Like so many banks, Washington Mutual was part of the low interest craze in the mortgage business during the major boom in the housing market in the earlier part of the 2000s. And when Kerry Killinger was the WaMu CEO, the bank grew to having over $300 billion in assets.
When the housing market and subprime bubble came to a crashing halt in September 2008, Kelly Killinger was kicked off of the Board of Directors, and federal regulators came in and seized the bank. In fact, WaMu is the biggest bank failure in the history of the United States.
Linda and Kerry Killinger share in their new book, “Nothing Is Too Big to Fail: How the Last Financial Crisis Informs Today,” their take on the failure of Washington Mutual Bank, the way the US government responded to the previous crisis, and where they see serious risks happening right now in today’s economic environment.
The Washington Mutual Bank Failure Is the Largest Failure of Any Bank in the History of the United States
In their book, Linda and Kerry state how federal regulators made mistakes in the way that they treated thrifts and Washington Mutual Bank, or S&L Associations, who focused on consumer lending and savings deposits.
They believe that many mistakes happened at this time, in particular during the previous financial crisis. And Kerry says that the government regulators were definitely responsible in part for making some of the big mistakes. He believes that the government regulators didn’t have a game plan in place to handle the crisis correctly.
Throughout the book, they mention that they feel asset bubbles are beginning to form through a range of many different asset classes including luxury items, art, stocks, and specifically the housing market.
For many real estate investors, this is a good thing. Because once these bubbles burst, housing prices are going to drop precipitously and many buying opportunities will present themselves. These buying opportunities will offer a way for investors to buy houses cheaply, that they can later on flip for a profit.
MarketWatch interviewed Linda and Kerry Killinger about their book. They talked about avoiding another meltdown like the one in 2008, the Federal Reserve, and more.
We’ll summarize this interview for you below.
MarketWatch asked the Killingers about the introduction to the book, and mentioned that they appear to argue that different books talking about the previous financial crisis completely glossed over the main factors that created the meltdown in the first place. They asked them if their perspective differed from other experts on the subject.
Linda Kittinger responded that she wrote this book because the WaMu experience was so out of the ordinary and the whole thing was seriously crazy. She says that during the 80s, she was actually an international accounting firm partner, and one of her jobs was to come up with plans with the regulators to help failing banks. She recognized that the regulators always worked hard to make sure these banks could acquire liquidity, or they would work to help save the bank unless it was riddled with problems or crimes.
She goes on to say that during the 2008 crisis, it felt like no one was there to actually help Community banks get back on their feet. In fact, she believes they did the exact opposite. They went after the Community banks instead of helping them. And she believes that this was something that needed to be written about because it’s different than how things were handled in the past, and also important because Community banks needed and deserved the help.
Kerry Killinger says that he basically focused on public policy. He wants to make sure that the financial industry and America learned the important lessons that they should’ve learned in 2008. He’s really concerned that the Federal Reserve and regulators recent policies could potentially lead us right back into another major financial crisis.
Some of the policies currently being adopted by the Federal Reserve and the regulators and government may be leading us to a new financial crisis.”
– Kerry Killinger
MarketWatch mentions that in their book, they talk about how they believe another residential real estate bubble is beginning to form. And they also mention that other asset bubbles are also on the horizon as well.
MarketWatch wants to know about their beliefs in the causation of the housing bubble that led to the beginnings of the Great Recession. And they also want to know how the experiences in 2008 compared to what’s going on in the financial world right now.
Kerry Killinger stated that he’s gone through numerous different housing cycles throughout his career, and he includes the major market bubble that took place in the early 2000’s. This major bubble back then was caused because the Federal Reserve kept interest rates low – the rate was below the rate of inflation for numerous years. This happened between 2000 and 2003. These lower mortgage payments were actually so low that housing prices kept going higher and higher because houses were more affordable because mortgage interest rate payments were so low. Because of this, the price of houses rose so high and so fast – much quicker than the rate of inflation.
Suggested Reading: Fannie Mae tightens lending requirements. It may become tougher for you to get a loan through Fannie Mae.
Then he said that between 2000 and 2006, the price of houses across the nation rose by 83%. And during the same time period, Inflation only rose by roughly 20%. So, this massive housing price increase far surpassed the overall rate of inflation. Normally, the price of a house will typically rise at the same rate as the rate of inflation, which usually equates to about 2% per year. So, there was definitely a massive period of speculation going on in the housing market, and the price of houses went up way too quickly, and investors and other speculators jumped on board without abandon.
