The long lines snaking down the streets outside of IndyMac Bancorp's California branches last summer were the stuff of every FDIC chairman's nightmares. The government agency, administrator of the industry's deposit insurance fund, counts preventing — and when necessary, effectively managing — bank and thrift failures as its primary mission. Having a 1920s-style run on a $31 billion-asset institution in the era of the 24-hour news cycle was an unprecedented challenge.
Yet for Sheila Bair, who had taken the helm of the Federal Deposit Insurance Corp. two years earlier, the IndyMac failure was a defining moment. Her primary job, of course, was to reassure IndyMac customers, and an increasingly jittery public, that most of their deposits were safe. But dealing with the thrift's battered mortgage portfolio presented Bair with a golden opportunity to test her controversial loan-modification ideas and prove to skeptics, including some of her fellow regulators, that they could work.
The jury is still out — the redefault rate on the modified loans is rising — but the Obama administration has enough faith in her plan that it has made it the centerpiece of its $75 billion foreclosure-prevention effort.
If the plan works and helps pull the country out of a deep recession, Bair could emerge as a true heroine in the real-life drama. Some have whispered that the one-time assistant Treasury secretary for financial institutions could someday make a good Treasury Secretary herself. But if it falters and the banking crisis worsens, she could be seen as a scapegoat.
Bair's legacy "will be very event-driven, determined by the circumstances of the time and her ability to navigate both the economic and political landscape," says Brian Gardner, senior vice president of Washington research for Keefe, Bruyette & Woods Inc. "If the system stabilizes, she could leave on a high note. But she's aggregated a lot of power, and that power comes with greater political risk."
Being chairman of the FDIC isn't typically a high-impact gig. When Bair arrived at from a college professorship at the University of Massachusetts, she thought the biggest issues on her plate would be deciding whether or not to let Wal-Mart be a bank and "debating capital standards in the Swiss Alps" — a reference to Basel II.
But as the worst financial crisis in more than a generation has unfolded, Bair, 54, has been thrust into the spotlight as a wartime FDIC chief who's got ideas and isn't afraid to use her newfound clout to advocate for them. The fact that the Obama administration has based its Making Home Affordable initiative on Bair's IndyMac loan modification program illustrates her growing street cred in Washington.
"She has inspired confidence with her competence," says Joseph Longino, a principal with Sandler O'Neill & Partners. "She's very professional, yet comes across as very down-to-earth and genuine — a tremendously effective face for the FDIC."
Still, her actions and proposals have elicited plenty of debate. Bair has lobbied, thus far unsuccessfully, for creating a so-called "aggregator bank," which she would run, to vacuum bad assets off of industry balance sheets.
Loan modifications are her signature issue. The core idea is to create a streamlined process for putting distressed homeowners into more affordable mortgages via a combination of interest-rate reductions, extended amortization periods and principal forbearances. Making the loans available on a wide scale, the reasoning goes, will help slow the rising tide of foreclosures and enable the housing market to find a floor.
Not everyone is on board with her ideas. Bair clashed frequently with the Bush administration and has butted heads with fellow regulators — most notably Comptroller John Dugan, who has been critical of her modification plan. "Dugan thinks Sheila has overstepped her bounds — that her policy recommendations sound nice, but are too simple to work," says one observer.
Critics say the streamlined underwriting process doesn't incorporate credit scores or other consumer debt into the equation. Rather, in the interest of expediency, it focuses on lowering monthly housing payments to 31 percent of "verified" household income. Bert Ely, an industry consultant based in Alexandria, Va., says that's a recipe for failure. "What really counts for most people is the ability to make that monthly payment," Ely says. "You don't do a mortgage loan without taking into account a borrower's total financial situation."
At an industry housing forum in December, Dugan questioned the efficacy of Bair's pet program with a "sneak preview" of OCC data that showed 53 percent of modified mortgage loans had "re-defaulted" after six months. Bair's response was, in essence, that the data was muddled and incomplete. Says one conference participant: "The tension between the two of them was very evident."
