SCOTTSDALE — One key focus in the financial crisis is the way the U.S. regulates banks, a patchwork often criticized as outdated and leaky. To those who say it needs an overhaul, Exhibit A could be a twin bank failure in the Southwest in July.
Despite repeated red flags, regulators didn't stop the lenders from churning out billions of dollars in risky loans until it was too late.
The banks' second-in-command had been cited by a federal agency for "unsafe" loan practices and barred from accepting a lending-officer job. He soon became a bank executive anyway.
Later, he and the banks' founder were essentially banned for life from part of the lending industry. Yet even as the dispute that led to the ban was percolating, the founder got a license, from a different regulator, to open a new bank elsewhere.
The Federal Deposit Insurance Corp. has estimated the bank failure will cost $862 million.
People are also reading…
The Treasury Department has been pushing for an overhaul of the fragmented system of regulating banks. Its proposal, made in March, gained little traction, then faded into the background as the financial crisis worsened. But the crisis itself reflects "a flawed regulatory structure, built for a different model for a different financial system," Treasury Secretary Henry Paulson told Congress last week, saying: "The financial system changed; the regulatory system didn't."
The bank collapse in July involved First National Bank of Nevada and First Heritage Bank in Southern California, units of closely held First National Bank Holding Co. in Scottsdale. The impresario behind them was Raymond Lamb, a hard-charging executive who at age 68 remains a devotee of the strenuous sport of helicopter skiing.
North Dakota origins
Lamb grew up in a small North Dakota town, working as a teen picking rocks out of a farmer's fields and serving customers at the family-owned Lamb's Bank. He opened a law office in his 20s, then at 29 acquired part of a small bank. A man of charm but a quick temper, he became an avid banking investor, buying and selling a handful of institutions in his home state and Minnesota before moving to the fast-growing Phoenix area.
There he met Gary Dorris, a former officer of a bank that had failed. Lamb hired him. After Lamb acquired an Arizona bank in 1992, he sought to make Dorris its chief loan officer.
The FDIC wouldn't permit it. Dorris' "unsafe and unsound" methods had contributed to his earlier employer's failure, the FDIC said in legal filings, after the Lamb side took the matter to court. In hundreds of pages of court records, the FDIC sought to show that Dorris wasn't fit for the job. Among other things, it cited a deal it said he had done, without clearance from his bank's loan committee, with a savings and loan run by Charles Keating, later imprisoned in the S&L crisis.
"Time and time again, Dorris was criticized by state examiners, federal bank examiners, federal savings and loan examiners, outside consultants, and even his own internal auditors," the FDIC said in a filing in federal court in the District of Columbia after Lamb and Dorris sued to overturn the agency's decision.
Lamb contended Dorris must be competent because a different regulator, the Office of the Comptroller of the Currency, had let him work at another bank. After a 2 1/2-year spat, the FDIC won its legal case and kept Dorris from taking the loan-officer position.
But Lamb gave Dorris a different job, as vice chairman of another bank Lamb owned. This time, the FDIC didn't intervene. Even if it had wanted to, it lacked jurisdiction to act because this bank wasn't in the FDIC's high-risk category.
The two bankers celebrated Dorris' new job by taking their families on an autumn trip to New York, where they stayed in the Plaza Hotel and played their traditional Thanksgiving touch-football game in Central Park.
Different regulators
The regulatory framework basically lets lenders choose their overseers. There is the the Office of Thrift Supervision and the Office of Comptroller of the Currency, which are part of the Treasury Department. And they have the option of state regulation.
Adding to the complexity, state-regulated banks are often subject to some federal oversight. The Federal Reserve oversees bank holding companies. And the FDIC, besides insuring deposits, monitors small banks and can intervene if concerned about a bank's solvency.
The FDIC declined to comment on its relationship with the bankers. Dorris, 65, who eventually became chief executive of Lamb's holding company, didn't respond to requests for comment. Lamb, his eyes welling with tears in an interview, said that Dorris "is a heck of a banker, and he's a wonderful human being."
As for himself, Lamb said: "I have broken my neck to get along with regulators and to run the banks in the best way possible for the banks and the bank charters."
With Dorris at his side, Lamb built up a small group of banks in the Southwest, which he sold in a single deal in 1998. He then started over, first by acquiring a small bank in Reno, Nev., that he renamed First National Bank of Nevada. He later opened a companion First National Bank of Arizona.
Their regulator, the OCC, was the second federal bank agency with which Lamb clashed.
In 2002, an OCC examiner gave some of Lamb's bank assets a so-so quality rating: just a 3, on a 1-to-5 scale in which 1 is tops. The examiner cited numerous loans made for real-estate development, which tend to be riskier than home mortgages.
Lamb erupted in anger at the examiner, according to two people who were in the room. The OCC later raised the rating to a 2. It also reassigned the examiner.
