Superior’s business strategy of originating and  securitizing subprime loans appeared to have led to high earnings, but  more importantly its strategy resulted in a high concentration of extremely  risky assets. FDIC has retained legal and forensic accounting assistance to conduct an  investigation into the failure of Superior Bank. Effectiveness of OTS and FDIC Supervision of Superior Bank

Our review of OTS’s supervision of Superior Bank found that the regulator  had information, going back to the mid-1990s, that indicated supervisory  concerns with Superior Bank’s substantial retained interests in securitized,  subprime home mortgages and recognition that the bank’s soundness  depended critically on the valuation of these interests. In a January 2000 meeting with  Superior Bank’s Audit Committee to report the audit results for the fiscal  year ending June 30, 1999, Ernst & Young noted that “after running their  own model to test the Bank’s model, Ernst & Young believes that the  overall book values of financial receivables as recorded by the Bank are  reasonable considering the Bank’s overall conservative assumptions and  methods.” Not only did Ernst & Young not detect the overvaluation of  Superior’s residual interests, the firm explicitly supported an incorrect  valuation until, at the insistence of the regulators, the Ernst &Young office  that had conducted the audit sought a review of its position on the  valuation by its national office. OTS and FDIC disagree on what happened next. Although a PCA directive was issued when the bank became “significantly  undercapitalized,” losses to the deposit insurance fund were still  substantial. PTL was a California bank that failed in 1999, costing the insurance fund  approximately $52 million.
What GAO Found

The Federal Deposit Insurance Corporation (FDIC) has projected that the failure of Superior Bank could cost the deposit insurance fund as much as $526 million. A major reason for the failure was Superior Bank's business strategy of originating and securing subprime loans on a large scale. In addition to the concentration in risky assets, the bank did not properly value and account for the interests that it had retained in pooled home mortgages. Superior's external auditor, Ernst & Young, also failed to detect the improper valuation of Superior's retained interest until the Office of Thrift Supervision (OTS) and FDIC insisted that the issue be reviewed by the auditor's national office. Federal regulators did not identify and act on the bank's problems early enough to prevent a loss to the deposit insurance fund. Both OTS and FDIC were aware of the substantial concentration of retained interests that Superior held, but they took little action because of the apparently high level of earnings, the apparently adequate capital, and the belief that the bank's management was conservatively managing the institution.