The Big Bust – Washington Mutual (WaMu)

Washington Mutual (WaMu) was one of the oldest and biggest banks in the United States. Like many of its peers, this bank had survived several financial shocks such as World Wars, Great Depression etc. Also, like many of its peers it became a big ticket casualty of the subprime mortgage crash. Washington Mutual (WaMu)’s fall is largely blamed on its extremely aggressive lending practices and poor risk management strategies. In this article, we shall have a look at the rise and fall of Washington Mutual (WaMu) in detail.

History

Washington Mutual was one of the largest banks in the United States around 2007. It was started in the 19th century as a savings and loan association. However, in 2007 it had assets totaling around $328 billion. In 1908, the bank officially changed its name to WaMu i.e. the initials used to address the bank. The company made several acquisitions and then in 1980 went public because of a reverse merger resulting out of one such acquisition of Murphy Favre, a brokerage firm. The company used both the organic route as well as the inorganic route to create growth. However, the company became aggressive about its acquisitions in the late 1990’s. This was because Washington Mutual (WaMu) was trying to gain a foothold into the secondary market for mortgages primarily subprime mortgages.

Aggressive Lending

Like all other banks that collapsed during the subprime mortgage crisis, Washington Mutual (WaMu) was very aggressive with its lending practices. The company was enthralled by the mark to market profits ebing made by many subprime mortgage lenders and wanted a piece of the pie.

It is for this reason that Washington Mutual (WaMu) acquired Long Beach Financial i.e. one of the biggest lenders of subprime loans along the West Coast. When Washington Mutual (WaMu) purchased Long Beach, the latter was already known for having lax lending standards. Secondary market players were wary of buying the debt originated by Long Beach. However, Washington Mutual (WaMu) had aggressive plans to reform this and they did in fact succeed in doing so. Washington Mutual (WaMu) won over investor confidence and by 2007, they were selling 10 times as much mortgage debt to the secondary market than they were selling in 2001! Washington Mutual (WaMu) had suddenly catapulted from being one of the lesser known players in the mortgage market to being one of the key players.

Aggressive Lending Credit Cards

Washington Mutual (WaMu)’s foray into aggressive lending did not end with its mortgage related acquisitions. The company was also in the business of providing high risk no collateral credit card debt to subprime borrowers. Once again Washington Mutual (WaMu) did this with the help of acquisitions. They acquired Providian which once again largely operated on the West Coast and was one of the largest credit card issuer for subprime borrowers. This acquisition of Providian’s extremely high risk portfolio had officially made Washington Mutual (WaMu) one of the riskiest financial corporations in the US

The Bust

Washington Mutual (WaMu) started facing the heat of the subprime mortgage bust a little later than other banks. It was only after the collapse of New Century financial and the trouble being reported at Countrywide Financial that Washington Mutual (WaMu) faced some heat.

This was controlled by the management via a twofold plan. The first plan was to convince the investors that they have the wherewithal to sustain the losses that may be inflicted by the current debacle. The second plan was to ensure that their reputation as a seller of mortgages to secondary market increases because the secondary market was becoming extremely picky in whom they now brought the morgages from. As a result, Washington Mutual (WaMu) set aside $500 million for mitigating losses. They also dramatically raised their lending standard.

The desperate measures seemed to continue over time at Washington Mutual (WaMu). Later that same year the company decided to shut down some lines of business and eliminated as many as 3000 employees in a bid to save costs. Also, since cash flow was becoming a problem, the company also cut its dividends by 73% in the same year and plowed back the additional cash to meet any contingencies that may arise on account of the subprime lending.

In 2008, the noose finally came to be tied across Washington Mutual (WaMu)’s neck. The losses being reported by Washington Mutual (WaMu) were twice as much as the ones being reported by the peers. This was largely attributed to the credit card portfolio which was taken over from Providian. While central bankers saw some hope for other banks, Washington Mutual (WaMu)’s health was immediately written off. The assets that were held by the bank were sold off to the rival JP Morgan for pennies on the dollar. As a result the shareholders and the bondholders were completely wiped out. However, the customers of the bank did not face any losses. This sale which was done at a very fast pace was supervised by the Federal Deposit Insurance Committee (FDIC).

To sum it up, Washington Mutual (WaMu)’s growth was caused by its aggressive lending practices and fast acquisitions. For some time, this strategy seemed to be working and Washington Mutual (WaMu) seemed to be growing. However, over a period of time, the asset portfolio at this bank severely deteriorated. As a result, when crisis struck, Washington Mutual (WaMu) fell down like a pack of cards.