Sunday, November 9, 2008

Kerry Killinger, Daniel Mudd, and Richard Syron are not Stupid, Greedy, or Crooks

An article in today's Seattle Times says "Washington Mutual suffered an ugly death, leaving thousands without jobs, homeowners facing foreclosure, a civic crater in Seattle and a 100 year old institution flushed away by miscalculation and greed...Shareholders are also appalled by what they see as incompetence, and worse, by executives in their failure to protect the company...The Ontario Teachers Pension Plan Board of Canada, a major shareholder, has filed a securities class action complaint against Washington Mutual and some officers, including former Chief Executive Officer Kerry Killinger." Daniel Mudd, former CEO of Fannie Mae, and Richard Syron, former CEO of Freddie Mac, have been similarly lambasted (see, for example, His Name is Mudd) and the subject of calls for criminal investigations.

First, let me make clear that I don't know these men; they actually could be stupid, greedy and crooks. But, I think that's unlikely; my guess is they're probably really smart guys, and as honest and ethical as the rest of us (here are a couple of interesting posts arguing the elite really are elite, and the difficulty of assessing the ability of those at levels above our own). I think there is a much simpler explanation for the decisions which blew up their companies:

They tried to earn what they were being paid.

It's admirable, of course, to earn what you're given -if they didn't try to do that, they would be justly criticized. In 2007 Mr. Killinger's compensation was $14,364,883, Mr. Mudd's was $14,231,650, and Mr. Syron's was $14,497,981. What should they have done in 2008 to earn that money?

Lenders compete on price (interest rates, fees, processing costs), execution (speed and certainty of delivery of the promised transaction), and terms (leverage, documentation, covenants). By all accounts, all three companies were very competitive on price and execution. That leaves terms. As long as there are lenders willing to lend more aggressively (higher LTV loans, lower income ratios, less documentation, fewer reserves and covenants) conservative lenders will lose market share. You do not get paid $14M to lose market share.

In the old days (1970's and '80s), savings and loans were called 3-6-3 businesses; pay depositors 3% interest, extend mortgages at 6%, hit the golf course by 3PM. WAMU, Fannie, and Freddie were all stable, well run companies that could have made a good return making/buying secure loans, and their CEOs could have been on the golf course by 3. But, that would not be worth $14M. So, they tried to earn it by competing for riskier business, and they failed.