JPM: The Washington Mutual Story

Josh Rosner (@JoshRosner) is co-author of the New York Times Bestseller “Reckless Endangerment” and Managing Director at independent research consultancy Graham Fisher & Co. He advises regulators, policy-makers and institutional investors on banking and financial services (a more complete bio appears at the end of this column).

This is part 2 of 5; Yesterday evening, we published the Introduction. We will be releasing a different part each evening and morning culminating in the release of Rosner’s complete report on Friday morning. On that date, the Senate Permanent Subcommittee on Investigations will release their final report on JPM’s CIO Group (aka the London Whale).


We will address under-appreciated but material fundamental issues in a forthcoming report. Consistent with the purpose of this report we felt it important to consider outstanding internal control, headline and other extraordinary items that could materially impact JPM’s profitability and potentially highlight further breakdowns in controls.

Washington Mutual: a Story of Opacity and Impunity

Perhaps no other example illustrates JPMorgan’s scorched-earth legal approach better than the disputes over the estate of Washington Mutual (WaMu), which the firm acquired from the FDIC in September 2008. JPMorgan portrays its purchase of WaMu during the depths of the financial crisis as a patriotic act performed by a well-run bank. Its public statements and regulatory filings tell a different tale.

In August 2009, Deutsche Bank, as trustee for about $92 billion of notional WaMu securitizations, filed suit against the FDIC demanding the repurchase of billions of dollars of mortgages that they argued violated representations and warranties in the pooling agreement. The FDIC moved to dismiss the complaint, arguing that JPMorgan had assumed the liabilities in the WaMu purchase. Consequently, Deutsche Bank amended its complaint to add JPMorgan[i]. JPMorgan is protected by a broad gag order that has sealed away, from public view, any internal communications on Washington Mutual. We have had to rely on public information and information provided as a result of freedom of information requests.

After several years of agreeing with the FDIC’s position and acknowledging that it acquired the mortgage liabilities of Washington Mutual[ii], JPMorgan appears to have changed its mind when it realized the enormity the industry’s mortgage putback risks[iii]. JPMorgan is now boldly demanding indemnification from the FDIC Insurance Fund.

JPMorgan, which in the aftermath of the financial crisis, accepted more than $391 billion of government emergency program support[iv], is seeking to shift losses on over $190 billion of Washington Mutual-related mortgage securities onto the FDIC – claiming that for a mere $1.9 billion it bought nearly all of the positive value of WaMu and was able to stick the public with essentially all of the ongoing losses. If the firm fails in these efforts it could be stuck with settlement costs on claims of between $3 and $5 billion. Unfortunately, a continued lack of clarity about the firm’s reserves coupled with recent plaintiff-friendly court rulings that may increase putback settlement costs make it difficult to assess whether JPMorgan is adequately reserved.

Since it began to deny its obligation, JPMorgan has repeatedly tried getting the FDIC to agree that it has approval to settle and then send the FDIC the bill.  The arrogance, impunity and extent to which lengths JPM’s lawyers go in attempts to saddle the FDIC with its own losses are amazing. In a strongly worded letter of response to JPM’s repeated attempts to fool the FDIC into stating or implying it accepted consent, the FDIC strongly states that it has not consented to any actions or inactions by JPM and that “insomuch as these assertions may have become boilerplate language in correspondence from this firm, please consider this letter to be the FDIC’s standing rebuttal” [v]. Still, recent press reports suggest that JPMorgan and Deutsche Bank are engaged in settlement talks and that JPM’s strategy may be to settle with the Deutsche Bank (Trustee) investors, indemnify those investors and have them file a claim against the FDIC for indemnification.

Even beyond losses on the $92 billion of original principal balance for which Deutsche Bank is trustee, there are losses associated with another $100 billion of WaMu mortgage securities over which either JPMorgan or the FDIC will ultimately be required to settle.

The Acquisition

In early 2008, JPMorgan began to do due diligence on Washington Mutual with an eye to acquiring the troubled but still solvent firm, but because of the potential for big losses at WaMu, JPMorgan CEO Jamie Dimon chose not to move forward with an acquisition[vi]. Three months later, WaMu was bankrupt. As the FDIC began to plan for the closing and sale of WaMu, it offered bidders five possible transaction structures[vii], each with different levels of acquired liabilities.

