHLMC underwriting guidelines because of credit quality or a high LTV ratio.

So what happens here is non conforming loans must remain in on lender's portfolio, or be sold to other companies who purchase non conforming loans, or be securitized, with the securities being sold to investors seeking non conforming mortgage-backed securities. These securities then trade on the secondary market.

Back tracking to early August 2007, On the 3rd, this very secondary market essentially stopped trading most of the non conforming securities. Secondary mortgage market disruptions had happened in the past, but this particular disruption appeared more serious. This looked to be a much larger problem. Lots of mortgages just stopped trading below AAA level, and eventually only conforming mortgages were trading at all. New Century Financials bankruptcy earlier in April 2007 was largely ignored by the media, but credit markets were already getting nervous. Then on the 6Th of August, American Home Mortgage collapsed, and more attention was then focused on Countrywide. At that time some 17% of all mortgages in the US was issued by Countrywide. Its really interesting that Mozillo and the Wall Street Analyst Whore Machine were playing damage control, while Countrywide disclosed to the SEC, that the secondary mortgage dislocation could hurt itself financially.

"Since the company is highly dependent on the availability of credit to finance its operations, disruptions in the debt markets or a reduction in our credit ratings could have an adverse impact on our earnings and financial condition, particularly in the short term… Current conditions in the debt markets include reduced liquidity and increased credit risk premiums for certain market participants. These conditions, which increase the cost and reduce the availability of debt, may continue or worsen in the future…. There can be no assurance, however, that the Company will be successful in these efforts, that such facilities will be adequate or that the cost of debt will allow us to operate at profitable levels."

This really spooked investors and a major "run" on the bank commenced. From this Fitch, Moody's, and S&P downgraded Countrywide almost to junk status. The cost of insuring its debt rose a stunning 22% overnight. Whats also interesting was that when New Century was doing its death spiral earlier in the year, everyone knew the type of clients it was servicing, and that Countrywide had the same clients, but why didn't these same ratings agencies act then?

At that time some 50 other mortgage lenders had already filed for bankruptcy, and many were predicting the same for Countrywide, yet the stock was still at $21.

On August 16, it openly expressed liquidity concerns because of disruptions in the secondary mortgage market. Also they started to draw on a line of credit from a group of 40 banks including JP Morgan. They went and drew some $12B to save the ship. The next day, depositors started to withdraw money, and the company came out with a plan to make 90% of their new mortgages conforming. It was a little to late, as the stock had already dropped some 75% from its peak. It was also at this moment the Fed lowered the discount rate 50 basis points, which relieved market participants, the market bounced huge that day. The Fed also accepted $17B in repo agreements for MBS to try to stabilize that market. Again, problems start - print money, problems creep up - throw money at it.

Of course Countrywide then came out restating earnings for the better part of the decade. The firm had claimed non accrued interest from ARM mortgages as income.

The New York Times Ran This Story Right Around This Time.

www.nytimes.com/2007/08/26/business/yourmoney/26country.html?ei=5070&en=9afc4f7bae7f357d&ex=1188792000&adxnnl=1&emc=eta1&adxnnlx=1188126301-Zf4GXhoAP536TwWMRwE3Vw"

After more shenanigans from the Treasury/FRB, Countrywide obtained $2B in new capital from Bank Of America.

Fast forward to late November 2007, Countrywide got smoked down to $8.64, on rumors that the Atlanta FHLB had extended credit to the firm to offset the inability to raise funds in the private market.

BTW....Mozillo sold most of his stock realizing $291M in profits during 2005-2007.

The end game here is Countrywide was eventually sold to Bank Of America for $4B in early 2008.

From August right through the Bear Stearns debacle in mid 2008, the Federal Reserve along with Treasury just stood there printing money at every turn.

The whole planet was shaken and stirred, as markets fell out bed right out of the gate in 2008. Each time the Fed came to the rescue with lower rates.

The markets actually clawed back in the spring of 2008, until:

PART 3 - Bear Stearns