The agency defends raising the rating. "Nobody was happy about" how Lamb behaved, said an OCC spokesman, Robert Garsson. But he said if officials really think a rating is too low, they shouldn't let it stand "just because they are miffed at the way a banker conducted himself."
Garsson said the reassignment of the examiner was already in the works and wasn't a response to pressure.
Lamb said he felt blindsided by the way the examiner proceeded. "I was upset because I didn't think that's the way things could or should be run. You're supposed to tell us what you're working on and you're supposed to listen to us, and that didn't happen," he said.
Several departures
Two years later, in 2004, alarms again went off at the OCC, when the four people who ran Lamb's mortgage division abruptly quit, partly in a dispute over employment terms and in part out of frustration with Lamb's leadership style. OCC officials descended on the company, concerned that something was amiss. Lamb assured them all was well, and the regulator dropped the matter.
Business boomed as big investors' appetite for mortgage securities let banks like Lamb's sell home loans as fast as they could make them. First National's mortgage volume nearly quadrupled from 2001 to 2004, to $6 billion.
That year, according to the publication Inside Mortgage Finance, First National Bank of Arizona was the eighth-largest originator of "Alt-A" loans, a category between prime and subprime. Lamb's company used mortgage brokers to find borrowers and made loans not just locally but across the country.
First National opened sleek new headquarters in an Arizona landscape dotted with cactuses. Lamb bought a multimillion-dollar condo in Scottsdale, traveled in a private Astra jet and told friends the growing worth of his banks was bringing him close to billionaire status. By this time his sons Philip and Patrick were working at the company and each owned 4.9 percent of it.
Ever since selling his first batch of banks in the region, Lamb had been itching to get back into the New Mexico market. In early 2004 he sought a charter for an institution there from the Office of Thrift Supervision, or OTS. The lenders it regulates take deposits and are FDIC-insured but must concentrate on home loans.
After months of delay, OTS officials granted him a charter. They did so despite being worried that he and his executives planned to dive into lending inappropriate for an OTS-regulated lender: commercial real-estate loans. "We became very suspicious after them sort of hemming and hawing," said John Bowman, OTS deputy director and general counsel.
The Lamb team, for its part, was growing disenchanted with the agency. They discussed simultaneously seeking a charter from a different regulator, the OCC, and later swapping into that one.
"Machiavellian idea"
"I have a Machiavellian idea," Dorris wrote to Lamb in a November 2004 memo. "What if I initiated contacts with the OCC … to stress to them the importance of a rapid charter approval. I would not tell them that we could consider getting the OTS charter and then converting as that takes all of the pressure off."
The memo added: "If I detect that the OCC resents my aggressive request, you can step in and say, 'Dorris is always jumping out ahead and he has always had a distrust of the OTS.' "
Even as trust between the Lamb team and the OTS was fraying, Lamb was seeking a charter to open another lending institution, in another state. The result: He was able to open a New Mexico lender chartered by the thrift regulator, the OTS, in January 2005, and one month later a bank in California chartered by the OCC.
The OTS quickly grew convinced Lamb's New Mexico institution wasn't sticking to home loans, validating the agency's earlier concerns. "They came right out of the door and did not do what they said they were going to do," said the OTS's Bowman. Within six months, the OTS forced Lamb to dissolve the institution.
Lamb, Dorris and six other executives then signed confidential letters agreeing they would "not participate or seek to participate as an institutional-affiliated party … of any savings association or any savings and loan holding company." In effect, the agreement barred them from the S&L business — a highly unusual sanction, regulators say.
More risky lending
Other bank regulators were told of the agreement. But "it's very hard to know how to deal with a non-public document like this," said the OCC's spokesman, Garsson.
He noted that the thrift regulator hadn't tried to ban Lamb and Dorris from banking altogether, just S&Ls.
In 2006, as the housing boom was peaking, Lamb's banks sped up their risky lending. That year they more than doubled, to $2.3 billion, their high-interest-rate loans, many of which are subprime. Nearly 40 percent were in California, Florida and Nevada, the states that later had the highest foreclosure rates.
They also made hundreds of millions of dollars in still-riskier loans, for commercial real estate and land development.
In early 2007, the Fed sounded alarms about First National, citing its dwindling capital ratio, a measure of a lender's health. Trying to ease the pressure, Lamb took $29 million of shaky mortgages off his banks' books by buying them himself.
In the fall of 2007, Lamb pumped $30 million more equity into the banks. Sons Patrick and Philip each put in $7.5 million more.
In this year's first quarter, the parent company's capital levels plunged. On July 25 the OCC revoked the charters of his two remaining banks, First National Bank of Nevada (which had absorbed his Arizona institution) and First Heritage in Newport Beach, Calif. Lamb's banks had officially failed.
"The financial system changed; the regulatory system didn't."
Henry Paulson, U.S. Treasury secretary