“Almost no one expected what was coming. It's not fair to blame us for not predicting the unthinkable.” — Daniel Mudd, former chief executive, Fannie Mae
By the time Daniel Mudd became Fannie Mae's chief executive in 2004, his company was under siege.
Competitors were snatching lucrative parts of its business. Congress was demanding that Mudd help steer more loans to low-income borrowers. Lenders were threatening to sell directly to Wall Street unless Fannie bought a bigger chunk of their riskiest loans.
So Mudd made a fateful choice. Disregarding warnings that lenders were making too many loans that would never be repaid, he steered Fannie into more treacherous corners of the mortgage market, according to executives.
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Between 2005 and 2008, Fannie purchased or guaranteed at least $230 billion in loans to risky borrowers — more than three times as much as in all its earlier years combined, according to company filings and industry data.
“We didn't really know what we were buying,” said Marc Gott, an ex-director in Fannie's loan servicing department. “This system was designed for plain vanilla loans, and we were trying to push chocolate sundaes through the gears.”
Last month, the White House was forced to orchestrate a $200 billion rescue of Fannie and its corporate cousin, Freddie Mac. On Sept. 26, the companies disclosed that federal prosecutors and the Securities and Exchange Commission were investigating potential accounting and governance problems.
Mudd said in an interview that he responded as best he could given the company's challenges, and worked to balance risks prudently.
“Fannie Mae faced the danger that the market would pass us by,” he said. “We were afraid that lenders would be selling products we weren't buying, and Congress would feel like we weren't fulfilling our mission.”
Between 2001 and 2004, the overall subprime mortgage market — loans to the riskiest borrowers — grew from $160 billion to $540 billion, according to Inside Mortgage Finance, a trade publication. Communities were inundated with billboards and fliers from subprime companies offering to help almost anyone buy a home.
“You're dealing with massive amounts of information that flow in over months,” Mudd said. “You almost never have an ‘Oh, my God' moment. Even now, most of the loans we bought are doing fine.”
But, of course, that moment of truth did arrive.
Within a few years of Mudd's arrival, Fannie was the most powerful mortgage company on earth.
Then it began to crumble.
Between 2005 and 2007, the company's acquisitions of mortgages with down payments of less than 10 percent almost tripled. As the market for risky loans soared to $1 trillion, Fannie expanded in white-hot real estate areas like California and Florida.
For two years, Mudd operated without a permanent chief risk officer to guard against unhealthy hazards. When Enrico Dallavecchia was hired for that position in 2006, he told Mudd that the company should be charging more for risky loans.
In the following months, Dallavecchia warned that some markets were becoming overheated and argued that a housing bubble had formed. But many of the warnings were rebuffed.
Mudd told Dallavecchia that the market, shareholders and Congress all thought the companies should be taking more risks, not fewer, according to a person who observed the conversation. “Who am I supposed to fight with first?” Mudd asked.
In the interview, Mudd said he never made those comments. Dallavecchia was among those whom Mudd forced out of the company during a reorganization in August.
Mudd said it was almost impossible to foresee trouble, because Fannie interacts with lenders rather than borrowers, creating a delay in recognizing market conditions.
He said that Fannie sought to balance market demands prudently against internal standards, that executives sought to avoid unwise risks, and that Fannie bought far fewer troublesome loans than many other financial institutions. Mudd said he heeded many warnings from his executives and that Fannie refused to buy many risky loans, regardless of outside pressures.
In the middle of last year it became clear that millions of borrowers would stop paying their mortgages. For Fannie, this raised the terrifying prospect of paying billions of dollars to honor its guarantees.
Today, Mudd, who lost millions of dollars, often travels to New York for job interviews. He recalled that one of his sons recently asked him why he had been fired.
“Sometimes things don't work out, no matter how hard you try,” he replied.