On September 23 and 24, 2008, the FDIC negotiated over JPMorgan’s bid, which was for the acquisition of all of WaMu’s assets and liabilities except for the preferred stock, subordinated debt and senior debt of the bank[viii]. The deal structure that JPMorgan chose also required that the winning bid come at the least cost to the FDIC.

During the talks, JPMorgan sent an e-mail[ix] to the FDIC expressing concerns and seeking clarity about the “liabilities assumed by the assuming bank”[x] and expressed concern over the broadness of the provision[xi]. In a Q&A document released during the initial invitation to bid process, the FDIC made it clear that the obligations associated with mortgage securitizations would pass to the buyer[xii], their position did not change and JPMorgan did not receive the desired changes to the standard indemnification to protect itself against the liabilities associated with Washington Mutual’s mortgage securitizations. It couldn’t have been clearer that JPMorgan understood the liabilities it was accepting.

The FDIC did make limited changes to the standard bidding form, indemnifying the bank for up to $500 million for damages brought by Washington Mutual or third parties.[xiii] The agency also agreed to provide JPMorgan indemnification against mortgage-borrower (but not investor) claims[xiv], a frequent cause for concern in the fall of 2008.

On September 25, 2008, the FDIC announced that JPMorgan acquired the banking operations of Washington Mutual at no cost to the FDIC’s insurance fund [xv].  In an SEC filing that evening, JPMorgan said it “acquired all deposits, assets and certain liabilities of Washington Mutual’s banking operations from the Federal Deposit Insurance Corporation (FDIC), effective immediately. Excluded from the transaction are the senior unsecured debt, subordinated debt, and preferred stock of Washington Mutual’s banks. JPMorgan Chase will not be acquiring any assets or liabilities of the banks’ parent holding company (WM) or the holding company’s non-bank subsidiaries. As part of this transaction, JPMorgan Chase will make a payment of approximately $1.9 billion to the FDIC”[xvi].

Clearly, the FDIC and JPMorgan both intended and believed that all liabilities not specifically excluded were transferred. Had the FDIC believed otherwise it would have considered its potential exposures to retained liabilities in its announcement and, if there were other bidders, in its decision to award Washington Mutual to JPMorgan. After all, the FDIC has a statutory obligation to approve the least costly resolution.

Acknowledgment of WaMu Liabilities

When JPMorgan announced its earnings for the fourth quarter of 2008, Dimon proudly claimed that JPMorgan was “doing its part” to help stabilize the financial markets and hasten recovery. We assumed risk and expended resources to assimilate Bear Stearns and Washington Mutual.”[xvii] The comments make for a great patriotic sound-bite but deserve further scrutiny in light of the bank’s subsequent claim that it never acquired WaMu’s mortgage liabilities. After all, since the bank bought WaMu’s assets at book value and wrote the loan book down by $31 billion, it is hard to understand what risk it took if it didn’t acquire the liabilities relating to Washington Mutual’s securitization activities.

In a Jan. 9, 2009, SEC filing, Freddie Mac disclosed that “JPMorgan Chase will assume Washington Mutual’s recourse obligations to repurchase any of such mortgages that were sold to Freddie Mac with recourse. With respect to mortgages that Washington Mutual sold to Freddie Mac without recourse, JPMorgan Chase has agreed to make a one-time payment to Freddie Mac with respect to obligations of Washington Mutual to repurchase any of such mortgages that are inconsistent with certain representations and warranties made at the time of sale[xviii].” This filing, like several filings made by JPMorgan, demonstrate that the firm had recognized its obligations to repurchase WaMu-related mortgages sold to the GSEs[xix]. If, as JPMorgan now contends, these repurchase obligations were the rightful liabilities of the FDIC, then one must ask how the firm could legally have settled them on behalf of the FDIC. In fact, section 12.2(f) of the Purchase Agreement specifically protects the FDIC from paying for liabilities it did not assume by requiring that it consent to any settlement that would result in an indemnification obligation. 