To keep fueling the fire, Freddie Mac and Fannie Mae reduced their underwriting standards along with Wall Street, bank portfolio lenders, the VA, and the FHA. And to top it off, subprime lending grew massively at the same time. This all happened because they kept interest rates low for so long, which was a major driving factor in creating the housing market bubble.
Killinger went on to say that today, the Federal Reserve is following along with the same policy of keeping interest rates incredibly low along with Fed fund rates. And the Fed is keeping 30-year fixed mortgage rates at artificially low levels as well by buying assets and putting them in their own portfolio, which include mortgage-backed securities. They are also widely increasing guarantees, claiming that the Fed has done everything in its power to fight the economic downturn with its policies.
The combination of these actions, according to Kerry Killinger, have led to what he calls ultra low mortgage payments, which has created housing price surges once again. In 2015, housing prices went up by 36% – this is actually three times higher than the inflation rate during the same period.
Kerry Killinger mentions another similarity – investors and speculators are hopping in the market once again. But this time around larger entities are purchasing tracks of homes for rental houses. This means that non-owner-occupied houses from investors have gone up in this past year alone from 31.9% to 34.4%. This speculation is like a repeat of what happened during the 2008 housing crisis, with investors leading the charge in a big way.
This time around, subprime lending isn’t really a major factor, which is fortunate, but the FHA is increasingly adding to their subprime lending along with government enterprises like the VA and other agencies.
Some good news is that it truly appears that underwriting standards have remained much stricter and better than they were in the early 2000’s leading up to the housing crisis. But Kerry Killinger also believes that the ultralow interest mortgage rates have seriously inflated housing prices at this time.
MarketWatch mentions that in the book, Kerry Killinger writes about the response of the Federal Reserve last time around and how it made the financial crisis much worse. And in the current time, Killinger is saying that the Fed is also a major contributor to creating the rising housing prices right now that could definitely lead to another housing bubble that is arguably forming at this moment. Does he believe that the Fed is playing a role in the formation of this new bubble?
According to Kerry Killinger, he believes that this time around the Fed learned that they need to have a lot more liquidity to prevent the next crisis. His major concern is that he believes the Fed is hooked on ultra low interest rate expansive policies, asset purchases, asset guarantees, and flooding the system with liquidity to avoid trouble.Those policies are definitely appropriate to help the economy prevent a recession and they’re needed to keep things stabilized, over a short length of time. But he also states that this method of recession stabilization creates inflation and asset bubbles.
The Fed has gotten hooked on these expansive policies of ultralow interest rates, asset guarantees, asset purchases and flooding the system with liquidity for a long period of time.”
– Kerry Killinger
Now they are in a major conundrum. These were appropriate policies to help us move past Covid 19. But the longer they keep them around and implement the same policies, the more they are going to keep inflating bubbles in different markets including the housing market. And it’s hard to manage these bubbles and keep them orderly.
Every asset has its ups and downs, but the key to manage them is preventing an immediate implosion. Is it what they did in 2008? Overall, the longer these bubbles have the opportunity to grow, the greater challenge they present in the future.
This definitely presents a unique opportunity for investors. Knowing that the housing market bubble will eventually burst means sitting on the sidelines for now, and jumping in once housing prices crash and then stabilize.
MarketWatch next mentioned that both Linda and Kerry strongly support community banks and believe that they should continue to play a major role in the mortgage industry. But after the Great Recession, many community banks have either eliminated or reduced their mortgage businesses, claiming the regulations have created steep costs. Many non-bank mortgage companies have stepped in to fill this major void. MarketWatch wants to know if the federal government should take steps to make it simpler for Community banks to lend money for mortgages. And they also want to know how they should go about making this task easier.
Linda Killinger answered that it depends. She feels that if an organization appears like a bank and implements mortgages like a bank that it should experience the same banking regulations. Unless they provide some major service that a bank can’t provide – then they are doing the same job is community banks except they aren’t experiencing the same levels of regulation.
The major problem is that things are looking really great right now because most of the banks are selling to Freddie Mac and Fannie Mae. Their guidelines are very good at the moment, but non-banks and hedge funds that also do not have regulations along with other Wall Street entities could start making securitized loans as well. This will lower the standards in the mortgage industry while attracting more people.
This is especially true if the new president, Joe Biden, and Congress are looking to create affordable housing and the actions they take as they attempt to push for more. We definitely need more affordable housing, but it shouldn’t come the way that it came previously. In the 90s during the last time, Fannie Mae believed that 33% of the loans should be low- and middle-income loans, but by 2008 LMI loans were 60%. So, Congress puts tremendous pressure on Freddie Mac and Fannie Mae as well as other regulators to continue pushing LMI lending. This really needs to be done delicately in the future, and community banks should definitely have an involvement because they understand how to do it correctly.
