Bloomberg News

Freddie Mac, Fannie Mae Ex-CEOs Sued for Understating Loans

December 20, 2011

(Updates with lawyer’s statement in the 18th paragraph.)

Dec. 16 (Bloomberg) -- Daniel Mudd, the former chief executive officer of Fannie Mae, and Richard Syron, ex-CEO of Freddie Mac, were sued by the U.S. Securities and Exchange Commission for understating by hundreds of billions of dollars the subprime loans held by the firms.

The lawsuits filed today in Manhattan federal court were followed by an SEC statement that it had entered into “non- prosecution agreements” with each company. Fannie Mae, the government-sponsored enterprise which issues almost half of all mortgage-backed securities, and Freddie Mac, the McLean, Virginia-based mortgage-finance company, had “agreed to accept responsibility” for their conduct, the SEC said.

The agency said in the lawsuits that Syron, Mudd and other executives understated exposure to subprime mortgage loans. From 2007 to 2008, Freddie Mac executives said the company’s exposure was from $2 billion to $6 billion when it was actually as high as $244 billion, according to one SEC complaint.

From 2006 to 2008, Washington-based Fannie Mae executives said the firm’s exposure to subprime mortgage and reduced- documentation loans was about $4.8 billion when it was almost 10 times greater, according to the regulator.

‘Told the World’

“Fannie Mae and Freddie Mac executives told the world that their subprime exposure was substantially smaller than it really was,” Robert Khuzami, director of the SEC’s enforcement division, said in a statement. “These material misstatements occurred during a time of acute investor interest in financial institutions’ exposure to subprime loans, and misled the market about the amount of risk on the company’s books.”

The lawsuits, which together name six former executives at the government-sponsored entities, come amid criticism from judges and lawmakers that the SEC hasn’t done enough to hold individuals responsible for misconduct related to the housing crisis and financial-market collapse that followed.

Fannie Mae, based in Washington, and Freddie Mac were seized and placed under U.S. control in 2008 as losses on soured loans pushed them to the brink of insolvency. The two have been sustained by more than $150 billion in U.S. aid. Congress and the Obama administration are examining plans for winding down the firms and building a new system for financing housing debt.

The two non-prosecution agreements require Freddie Mac and Fannie Mae to “accept responsibility” for their conduct and to cooperate with the SEC probe of the former executives.

Legal Fees

“Under the agreement, without admitting or denying liability, Fannie Mae has offered to accept responsibility for its conduct and to not dispute, contest or contradict a set of factual statements regarding the disclosures,” Fannie Mae said today in a securities filing.

“The SEC will not initiate an enforcement action against Freddie Mac or require the company to pay a monetary penalty,” the company said in a statement. Fannie Mae said in a statement that it is “pleased to bring the SEC inquiry to a close.”

At least part of the ex-executives’ legal fees will be covered by indemnification policies, said Michael Cosgrove, a spokesman for Freddie Mac, and Andrew Wilson, a spokesman for Fannie Mae. Cosgrove declined to comment on whether Freddie Mac will be responsible for covering a damage award. Wilson said it wasn’t clear if Fannie Mae will be responsible for damages.

In the suits against the former executives, the SEC wants financial penalties and disgorgement, and an order barring them from serving as officers or directors of other companies.

Fortress Investment Group

Also named as defendants are Patricia Cook, Freddie Mac’s former executive vice president; Donald Bisenius, ex-senior vice president at Freddie Mac; Enrico Dallavecchia, who was chief risk officer for Fannie Mae; and Thomas Lund, Fannie’s Mae’s former executive vice president.

Mudd, now CEO of Fortress Investment Group LLC, was ousted when Fannie Mae and Freddie Mac were seized by regulators in September 2008. In a statement, he said the U.S. government and investors were aware of “every piece of material data about loans held by Fannie Mae.”

“The government reviewed and approved the company’s disclosures during my tenure, and through the present,” Mudd said. “Now it appears that the government has negotiated a deal to hold the government, and government-appointed executives who have signed the same disclosures since my departure, blameless - - so that it can sue individuals it fired years ago.”

‘Thorough Review’

Fortress said in a statement that the complaint against Mudd “does not relate to Fortress, and this matter has not impacted our company or our business operations. We are undertaking a thorough review of the matters.”

Michael Levy, Lund’s attorney at Bingham McCutchen LLP in Washington, said his client “did not mislead anyone. During a period of unprecedented disruption in the housing market, nobody worked more diligently or honestly to serve the best interests of both investors and homeowners.”

Tom Green, Syron’s attorney at Sidley Austin LLP in Washington, said there was “no uniform definition” of “subprime” in 2007 and that Freddie Mac included in its disclosures tables detailing credit risks. “There was no shortage of meaningful disclosures,” he said in a statement.

Dallavecchia is now chief risk officer at PNC Financial Services Group. His lawyer, Kelly Kramer, said in a statement that Dallavecchia warned in 2007 that subprime loans “could infect the entire housing market” and made clear that “Fannie Mae’s credit risks were not limited to its subprime holdings.”

Easier Loans

Steven Salky, Cook’s lawyer at Zuckerman Spaeder LLP, and Walter Ricciardi, an attorney for Bisenius at Paul, Weiss, Rifkind, Wharton & Garrison LLP, didn’t immediately return calls for comment on the lawsuits.

Fannie Mae and Freddie Mac were created by Congress to encourage homeownership by making it easier for people to get loans. The firms now own or guarantee less than half of all U.S. mortgage debt, most of which they pool and sell on the secondary market.

During Mudd’s tenure as CEO of Fannie Mae, from 2004 through its government takeover in 2008, the firm expanded its business with lower-quality mortgages. Mudd said in a 2006 interview that he planned to expand the companies’ holdings to include more higher-risk loans. Anything else would be “counterproductive,” he told investors in March of that year.

In April 2007, Mudd said in testimony before lawmakers that the firm’s exposure to subprime loans “remains minimal, less than 2.5 percent of our book.”

At the same hearing, Syron, who ran Freddie Mac from 2004 to 2008, said his firm hadn’t “been heavily involved in subprime all along.”

Within 18 months, regulators seized Fannie Mae and Freddie Mac after losses on soured loans pushed them to the brink of insolvency.

The cases are SEC v. Syron, 11-cv-09201, and SEC v. Mudd, 11-cv-09202, U.S. District Court for the Southern District of New York (Manhattan).

--Editors: Michael Hytha, John Pickering

To contact the reporters on this story: David Glovin in New York federal court at dglovin@bloomberg.net; Joshua Gallu in Washington at jgallu@bloomberg.net.

To contact the editors responsible for this story: Michael Hytha at mhytha@bloomberg.net; Lawrence Roberts at lroberts13@bloomberg.net.


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