Further supporting the argument that JPMorgan acquired the WaMu liabilities are SEC filings and presentations to shareholders by JPMorgan. In connection with 2010 earnings, the bank warned that “we and certain of our subsidiaries, as well as entities acquired by us as part of the Bear Stearns, Washington Mutual and other transactions, have made such representations and warranties in connection with the sale and securitization of loans (whether with or without recourse… Our obligations with respect to these representations and warranties are generally outstanding for the life of the loan, and relate to, among other things, compliance with laws and regulations; underwriting standards; the accuracy of information in the loan documents and loan file; and the characteristics and enforceability of the loan…. if a loan that does not comply with such representations and warranties is sold, we may be obligated to repurchase the loan and bear any associated loss directly, or we may be obligated to indemnify the purchaser against any such loss. Accordingly, such repurchase and/or indemnity obligations …acquired by us as part of the Bear Stearns, Washington Mutual and other transactions…could materially and adversely impact our results of operations and financial condition.” The essence was repeated in other filings as well[xx].

In November 2011, Judge Denise Cote[xxi]of the Southern District of New York  found that “JPMorgan does not directly contest the Amended Complaint’s detailed allegations that it has assumed WaMu Bank’s liabilities with respect to the securitizations at issue here.  Indeed, as the plaintiff points out, JPMorgan itself has publicly referenced its liability for ‘repurchase and/or indemnity obligations arising in connection with sale and securitization of loans’ by, among others, WaMu.  The FDIC has likewise opined that ‘the liabilities and obligations’ arising from WaMu’s sale of mortgage-backed securities ‘were assumed in their entirety by JPMC [(JPMorgan Chase)] under the P&A Agreement, thereby extinguishing any potential liability by FDIC Receiver.’ Thus, for the purposes of this motion, there is no dispute that JPMorgan is a proper defendant with respect to FHFA’s WaMu- related claims.” Did this finding cause JPMorgan to increase its litigation reserves? We do not know because their disclosures are inadequate.

Lack of Clarity on Reserving Policy

On the first quarter of 2010 earnings call, JPMorgan’s Michael Cavanagh noted that the bank had put up representation and warranty reserves for WaMu exposures related to both GSEs but acknowledged that the reserves were difficult to decipher, were in several pockets and he then informed investors that JPM would not give any more meaningful guidance or detail[xxii]. In a November 2010 presentation at a Bancanalysts Association of Boston Conference, a JPMorgan senior executive provided details of the Company’s “Private Label  Repurchase Risk Exposure” broken out by Chase, Bear and WaMu and by product type. Nowhere in this presentation did the firm disavow the liabilities or suggest that they were the liabilities of the FDIC[xxiii].

In January 2010, recognizing that JPMorgan’s disclosures were inadequate for investors’ ability to analyze its risks, the SEC sent a letter to Michael Cavanagh directing the bank to provide greater detail[xxiv] of their repurchase obligations. Again, rather than providing investors with the class-leading transparency JPMorgan often claims, the bank responded to the letter, in redacted form[xxv], requesting confidential treatment of certain portions of their response.

While, in the past the bank repeatedly acknowledged its acquisition of WaMu repurchase liabilities and initially included those in discussions of repurchase reserves, it appears those policies have not been consistent over time. Where earlier WaMu-related repurchase liabilities appear to have resulted in increased repurchase reserves it seems that once JPMorgan decided to assert that the WaMu repurchase liabilities as the FDIC’s obligation, the comparability of their already weak disclosures became even less analyzable.

New Mortgage Suits

In the past few months, a new round of mortgage-related suits were filed against the firm. investors, regulators, prosecutors, and insurers have filed a new round of claims against the bank related to billions of dollars’ worth of securities backed by residential mortgages.

On February 5, 2013, in the matter of Assured Guaranty v. Flagstar[xxvi], U.S. Southern District Court Judge Jed Rakoff appears to have created precedent by handing down a decision to allow staistical analysis provided by Assured’s independent auditor, rather than loan-by-loan analysis, to be a basis for findings of breaches to PSAs and Reps and Warranties in pooled mortgage loans. The auditor found that 606 of the sample of 800 loans across the trusts were found to have material breaches. While the ruling will likely be appealed, the reality is that it significantly heightens the risks to JPM and other defendants in putback litigations. It may also lead JPM to determine that they need to increase reserves.