If it looks like a bank, it smells like a bank and does mortgages like a bank, it should be regulated like a bank.
– Linda Killinger
MarketWatch mentions that when the pandemic first started, regulators and federal lawmakers quickly provided homeowners with forbearance options who suddenly had no income and suffered from economic uncertainty. Within the past year, there are a number of homeowners that still cannot make their monthly mortgage payments and remain in forbearance. The foreclosure moratorium remains in place, so homeowners currently aren’t at major risk to lose their homes. But that possibility is definitely lingering. MarketWatch wants to know what needs to happen to prevent the next foreclosure crisis?
Laura Killinger stated that during the crisis in 2007, when the housing and financial markets first began to collapse, she said that Kerry put together a WaMu fund worth $3 billion to help subprime borrowers remain in their homes. He lowered their payments, lowered the amount of money they owed, and made it manageable for them to remain in their residences. She believes that banks should responsibly do things like this. Because once the forbearances finally disappear, organizations and banks must be willing to write down principle or lower monthly payments to help people remain afloat just a little bit longer.
Kerry Killinger stated that for the most part, lenders are much better off keeping the original homeowner in their home, as long as they can make it affordable. And the last thing you need is to go through the foreclosure process, because it’s a painful experience for everyone and it’s also very costly.
At Washington Mutual, there always attempted to try their best to keep the homeowner within their home for as long as humanly possible, and he believes that this is positive and something that the government did correctly once the Covid 19 virus hit.
Many of the solutions they used are appropriate for the short-term crises going on, but for the long term the solutions must fit in with a normal environment, so that only a small percentage of homes wind up in foreclosure. These homes are just homes for the wrong people at the wrong time.
People never think about this any longer, but in some markets home prices are going to fall again for whatever reason. In the last five years – and especially in the past 12 months – we’ve seen a rapid escalation in home prices, in which these prices will become unstable and definitely experience some kind of correction, especially when interest rates begin going up and reaching normal levels.
One of the more controversial things Kerry says is that if inflation rises at 2% per year, and GDP grows at 2-2 ½% per year, 30-year fixed mortgage rates should remain at 4.5% to 5% in that range.
MarketWatch also wanted to know if they believe consumers can stomach mortgage interest rates at 4 ½ to 5%, after having interest rates remain so low for so long.
Kerry Killinger believes that obviously everyone wants to keep the good times rolling along. And everyone wants the price of their assets to continue going up and financing costs to remain incredibly low. So many people obviously wish for this. Ultimately, he and his wife just want to warn everyone that these things never last forever. At the moment, borrowing costs remain low below the rate of inflation and below historic levels, but it will not likely last forever.
He isn’t sure if it matters whether consumers like it or not, but long-term mortgage equilibrium fits better at 4 ½% to 5%. He just wants to throw it out there in case something happens, and housing affordability will become more stressed and mortgage payments will begin to grow. This will lower the cost of housing prices typically, and possibly help avoid the problems that we eventually reached in 2008 when the housing market crashed. But the Fed is smart enough at this point to avoid pulling liquidity to create this massive downward spiral, which is obviously a good thing. But at the same time, over several years we can see a time of downward pressure on housing prices as it becomes difficult to buy affordable housing because of rising mortgage payments each month.
Right now, you have borrowing costs substantially below the rate of inflation and way below historic norms, and that’s unlikely to last forever.
– Kerry Killinger
How to Make the Most of the Potential Housing Bubble Opportunity
Investors need to realize that the housing bubble presents a potential opportunity that they can make the most of in the future. If housing prices will eventually begin to experience downward pressure, you could always sit on the sidelines for the time being to buy property once the market housing bubble bursts.
On the other side of the coin, investors who currently own property might want to consider selling while the housing prices are overinflated. The opportunity to receive more money for your property has never been greater than it has been over the past decade. But according to Kerry Killinger and Linda Killinger, this upward price momentum is eventually going to come to an end.
So, you may want to sell your property now while the market is burning hot, and then reinvest in a couple years after the downward price pressure begins to lower the cost of buying a house in the future.
No one can tell you how to invest and you know what’s best for your personal situation. But having all of the information is necessary to making the best decisions for your financial well-being.
Please use this information as best you possibly can. And remember, the housing market is always in flux. Prices might be high right now, but they likely will not remain this way so make the most of this information and then use the low-price momentum to buy properties cheaper in the future.