IndyMac was born in 1985 and originally called Countrywide Mortgage Investment by David Loeb and Angelo Mozilo. It began as an Investment Bank. It was built to collateralize Countrywide Financial loans that were too large to be sold to Freddie Mac. In 1997, Countrywide Mortgage Investment became IndyMac. The Mac in IndyMac is short for Mortgage Corporation. In 1999, IndyMac Bank was the ninth largest bank at the time and was also the 28th biggest lender in the country. In 2004, IndyMac bought Financial Freedom, which was creating and servicing reverse mortgage loans. In 2007, IndyMac made two more acquisitions, which were New York Mortgage Company and Barrington Capital Corporation (Devcic, 2009).
There are two main reasons that led the downfall of IndyMac. One of the biggest reasons it came crashing down is the questionable loans and the other one that helped IndyMac get there is the reverse mortgage businesses.
IndyMac specialized in what are known as Alt-A loans. Alt-A loans are less risky than subprime loans but they are riskier than prime loans. In 2001, 2% of the overall U.S. mortgage market was accounted by Alt-A loans with $55 billion in loan productions. Through five years, in 2006, these loans reached to 13% of the overall U.S. mortgage market with a staggering $400 billion in loan production. These loans formed the 80% of IndyMac’s business that made it the number one lender in Alt-A mortgages (Devcic, 2009).
Reverse mortgages is a type of loan that a homeowner can allocate a part of the house asset into cash while keep staying at home. Leviton states that reverse mortgages have been suggested as a promising financial tool to help low-income older homeowners who want to remain in their houses. However, actual use of this option has been much below early estimates of potential demand (2002). The collapse in the housing market made the investors stay away from the loan pools. Therefore, IndyMac could not find the money to pay the cash. The peak in the stock prices of IndyMac in 2007 was the start of the falling point of the bank. Devcic described the situation that “In April of 2008, both Moody's and Standard and Poor's downgraded the ratings of IndyMac's mortgage-backed security bonds. By that summer, the credit crisis was all over the news, housing prices were collapsing and IndyMac was in big trouble” (2009).
So the summary of the situation is that suppose the bank has $1,000,000 and by being a bank it has the right to spend $9,000,000 on mortgages with its $1,000,000. But the point here is it has only the right, it is not certain whether can afford it or not. Moreover, it is not easy to afford the $9,000,000 value mortgages when they worth $5,000,000 after a while, and it is nearly impossible to afford when the main source of $1,000,000 is coming from real estate.
The difficulty for finding funds causes IndyMac searching more on deposits to fund its mortgage originations. But the mortgages that could not be securitized created losses. The net loss in the first quarter of 2008 is $184,200,000 (Barr, 2008). These mortgages, which could not be securitized majorly formed from sub-prime securities. These securities blocked the liquidity and cause the demise to become closer for IndyMac.
During the period, investment banks bought mortgages from originated institutions. The rating agencies rates the Investment banks’ CDOs higher than they deserve, the financial engineers make the values of these CDOs higher with impractical inputs. Then, the CDOs were sold to investors. These kind of unethical and criminal activities involved in and cause the crisis later on.
Gramm-Leach-Bliley Act of 1999 is an extremely important piece of legislation in that it removes many longstanding restrictions against affiliations among banks, securities firms, and insurance companies and thus sets the stage for dramatic changes within the financial industry. The act also establishes a regulatory framework under which bank, securities, and insurance regulators supervise their respective activities within a financial holding company, while the Federal Reserve serves as “umbrella supervisor” over the entire organization (Spong, 2000, p. 33). This act creates an additional difficulty for IndyMac to cope with the demise.
It is stated in Los Angeles Times that “Federal authorities estimated that the takeover of IndyMac, which had $32 billion in assets, would cost the FDIC $4 billion to $8 billion. Regulators said deposits of up to $100,000 were safe and insured by the FDIC. The agency's insurance fund has assets of about $52 billion” (Kristof & Chang, 2008). It was a very controversial issue whether a government bailout for the bank would create a moral hazard or not and if the government did not touch the bank, would there be any systematic risks. The government and IndyMac agreed on a new business plan that if the bank could not access a new capital, it had to stop making new mortgages to shrink its balance sheet and meet the goal of improving its capital ratios.
After a while, OTS did an audit and decided that IndyMac was not stable enough to continue serving as a viable bank. As a result, OTS made a recommendation to the FDIC to take over IndyMac and move it out into bankruptcy (McGlasson, 2009). FDIC split the bank into two and moved all the good assets in one part and sold that part to OneWest Bank.
To conclude, the high-risk loans, unrealistic rates, securitization problems and falling home prices were the main reasons of the demise of IndyMac. If the necessary precautions were taken on time, there would not be any frustrating results. This is the evident that even such huge institutions like IndyMac may come to an end.
Barr, A. (2008). IndyMac Deemed Under-capitalized by Regulators. Retrieved from: http://articles.marketwatch.com/2008-07-08/news/30771107_1_indymac-shares-indymac-bancorp-chief-executive-mike-perry
Devcic, J. (2009). Too Good To Be True: The Fall Of IndyMac. Retrieved from: http://www.investopedia.com/articles/economics/09/fall-of-indymac.asp#axzz1wanE6IHi
Leviton, R. (2002). Reverse Mortgage Decision-Making. Journal of Aging & Social Policy, 13(4).
Kristof, K. M., & Chang, A. (2008). Los Angeles Times. Federal Regulators Seize Crippled IndyMac Bank. Retrieved from: http://articles.latimes.com/2008/jul/12/business/fi-indymac12
McGlasson, L. (2009). IndyMac: The Inside Story of a Bank Failure and Rebirth. Retrieved from: http://www.bankinfosecurity.com/indymac-inside-story-bank-failure-rebirth-a-1432/op-1
Spong, K. (2000). Banking Regulation: Its Purposes, Implementation, and Effects (5 ed.). Kansas City: Federal Reserve Bank of Kansas City
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