In November 2012, CIFG Assurance sued JPM over more than $100 million of losses it sustained in CDOs. U.S. Bank, as Trustee, also filed suit[xxvii], claiming breaches of certain terms and conditions of the Pooling and Servicing Agreements (defining the parties’ obligations to each other) of an RMBS with $698 million of original principal balances suffered losses of $358 million. In a sample of the loans that defaulted, the plaintiffs claim that 74% had one or more breaches. Mortgage insurer Syncora Guarantee also filed suit[xxviii] claiming that, as a result of misrepresentations on almost 85% of the loans involved in the deal, Syncora has had to pay more than $94 million in claims to investors on losses of more than $111 million. The National Credit Union Administration Board filed suit against JPM on WaMu-related losses on almost 50 RMBS deals. In the filing, the NCUA demonstrates the massive difference between the expected losses and the actual losses in these deals[xxix]. This follows an NCUA suit filed against JPM relating to $3.6 billion of “faulty” securities related to JPM’s Bear Stearns acquisition.

In October 2012, the New York Attorney General, Eric Schneiderman, filed suit against JPM related to alleged misrepresentations in RMBS securities offerings, which are claimed to have resulted in $22.5 billion losses of the $87 billion in original principal value[xxx].

On February 4, 2013, related to a suit filed against JPMorgan by Dexia, Dexia released hundred of e-mails and employee interview transcripts suggesting that JPM received independent underwriter reports showing that between 8% and 20% of the loans sampled for inclusion in pools did not meet underwriting guidelines. Rather than disclose these defects to investors, JPM overrode the independent determinations to create a “final, sanitized version.”[xxxi]

[ii] J P MORGAN CHASE & CO, “FORM 10-Q (Quarterly Report).” Last modified 2010. “From 2005 to 2008, Washington Mutual sold approximately $150 billion of loans to the GSEs subject to certain representations and warranties. Subsequent to the Firm’s acquisition of certain assets and liabilities of Washington Mutual from the FDIC in September 2008, the Firm resolved and/or limited certain current and future repurchase demands for loans sold to the GSEs by Washington Mutual, although it remains the Firm’s position that such obligations remain with the FDIC receivership. Nevertheless, certain payments have been made with respect to certain of the then current and future repurchase demands, and the Firm will continue to evaluate and pay certain future repurchase demands related to individual loans. In addition to the payments already made, the Firm has a remaining repurchase liability of approximately $250 million as of September 30, 2010, relating to unresolved and future demands on the Washington Mutual portfolio. After consideration of this repurchase liability, the Firm believes that the remaining GSE repurchase exposure related to the Washington Mutual portfolio presents minimal future risk to the Firm’s financial results.”

[iv] p.131 United States Government Accountability Office, “FEDERAL RESERVE SYSTEM Opportunities Exist to Strengthen Policies and Processes for Managing Emergency Assistance.” Last modified 2011. .  p. 131.

[v] Federal Deposit Insurance Corporation, “Identification Claims Letter.” Last modified 2012.

[vi] Morgan Chase and Company, “Letter: (Fw: Meeting with Emilio Botin).” Last modified 2008.  (See: “Asked why did JP Morgan not buy Wamu and instead TPG injected the capital Jamie replied he thinks the potential losses are higher than TPG estimating plus their losses are limited to their initial equity investment unlike for JPMorgan or any other USA bank which has to mark to market and assign/inject additional capital accordingly”)

[vii] Mutual Bank, “Various Documents.”

All liabilities are assumed except the preferred stock.

All liabilities are assumed, except the preferred stock and the subordinated debt.

All liabilities are assumed except the preferred stock, the subordinated debt and the senior

The acquirer assumes all deposits and secured liabilities.

All insured deposits and secured liabilities are assumed.


[viii] Insert link to p. 31 of Deutsche Bank Response to FDIC and JPM Motions (See: “Under this transaction, the Purchase and Assumption (Whole Bank), the Potential Acquirer whose Bid is accepted by the Corporation assumes the Assumed Deposits of the Bank and all other liabilities but specifically excluding the preferred stock, non-asset related defensive litigation, subordinated debt and senior debt, and purchases all of the assets of the Bank, excluding those assets identified as excluded assets in the Legal Documents and subject to the provisions thereof.”)

