MarketWatch is reporting New Century faces criminal probe

New Century Financial Corp. said late Friday that it’s facing a federal criminal probe and will likely breach a major lending covenant with its financial backers, bringing into question the survival of the second-largest U.S. subprime-mortgage lender.

The U.S. Attorney’s Office for the Central District of California is conducting a federal criminal inquiry into trading in New Century securities as well as accounting errors, the company wrote in a regulatory filing late Friday.

The Securities and Exchange Commission also is looking into the company, as is the regulatory arm of the New York Stock Exchange, New Century disclosed. The company added that it is complying with all three inquiries.

The mortgage lender said it expects that it won’t report at least $1 of net income for the two quarters ended Dec. 31, as stipulated in covenants with its lenders.

“Subprime lenders without deposits depend on their warehouse lines,” said Zack Gast, a financial sector analyst at the Center for Financial Research and Analysis, a research firm. “If New Century’s lenders do not grant the requested waivers, the company is likely to be forced to sell or shut down.”

Indeed, New Century warned that if it can’t get waivers or covenant amendments from enough of its financial backers, the company’s auditor, KPMG, will conclude “that substantial doubt exists as to the company’s ability to continue as a going concern.”

CNN Money is reporting New Century faces trading, accounting probes.

New Century said the Attorney for the Central District of California is examining trading in its securities and accounting errors in how much it set aside for loan losses.

It also said NYSE Regulation is reviewing trading prior to its Feb. 7 announcement of plans to restate results, and that the Securities and Exchange Commission has asked for talks on that matter. New Century said it is cooperating with investigators.

The company also said it expects to report a pretax loss for 2006, and that if it cannot obtain waivers from some lenders, its auditor may call into question its ability to survive.

In a post titled Finanacial Fantasy Land RodgerRafter made note of his observations on a conference call from February 2005:

After watching in disbelief how long the sub-prime ponzi scheme continued to receive the support of regulators, creditors and investors. It’s amazing how rapidly New Century’s house of cards has come crashing down. All at once:
Regulators are seeking to stop New Century from performing their primary business.
Creditors are considering cutting off short term credit to the company.
Stock Market Investors are beating the crap out of the stock.
Mortgage Backed Security Investors are beating the crap out of their securitizations.

I seriously doubt NEW will survive this attack from all sides. Just as Enron and World Com crumbled when creditors pulled the plug, so too (I expect) will New Century.

I listened to the New Century Financial conference call today, and I’m convinced the executives of that company are from another planet.

When the call started, the stock was already down about 3.7%, having missed their estimates for the first time in ages. As the call went on and one amazing revelation after another came out, the stock kept dropping and now is down about 10%. Among the things that were revealed:

1. They borrow $1 Billion for 1 day every quarter so that they can show that Cash on their balance sheet. The Billion dollars they borrow for a day is to help them “explain” their financial situation better. If they didn’t borrow that money, then people might be confused and think they didn’t have that much cash.

2. They sell mortgages to themselves because they can report higher gains on the sales than if they sold them on the open market.

They were especially proud of becoming a REIT and all the imaginary benefits that bestowed on their results. While selling mortgages from their lending unit to their REIT unit resulted in nice gains on their income statement, the gains weren’t taxable because they weren’t real. Talk about the best of both worlds!

3. They aren’t assuming any losses on certain portions of their loan portfolios now because most defaults occur later in the life of the loans.


New Century Financial Chart
click on chart for a better view

Fremont Subprime Collapses

HousingWire is reporting Fremont’s Subprime Platform Collapses; FDIC Steps In.

Troubled subprime lender Fremont General (NYSE:FMT), said late Friday it will exit subprime residential lending, citing mounting pressure from loan repurchases and likely regulatory action. The company had first hinted at problems on February 28, when it said it would delay its fourth quarter and full year earnings.

The company said its decision to exit was prompted primarily by the receipt of a Proposed Cease and Desist Order from the FDIC on February 27.

According to Fremont’s filing with the SEC today, the FDIC order calls for the lender to make sweeping changes to both its subprime residential and commercial mortgage businesses, including an allegation that the company violated Section 23B of the Federal Reserve Act by engaging in transactions with its affiliates on terms and under circumstances that in good faith would not be offered to, or would not apply to, nonaffiliated companies. Fremont did not disclose in its SEC filing which transactions were involved in the FDIC allegations.

