The OCC takes a shot at the "originate-to-dump" lending model

There are some interesting comments coming out of the Office of the Comptroller of the Currency today. John Dugan, the agency's top official, took some shots at the "originate to dump" (that's my name for it) model of bank lending that's so popular these days. In a speech to the American Bankers Association, he pointed out ...

"When a bank makes a loan that it plans to hold, the fundamental standard it uses to underwrite the loan is that most basic of credit standards that I’ve already talked about: the underwriting must be strong enough to create a reasonable expectation that the loan will be repaid" ... "But when a bank makes a loan that it plans to sell, then the credit evaluation shifts in an important way: the underwriting must be strong enough to create a reasonable expectation that the loan can be sold -- or put another way, the bank will underwrite to whatever standard the market will bear."

and

"I am here to say that bank underwriting standards for these products, in many cases, moved too far away from what they would have been if the bank had held those loans on its own books."

Here is an OCC news release with some key points -- and here is Dugan's complete speech (in PDF format). Suffice it to say, I agree that the explosion of "originate to dump" lending was a key cause of the mortgage market boom and bust. Quite simply, lenders realized they could originate almost any loan -- no matter how crappy -- and unload the credit risk of said loan because end investors wanted higher-yielding paper, and were willing to pay up for it. If lenders were forced to hold those loans on their books, they undoubtedly would have been more prudent in the first place. For more context and detail on this issue, check out the white paper available here.