Bair's profile — and that of the FDIC — has been enhanced by a public persona that blends impassioned independence with reason. "Sheila has positioned the FDIC as a very activist agency," says Camden Fine, CEO of the Independent Community Bankers of America. Fine's members don't agree with Bair on everything. "But you've got to give her this: Nobody considers the FDIC some little backwater agency anymore. She has made the agency a real player in Washington, and that's to the benefit of banks."
Her stature is growing even outside of the banking industry. Last year Forbes magazine named her the second most-powerful woman in the world, behind German Chancellor Angela Merkel. In February, she won the Foreign Policy Association's prestigious Foreign Policy Medal for guiding the agency through the crisis. The award's presenter, Citigroup CEO Vikram Pandit, said that Bair's "early recognition and commitment" to loan modifications "has kept hundreds of thousands of families in their homes. ...Sheila has proven herself a strong leader by helping to create stability in the financial services system" during the crisis.
Bankers say that, as a crisis leader, she's done some good. Raising the deposit insurance limit to $250,000 from $100,000, for instance, was universally hailed as a smart way to boost liquidity. But community bankers were furious with February's proposed deposit-insurance premium hike and 20 basis-point special assessment, and a week later when the FDIC proposed reducing the one-time assessment to 10 basis points bankers were largely unmoved. Some argue that Bair, who also talks a lot about serving the underbanked, has devoted too much time and energy to "social" issues, at the expense of her main job: safeguarding the bank insurance fund.
Ely estimates the total loss through early March for the 44 failures on Bair's watch at $17 billion — including $8.9 billion on IndyMac alone — and says the tally is certain to rise. At Dec. 31, 252 banks were on the FDIC's "problem list."
"Her primary job is to protect the fund, and she hasn't done that," says Rusty Cloutier, the chief executive officer at MidSouth Bancorp in Lafayette, La. "How can you figure any regulatory agency head has done well when the whole banking system has been destroyed by Wall Street? If you lose the game, it ain't happening. I don't care how well you're playing."
A lifelong Republican, Bair clashed early with Bush's Treasury Secretary Henry Paulson over key aspects of the financial rescue plan. Some on the right have branded her a liberal crusader for her loan modification efforts.
Former Sen. Robert Dole of Kansas, a Bair mentor, says that's mostly sour grapes from conservatives who feel betrayed by her populist streak. "Sheila's from Kansas. We're not loaded with rich people, just a lot of hard-working farmers and small-businessmen eking out a living. So she understands that people need help fixing their problems," says Dole, now special counsel for law firm Alston & Bird.
"With Sheila it's not just, 'somebody lost their home, isn't that a shame?' She's been saying, 'How can we prevent it or delay it?'" adds Dole, who stays in regular contact with his protégé. "That's compassionate conservatism. How can people be critical of that?"
Tom O'Brien, former dean at the Isenberg School of Management at UMass, where Bair was a professor, described Bair as a pragmatist. "Sheila likes to tell the truth. She's more conservative than liberal, but isn't a particularly partisan person."
Whip-smart and blunt, Bair clearly has the political chops to fend for herself. In an interview in March, she said the charge that she spends too much time tilting at social windmills "mystifies" her. She points to a premium hike two weeks into her term, her well-publicized warnings in 2007 that subprime mortgage troubles threatened to spread and the relatively smooth pace of bank closings as evidence of the agency being ahead of the curve.
"People can snipe and beat up on me all they want, but I don't think that helps the industry or the FDIC," Bair says, adding that she hopes her critics "will take a deep breath and think hard about the dilemma we're in."
A graduate of the University of Kansas law school, she went to work as an aide on Dole's staff in 1981, rising to the post of counsel, where she devoted a lot of time to finance issues. In 1990, she returned home to run for Congress, losing by less than 900 votes. "I always tell her she should have been married," Dole says. "People in Kansas don't like to send single people to Congress."
Bair returned east and served on the Commodity Futures Trading Commission until 1995, when she became a lobbyist for the New York Stock Exchange. She was in her second year with the Treasury in 2002 when, for family reasons, (she is now married to Scott Cooper, a Washington lobbyist, and has two children), Bair moved to the UMass campus in idyllic Amherst.
