Mark Riedy can legitimately say to his University of San Diego students, "I told you so."
The executive director of the USD Burnham-Moores Center for Real Estate tells an office visitor one Wednesday afternoon that he started worrying about the mortgage industry years ago -- and he wasn't alone.
"Everyone knew there were problems brewing with the subprime mortgage markets," Riedy said. "The kinds of mortgages that were being created were not hidden from view."
Underneath it all was an unwillingness to properly assess risk and the assumption that home values would continue to rise.
"It's greed throughout the whole system, and it was accommodated by the fact that prices were going up so rapidly," he said.
Riedy, who has a penchant for metaphors, often compares the financial crisis to quicksand, with no bottom in sight, or a line of dominoes, just waiting to fall.
"We don't know how many dominoes there's going to be because we can't stop the process," he said, pointing to commercial real estate as possibly the next to fall, "and we don't know all the interrelationships that are there."
Riedy has devoted nearly 40 years to real estate finance, with a career that has at times positioned him among the influential people in his field. Among his former titles: president, chief operating officer and director of Fannie Mae (NYSE: FNM); vice president and chief economist of the Federal Home Loan Bank of San Francisco; and senior staff economist under former President Richard Nixon.
Riedy has also served in executive roles for the Mortgage Bankers Association of America and the National Council of Community Bankers, as well as on the boards of several companies, including San Diego-based BioMed Realty Trust (NYSE: BMR).
These days, however, Riedy spends his workdays passing along his practical experience to undergraduate and graduate students at USD.
For this industry veteran, the culprits in the mortgage crisis can be found in almost every sector of mortgage finance -- a series of weak links in an already convoluted chain.
"It was the whole system, and the investors got it in the shorts because they had faith in everybody," he said.
Problems can be traced back to the 1990s, Riedy said, when Congress and presidential administrations began to push for higher percentages of homeownership. Before 1998, rates had floated between 63 and 66 percent since the 1960s. In the last 10 years, the national homeowner rate has approached 70 percent, according to a U.S. Census Bureau report. Third quarter 2008 saw a homeownership rate of 67.9 percent -- down from rates seen between 2005 and 2007.
A rate of 66.5 percent was "where you hit the limit of who could afford to get into the mortgage market," said Riedy, who notes San Diego hovers around 55 percent homeownership, yet was among the first to suffer.
Under increasing congressional pressure, Fannie Mae and Freddie Mac (NYSE: FRE) -- established to create liquidity and stability in the mortgage market through securitization -- began to relax standards so more low-income families could afford homes.
Seasoned mortgage brokers began to tell Riedy that Fannie Mae and Freddie Mac were approving loans the two government-sponsored enterprises would never have guaranteed in the past.
"I got suspicious and concerned at that point that they were moving away from their mission," said Riedy, who was president of Fannie Mae in the 1980s. "They bought their freedom, but at a price that turned out to be too high."
Brokers and bankers alike -- on commission -- were free to sell more and more loans, regardless of risk. Some brokers took loan applications despite dishonest income reporting. Declining a loan meant driving clients to competitors.
Executives told Riedy that they were aware of the danger in subprime, but requiring their lending officers to adhere to sound standards would mean losing talent as employees sought more commission with other companies.
Rating agencies, which offer third-party guarantees for loans Fannie Mae and Freddie Mac are unable to approve, followed suit. Doling out less-than-stellar securities ratings meant fewer issuers would knock on their doors.
Regulators did nothing -- they couldn't, Riedy said.
At the time, Washington, D.C., practiced a deregulatory philosophy, and Fannie and Freddie held considerable sway over D.C. lobbyists. Budget constraints likely played a factor as well, limiting the staff that regulators could deploy. Besides, housing prices were still rising.
"The truth is, the government never seems to respond in a major way unless there's a crisis," said Riedy, who by then was living in San Diego and felt his hands were also tied. "Until it hits the fan, no one's going to do anything about it."
The situation was exacerbated by the consumer tendency to tap home equity, encouraged by tax incentives dating back to 1986 and the continuing notion that home prices would increase by as much as 8 percent to 10 percent each year. Instead, the unsustainable prices reversed direction, while interest rates rose. Defaults and foreclosures rose dramatically in 2006 and 2007, pushing additional houses into a market characterized by high prices.
"It really accelerated the collapse of the housing market," Riedy said.
He maintains that homeownership remains an admirable cause, citing benefits from social stability to neighborhood pride. However, the cost of advancing unqualified borrowers is too high.
"You can't have it both ways," Riedy said.
A renewed focus on affordable housing may be needed, but Riedy prefers reversing negative attitudes toward renting and directing policy toward improving rental neighborhoods.
"Other things can make a community other than homeownership," Riedy said.
Regardless, the reworked lending system of the future needs to be simpler and more transparent for borrowers, he agreed.
Prospective homeowners need to understand what they are signing -- an adult education course for first-time homebuyers would not be a bad idea, Riedy said. Both mortgage brokers and ratings agencies need to be under heavier regulation.
"Anybody tied to the money you need to rethink," he said.
The key is in the restoration of trust: Perhaps the biggest losers in this crisis are all the investors -- from foreign firms to U.S. commercial banks -- whose faith in Fannie Mae, Freddie Mac and ratings agencies has been shattered, Riedy said.
These investors must be guaranteed a payoff, or "made whole" as Riedy puts it.
He doesn't favor widespread, unconditional bailouts: The U.S. government has been unable to guarantee that lenders would direct funds to consumers, and helping fraudulent borrowers would fail to hold such borrowers accountable.
He also expressed skepticism at the Federal Reserve's move last week to purchase obligations from Fannie, Freddie and Federal Home Loan Banks as well as mortgage-backed securities, mostly concerned that the regional home-loan banks had not been reviewed closely enough.
But innocent consumers who got in over their heads deserve some help, Riedy said, likening their situation to a natural disaster area. Disaster victims receive government aid without question; they are not told to avoid living in disaster-prone areas.
Riedy criticizes the idea of modifying mortgages or suspending foreclosures, which has been championed by government officials from former San Diego City Attorney Michael Aguirre to Gov. Arnold Schwarzenegger to President-elect Barack Obama.
Reworking a mortgage alters a contract, Riedy said, and simply passes along losses to the investor. A moratorium on foreclosures -- recently enacted by Fannie Mae and Freddie Mac for the holiday season -- delays the inevitable and also puts more losses on banks' books.
"Who in their right mind is ever going to invest in mortgage market again?" Riedy said. "Investors need to be able to rely upon laws to protect their value."
Riedy won't admit to having the answers, but knows that things need to move forward as much as they need to be fixed.
"We don't want to go back 50 years to one loan at a time; our markets our way beyond that point," he said. "We need that mortgage-backed securities market, and right now it's broken."
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