[ix] p. 31 of Deutsche Bank Response.


(See p.8) Whole Bank, “PURCHASE AND ASSUMPTION AGREEMENT.” Last modified 2008. . (See: p. 8)

[xi] See p. 32 Deutsche Bank Response (See: ” Let’s say there is a contract between the thrift and the Parent and that is included in the Books and Records (not something like “accrued for on the books of the Failed Bank,” which probably would fix the problem) of the thrift at the time of closing. Any liability under that contract is then arguably a liability reflected in the Books and Records. Therefore one would most likely conclude that liabilities under that contract are assumed under 2.1. . . . In a normal P&A between commercial parties this is not something a buyer would ever assume and it really doesn’t make sense (nor frankly is it fair) here.”)

[xii] Deutsche response p. 33 (See: “9. Are the off-balance sheet credit card portfolio and mortgage securitizations included in the transaction? Do you expect the acquirer to assume the servicing obligations? If there are pricing issues associated with the contracts (e.g., the pricing is disadvantageous to the assuming institution), can we take advantage of the FDIC’s repudiation powers to effect a repricing?

Answer: The bank’s interests and obligations associated with the off-balance sheet credit card portfolio and mortgage securitizations pass to the acquirer. Only contracts and obligations remaining in the receivership are subject to repudiation powers.”)

[xiii] Bank, “PURCHASE AND ASSUMPTION AGREEMENT.” Last modified 2008.  (See: Section 12.1(a)(9) )

[xiv] Ibid. (See: “any liability associated with borrower claims for payment of or liability to any borrower for monetary relief, or that provide for any other form of relief to any borrower . . . related in any way to any loan or commitment to lend made by the Failed Bank prior to failure, or to any loan made by a third party in connection with a loan which is or was held by the Failed Bank, or otherwise arising in connection with the Failed Bank’s lending or loan purchase activities”)

[xv] Gray, Andrew. Federal deposit Insurance Corporation, “JPMorgan Chase Acquires Banking Operations of Washington Mutual.” Last modified 2008. .


[xviii]  US Securities and Exchange Commission, “FORM 8-K, CURRENT REPORT, Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 .” Last modified 2009. .

[xix] (See p5 US Securities and Exchange Commission, “Form 10-K, Annual report pursuant to section 13 or 15(d) ofThe Securities Exchange Act of 1934 (JPMorgan Chase & Co.).” Last modified 2009. . (See p.5 “If a loan does not comply with such representations or warranties is sold or securitized, we may be obligated to repurchase the loan and bear any associated loss directly, or we may be obligated to indemnify the purchaser against any such losses. In 2009, the costs of repurchasing mortgage loans that had been sold to government agencies such as Freddie Mac and Fannie Mae increased substantially, and could continue to increase substantially further. Accordingly, repurchase and/or indemnity obligations to government-sponsored enterprises or to private third-party purchasers could materially and adversely affect our results of operations and earnings in the future.”) and p14 and P18 and p.14, p.18 and JP Morgan Chase and Company, “BAC-ML Banking and Financial Services Conference.” Last modified 2010. Presentation_FINAL_11.17.10.pdf .

(example: “The Firm resolved and/or limited repurchase risks associated with certain WaMu GSE loan sales ― minimal future risk”)

[xx]  (See:P. JP Morgan Chase and Company, “PRELIMINARY PROSPECTUS SUPPLEMENT (October 16, 2007).” Last modified 2007. .  (See: p. S -7 “We and certain of our subsidiaries, as well as entities acquired by us as part of the Bear Stearns, Washington Mutual and other transactions, have made such representations and warranties in connection with the sale and securitization of loans (whether with or without recourse), and we will continue to do so as part of our normal Consumer Lending business. Our obligations with respect to these representations and warranties are generally outstanding for the life of the loan, and relate to, among other things, compliance with laws and regulations; underwriting standards; the accuracy of information in the loan documents and loan file; and the characteristics and enforceability of the loan.

