Frank Pallotta has fiercely denied claims that he was involved in subprime mortgages while working as an investment banker, but two of his colleagues testified under oath that he was responsible for some high-risk home loans that contributed to the mortgage crisis leading to an economic recession.
After Pallotta began to explore a bid for the Republican nomination for Congress in early 2019, the Democratic Congressional Campaign Committee dubbed him “the subprime King of New Jersey.”
Pallotta’s response to that came swiftly.
“To be clear, in my 25 years on Wall Street, I never spent a single day in subprime mortgages,” he told the New Jersey Globe in 2019, but previously unreported depositions with Morgan Stanley executives suggest otherwise.
In an April 2016 deposition stemming from a suit against Morgan Stanley by the Federal Home Loan Bank of Seattle, Francis N. Telesca, who was an executive director in the firm’s subprime division until 2017, said Pallotta was more involved than he let on.
“I believe that he had coverage responsibilities that extended to some subprime sellers,” Telesca testified, court records show.
Between 2003 and 2008, Pallotta served as a managing director in Morgan Stanley’s mortgage division and as co-head of the firm’s stateside residential business.
Now Pallotta, who won the July 7 Republican primary to challenge Rep. Josh Gottheimer (D-Wyckoff), must now face new allegations that contradict his earlier statement.
In an interview on Thursday, he stressed that he was involved in a different division of the investment bank that dealt with a separate class of loan.
“My coverage responsibility was not subprime. I was in Alt-A. I was in Jumbo-A, residential-A. Subprime was its own creature, where Frank Telesca, I believe, was part of that group,” Pallotta said. “Subprime group, they sat on a completely different floor than us, so it was impossible for people to be subprime and alt-A or jumbo-A.”
Subprime loans target borrowers with low credit scores and typically carry higher interest rates and fees than conventional loans. Alt-A loans occupy a sort of middle ground between subprime and prime mortgages.
Lisa Drew, a vice president tasked with managing the firm’s residential mortgage repurchasing group, also asserted Pallotta had at least some involvement with subprime loans.
Pallotta, she said in her February 2016 deposition, was invited to a call dealing with subprime mortgages — it’s not clear whether was on the call or simply received an invitation to attend.
“It was a subprime, it specifically said subprime, probably something like repurchase, outstanding repurchase claims or something like that,” Drew said, adding that the call was not regularly-scheduled one.
The House candidate did not remember the call, though he said it wasn’t unthinkable that subprime loans would emerge as a topic.
“As a managing director of the firm, you’re asked to participate in a lot of calls, especially higher-level calls, and higher-level calls tend to have lots of different topics that are covered,” Pallotta said. “So, if the word or the phrase or a question around subprime came up, it would be no different than if a question came up around government business.”
But Pallotta may have brushed up against Morgan Stanley’s subprime business in other ways.
Some firms that Morgan Stanley dealt with occasionally trafficked in multiple types of loans.
“If the second floor did alt-A business and the third floor did subprime business, I covered the second floor, and it’s not that unusual,” Pallotta said. “You can imagine some large institutions do all types of businesses, but it was not my expertise. It was not in my scope of business because our division at Morgan Stanley didn’t really touch subprime.”
But Drew, asked about a June 2007 email sent by Pallotta that remains under seal by a judge in Seattle, said Pallotta sought to maneuver Morgan Stanley into holding onto a subprime mortgage sold by an unnamed firm in order to secure business for the alt-A desk.
“There was one loan, or I guess he was trying to get business from Wilmington,” Drew said. “This was mainly subprime seller to Morgan Stanley. And he was trying to get alt-A business, and the person that he was speaking with said, ‘There’s this one loan that Morgan Stanley keeps trying to put back to us and if you can get that rescinded then we’ll talk,’ or something like that.”
It’s not clear that involvement in subprime loans by itself would harm Pallotta’s bid to oust Gottheimer, said Micah Rasmussen, director of the Rebovich Institute for New Jersey Politics at Rider University.
While many Americans hold only a passing familiarity with subprime mortgages, mainly for their role in the Great Recession, that doesn’t necessarily hold true for the New York City-adjacent 5th district.
“People who live in the district are very familiar with the financial industry. Many of them work in the financial industry or have neighbors who are in the financial industry, and we all know that while these investments did not go well, they were part of an industry-wide practice,” Rasmussen said.
Rasmussen suggested that Wall Street is not the kind of lightening rod issue in Bergen County that it is in other parts of the country.
“It’s not as if the firms that engaged in that business are radioactive, so you would not imagine that an executive who worked for one of those firms would be radioactive,” he said.
Still, it provides Gottheimer with an attack line, one that he has more than enough resources to take advantage of.
“When you are running against an opponent as exceptionally well financed as Gottheimer is, you must expect that he can afford to define you with a problem such as this one, which means he’ll get no passes,” Rasmussen said.
But the bigger problem for Pallotta may come from the disconnect between his own statements and those of his former coworkers.
“If it turns out that it wasn’t true, that’s a problem for him, not because of the type of business itself but because you’ve now got an issue of candor and honesty,” Rasmussen said.