A WVFC interview with Deutsche Bank’s Karen Weaver
by Elaine Lafferty

We kept hearing about this woman named Karen Weaver (left), a top Wall Street analyst, who correctly sounded the alarm three years ago about the subprime mortgage crisis that has shaken the global economy (PDF) to its core. If only Wall Street and the banking industry had listened.

Today, Weaver is a Managing Director and the Global Head of Securitization Research, responsible for Deutsche Bank’s research on securitized fixed-income products. She also manages Deutsche Bank Research-Americas, which has 300 professionals covering economics, debt and equity markets. Weaver joined Deutsche Bank from Credit Suisse First Boston in 2000. Prior to joining CSFB, she was a portfolio manager active in the ABS and MBS markets.

We asked Weaver — who everybody listens to now — for her thoughts on the economy and the future:

WVFC: You were sounding the alarm bell on the subprime crisis three years ago. What signs did you see then that there would be problems, and why were those signs seemingly ignored?

Weaver: As a research analyst, I spent time visiting the operations of mortgage lenders, where I was able to meet with the employees who were underwriting mortgages. Often these mid-level employees are more direct and less guarded then the senior management of their companies. In my visits, I was able to see that many of the mortgage loans being made were very, very risky.

I think the signs were ignored largely because home prices had been rising for so long in so many areas of the country, so that even very risky loans did not create losses for mortgage lenders. Borrowers who could not make their payments could always just sell the home -– at a profit. What too many people failed to see is that home prices were rising because mortgages were so easy to get, and that fed on itself. Now it is operating in reverse — mortgages are harder to get, and so there are less potential buyers, and home prices are falling.

WVFC: Did you think the overall economic damage would be as great as it seems to have been?

Weaver: Yes and no. We are not surprised by the decline in home prices or by the size of mortgage losses. What was harder to predict was how this crisis would spread throughout other markets generally, via weaker investor confidence and risk aversion. All financial markets across the globe have been impacted.

WVFC: What will the overall economy see going forward? Is the greatest impact over?

Weaver: I believe this depends on how the consumer reacts to the continuing fall in home prices. We may see a total decline in home prices, from their peak, approaching 30 percent. That is unprecedented. If consumers pull back dramatically on their spending out of fear, that could cause a severe recession.

WVFC: Hindsight is always 20-20, but could the public or private sector have done something three years ago? And if so, are here any regulatory steps that need to be taken to prevent a meltdown like this again?

Weaver: Highly regulated financial systems stifle innovation and growth. Loosely regulated financial systems increase risk and volatility. Like most things, the trick is to find the middle ground.

Of the many initiatives suggested, I do think two are hard to refute. One, a lender must determine a borrower’s ability to pay before making a loan. That may seem incredibly basic, but in some cases loans were given to borrowers without verification of their assets, income, or even employment.

Two, mortgage brokers should be licensed and regulated, in much the same fashion as investment brokers. A mortgage is the largest liability the average person will take on, and the person selling that mortgage should have to meet certain standards and practices.