O'Brien co-taught a corporate governance class with her. "Sheila was the substance and I was the anecdotes," he recalls. "She'd give the legislative history — how corporate governance arose, how the business community reacted to the legislation, which hearings led to changes in the rules and why. She's very much a legal scholar who understands the process."
As FDIC chair, Bair meets with her staff several times a week, getting updates on at-risk banks and planning for orderly seizures when necessary. "We pretty much know a bank isn't going to make it several weeks before" it officially fails, she explains. That gives the agency time to seek out a buyer, keep deposit flows uninterrupted and save the fund money.
There have been exceptions. IndyMac was scheduled for closure in October, Bair says, but the rapid deterioration of its financial condition hastened its demise.
Regulators have been criticized for giving big banks special treatment, but Bair says she and other regulators have had little choice. "It distresses me, because capitalism doesn't work unless you...punish the inefficient," she says. "Because of the high degree of complexity at some of these institutions, the federal government has had to prop them up in a way that's not optimal."
Rising losses have forced the FDIC's proposed premium increases to bring the depleted insurance fund, which now stands at 40 basis points, back to its target of 115 basis points of insured deposits. "My email is getting burned up by bankers who are very mad at her," Cloutier says. He figures MidSouth's total bill, projected to be due on Sept. 30, will "take two-thirds of my third-quarter earnings. ...I paid about $400,000 last year, and I'll pay about $3.6 million this year."
Ely worries that the assessments could trigger more failures, and argues that the agency — which has a statutory obligation to replenish the fund within five years — should "backload" the hikes two or three years from now, when the industry is less stressed. "What she's doing now is the height of irresponsibility," he says.
Bair responds that she is open to considering "other options" during the comment period. She offers one possibility herself: basing assessments on assets instead of domestic deposits, which would favor smaller community banks. "We don't want to do this. We know how the industry is suffering right now," Bair says. "But I can't help a rapidly deteriorating economy. Our loss projections are going up, and we need to get money in the door to make sure our industry-funded reserves remain in positive territory. ...It would be a huge blow to public confidence for the FDIC to say, 'Ok, it's time for our bailout, too.'" (The FDIC has asked Congress to raise its to borrowing authority to $100 billion, which would allow it to reduce the size of the special assessment. Legislation, which would also temporarily permit the FDIC to borrow up to $500 billion, was pending when U.S. Banker went to press.)
For all the teeth gnashing over insurance premiums, the loan-modification program could be what determines Bair's legacy. Restoring stability to housing prices is widely viewed as a necessary prerequisite to an industry rebound, and the news isn't good. In 2008, the S&P/Case-Shiller U.S. National Home Price Index declined 18.2 percent — the highest drop on record. The number of borrowers who were at least 60 days past due on mortgage payments jumped to 4.58 percent, according to TransUnion LLC.
Nicolas Retsinas, director of Harvard University's Joint Center for Housing Studies predicts that as many at 6 million additional homeowners could face trouble paying their mortgages over the next three years.
In that context, the idea of working to make loans more affordable and slow foreclosures makes intuitive sense. At IndyMac, the FDIC has used interest-rate cuts, extended amortization periods and principal forbearances to cut monthly payments by an average of $484. The idea has been to use the experience as a template for re-underwriting mortgages on a mass scale — the agency's so-called "mod in a box" — with a payment target of 31 percent of household income.
According to the FDIC, of 38,000 borrowers who received initial offers, just 11,000 have been signed up. "It's been harder than we thought to get some of these borrowers to respond," Bair concedes. Among those that respond, some can't verify their incomes, while others don't pass a net present value test. "We only modify if the NPV of the modified loan exceeds the foreclosure value."
The biggest fear is that many borrowers will simply "re-default" on their new loans, extending the housing slump.Some argue that principal reductions, not forbearances, will be necessary.
The FDIC's numbers show that through December, the percentage of modified loans 60 days or more past due was 4.19 percent. Bair concedes the delinquency figures "will absolutely go up" as the loans season.
Still, Obama administration will use much of what has been learned from the IndyMac experience putting administration of the program in the hands of Fannie Mae and Freddie Mac. The FDIC's role will be limited to that of a "technical advisor," and that is just fine with Bair.
"We've got plenty else to do already," she says.