A loan that does not comply with such representations and warranties may take longer to sell, or may be unsaleable or saleable only at a significant discount. More importantly, if a loan that does not comply with such representations and warranties is sold, we may be obligated to repurchase the loan and bear any associated loss directly, or we may be obligated to indemnify the purchaser against any such loss. Accordingly, such repurchase and/or indemnity obligations arising in connection with the sale and securitization of loans (whether with or without recourse) by us and certain of our subsidiaries, as well as entities acquired by us as part of the Bear Stearns, Washington Mutual and other transactions, could materially increase our costs and lower our profitability, and could materially and adversely impact our results of operations and financial condition.”) and Morgan Chase and Company, “BANCAN LYSTS ASSOCIATION OF BOSTON CONFERENCE.” Last modified 2010. P24-26 “Private label Repurchase risk exposure.”)

[xxii] Seeking Alpha, “JP Morgan Chase & Co. Q1 2010 Earnings Call Transcript.” Last modified 2010. (See: “Let me make this simple. In the investment bank, retail and corporate we have put up rep and warranty reserves and litigation reserves for GSEs and all other mortgages including private securities. We have tried to do it diligently. Some of those numbers ran through the investment bank this quarter. We have broken out the numbers in retail and we have put the numbers in corporate. A lot of the numbers in corporate relate to WaMu. We are not going to give any other information. We think we properly accrued for reps and warranties whether they come through on the rep and warranty line or the litigation line. There are legitimate claims that some of these mortgages were [properly] done. It is going to be done mortgage by mortgage. Other than that we think we have done a pretty good job recognizing the problem early.”)

[xxiii] P24-26 “Private label ― Repurchase risk exposure”) Scharf, Charlie. JPMorgan Chase & Co, “BANCANALYSTS ASSOCIATION OF BOSTON CONFERENCE.” Last modified 2010. .  (See: p.24-26 “Private label ― Repurchase risk exposure.”)

[xxiv] Security and Exchange Commission, “SEC Letter to JPM, Re More Disclosure on Buybacks.” Last modified 2010.  (See: The specific methodology employed to estimate the allowance related to various representations and warranties, including any differences that may result depending on the type of counterparty to the contract; Discuss the level of allowances established related to these repurchase requests and how and where they are classified in the financial statements; Discuss the level and type of repurchase requests you are receiving, and any trends that have been identified, including your success rates in avoiding settling the claim; Discuss your methods of settling the claims under the agreements. Specifically, tell us whether you repurchase the loans outright from the counterparty or just make a settlement payment to them. If the former, discuss any effects or trends on your nonperforming loan statistics. If the latter, discuss any trends in terms of the average settlement amount by loan type; and Discuss the typical length of time of your repurchase obligation and any trends you are seeing by loan vintage”)

[xxv] Rauchenberger, Louis. JPMorgan Chase & Co., “Mr. Amit Pande, Accounting Branch Chief Division of Corporation Finance United States Securities and Exchange Commission Letter.” Last modified 2010.  The Firm informed the SEC that:

Their potential rep and warranties violations generally surface and are resolved within approximately 24 – 36 months of the loan’s origination date.

After the Firm’s acquisition of certain residential loan assets and liabilities of Washington Mutual Bank from the FDIC in September 2008, the Firm reached agreements with the Agencies to limit the Agencies’ repurchase demands with respect to certain Washington Mutual Bank loan repurchase liabilities.

As of December 31, 2009, the Firm’s allowance related to breaches of reps and warranties (the “Allowance”) was $1.7 billion. [Redacted]

[xxvii]  “SACO I Trust 2006-3, issuer of the SACO I TRUST 2006-3 MORTGAGE-BACKED CERTIFICATES, SERIES 2006-3, v. EMC Mortgages.” Last modified 11/8/12.

[xxix] p.36-50 NATIONAL CREDIT UNION ADMINISTRATION BOARD v. J.P. Morgan Chase. Last modified 2013.   p. 36-50

[xxx] McLaughlin, David, and Chris Dolmetsch . Bloomberg BusinessWeek, “NY Attorney General Says More Suits Will Follow JPMorgan.” Last modified 2012.

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