Bear Stearns Knew Loans Didn't Pass Muster
Ambac charges that Bear knew the loans were bad, pointing out that Bear knowingly hired inept firms to review and monitor loan quality. Then, when the "due diligence" companies did flag loans as bad, Bear overrode their decisions more than half of the time. Still worse, the suit says:
Bear Stearns ignored the proposals made by the head of its due diligence department in May 2005 to track the override decisions and instead took the opposite tack, adopting an internal policy that directed its due diligence managers to delete the communications with its due diligence firms leading to its final loan purchase decisions, thereby eliminating the audit trial.
Note that this isn't just a bare allegation by Ambac. Its complaint includes a footnote explaining that this information comes from two sworn depositions.
The suit also notes that by 2007 Bear still hadn't implemented a due-diligence overhaul designed to improve loan quality that was first proposed in 2005. In fact, it moved in the other direction. The suit explains, Bear "issued a directive in early 2005 to
reduce
the due diligence 'in order to make us more competitive on bids with larger sub-prime sellers.'"
The suit sums up Bear's motive this way: "Bear Stearns disregarded loan quality to appease its trading desk's ever increasing demand for loans to securitize."
One telling sign that Bear knew how bad the loans were: Without telling investors or bond insurers like Ambac, Bear deviated from its policies on holding onto loans before selling them. Depending on the deal or underlying loan type, Bear had a policy of holding onto the loans for a period ranging from 30 to 90 days. But once it realized how poor the loans were, it kept the policy in place on paper but violated it routinely by securitizing them earlier.
Threatening Ratings Agencies
The lawsuit also makes charges regarding Bear's efforts to keep the crappy quality of the loans hidden. One claim is that in 2007, the company threatened the ratings agencies that were downgrading Bear's mortgage-backed securities, saying it would withhold "every fee" owed to the agencies because of downgrades. Ambac also provides details of how Bear finally started reviewing its files and found that many of the mortgages in its securities violated the promised quality standards -- but didn't tell anyone about it.
When Ambac was able to review 695 loan files across several deals it insured, it discovered that 80% of the loans were bad. (To date, the suit later notes, Ambac has reviewed 6,309 loans and found that 5,724 of them violated one or more of Bear's promises about loan quality: an even worse 91% rate.) Bear rejected Ambac's requests that it repurchase the bad loans and instead implemented a trading strategy of betting against Ambac. Think about that. According to Ambac, Bear knowingly securitized bad loans, conned Ambac into insuring the deals, refused to buy back the bad loans when Ambac discovered them, and then bet against Ambac's survival. Pretty cold.
Ambac contends JPMorgan Chase kept up these tactics of concealing bad loans and refusing to buy back ones that were discovered in order to keep its balance sheet pretty, saying JP Morgan "effectively engaged in accounting fraud."
www.dailyfinance.com/story/credit/...aud-wells-fargo/19817713/
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