Other allegations in the proposed FDIC order claim that Fremont’s mortgage lending businesses engaged in “unsatisfactory” lending practices, operated with inadequate underwriting criteria as well as inadequate capital, and that the company did not have effective risk management policies for managing and reigning in the company’s subprime and commercial mortgage brokers.

The order also would charge Fremont with marketing adjustable-rate loans in an “unsafe and unsound” manner, and that the lender had operated in violation of recent inter-agency guidance on subprime lending programs.

Fremont Chart

Mortgages Via TIN

In other news US Rep John T. Doolittle introduced a plan in Congress to block mortgages for illegal aliens.

New legislation on Capitol Hill seeks to curb an increasingly popular mortgage concept: providing home loans to applicants using their Individual Taxpayer Identification Number in lieu of a Social Security number.

Taxpayer numbers are issued by the Internal Revenue Service to assist immigrant workers who do not qualify for a Social Security number — but do have taxable income — to report their income and pay federal taxes.

Dozens of banks around the country have begun offering home mortgages to undocumented immigrants using taxpayer numbers, but their programs generally have been low-key and small in volume. Bank of America stirred controversy earlier this month when it announced a pilot program in Los Angeles to provide credit cards to resident alien customers who lack Social Security numbers but have taxpayer numbers.

Some critics charged that the bank was seeking to profit by helping illegal immigrants who should be deported or prosecuted, not extended consumer credit. Bank of America said its program is legal and may be rolled out nationwide if the pilot is successful.

Now a bill has been introduced in Congress that would prohibit financial institutions from providing home mortgages to anyone who lacks a Social Security number. The bill (HR480), introduced by Rep. John Doolittle, R-Rocklin (Placer County), would amend the Truth in Lending Act to make mortgage lending using taxpayer numbers illegal.

Doolittle’s office released a statement that said in part: “The government should not be in the business of creating incentives to encourage illegal behavior. Nor should companies be permitted to reward those individuals in clear violation of our laws.”


  • Fremont is out of the subprime business via Cease and Desist Order from the FDIC. Fremont was the 5th largest subprime lender.
  • New Century Financial is fighting for its life and with the criminal investigation, it is doubtful they survive in any capacity. NEW is the 3rd largest subprime lender.
  • Credit standards continue to tighten everywhere.
  • Proposed legislation to block mortgages by Taxpayer Identification Number in lieu of a Social Security number has been introduced. This would block mortgages for illegal aliens and possibly some legitimate mortgages as well.

The noose continues to tighten around subprime lenders and borrowers as well. This will continue to put pressure on home prices as marginal buyers are forced out of the game.

Rodger Rafter asked me to make it clear that what he stated we knew over two years ago. In editing down his comments I inadvertently took out that explanation. For those with access to the Motley Fool here is the complete thread on New Century posted on my board on the Fool on 2/3/2005. Rodger Rafter’s comments today… “We all saw this collapse coming long ago, when much of the damage could have been prevented, and analysts, regulators, investors and creditors should have seen it too. Why didn’t they pull the plug two years ago is the real question. The answer has something to do with greed.” Here is an additional post from the thread on The Market Traders made today, showing our thinking at the time.

The 2007/02/07 New Century Finance conference call is also quite interesting. This quote sums it up nicely: “The company expects that the errors leading to restatements constitute material weakness in its internal control over financial reporting for the year ended December 31, 2006.

Is that “material weakness” or purposeful securities fraud?

LawersAndSettlements.Com has these comments on New Century Finance Securities fraud.

New Century and certain of its officers and directors are charged with issuing a series of materially false and misleading statements in violation of Section 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. Particularly, late on February 7, 2007, New Century announced that it will have to restate its consolidated financial results for the first three quarters of 2006 to correct errors the Company discovered in its application of generally accepted accounting principles regarding the Company’s allowance for loan repurchase losses.

Bear markets (and subprime lending is surely in one) expose all sorts of frauds and schemes for what they are. No one cared as long as share price was rising. Now that share price has completely collapsed and subprime lenders are imploding everywhere, lawsuits have started. Numerous people are likely to end up in jail over this.

Mike Shedlock / Mish/