January 30, 2018
The Mortgage Servicing Collaborative
The Urban institute’s Laurie Goodman et al. have announced The Mortgage Servicing Collaborative:
All mortgage market participants share the same goal: successful homeownership. Failure to achieve that goal hurts not only consumers and neighborhoods, but investors, insurers, guarantors, and servicers. Successful homeownership hinges on several factors. Consumers need access to a range of mortgage products when buying a home and need effective mortgage servicing. Servicing is the critical work that begins after the mortgage loan is closed and includes collecting and transferring mortgage payments from borrowers to investors, managing escrow, assisting borrowers who fall behind on their payments, and administering the foreclosure process. If closing the loan is the birth of the mortgage, servicing is its day-to-day care.
Despite its importance, mortgage servicing is frequently overlooked in major policy conversations, including the housing finance reform debate. That is a mistake. The servicing industry has changed dramatically since the 2008 mortgage default and foreclosure crisis and subsequent Great Recession. Overlooking servicing while implementing changes to the housing finance system has resulted in some unintended and unwanted consequences, including significant increases in the cost of servicing, a suboptimal servicing system, reduced access to credit for consumers, and an exodus from the industry by depository servicers.
To address this policy oversight, the Urban Institute’s Housing Finance Policy Center (HFPC) has convened the Mortgage Servicing Collaborative (MSC) to elevate the mortgage servicing discussion and facilitate evidence-based policymaking by bringing more data and evidence to the table. The MSC has convened key industry stakeholders—lenders, servicers, consumer groups, civil rights leaders, researchers, and government—and tasked them with developing a common understanding of the biggest issues in mortgage servicing, their implications, and possible solutions and policy options that can advance the debate. And with the mortgage industry no longer operating in crisis mode, we believe now is the right time for this effort.
In this brief, the first in a series prepared by HFPC researchers with the collaboration of the MSC, we review how we arrived at the present state of affairs in mortgage servicing and explain why it is important to institute mortgage servicing reforms now. (1-2, footnote omitted)
The report provides a short but useful history of servicing, which at the best of times is a dark corner of the mortgage market. It also provides an overview of the risks inherent in a poorly constructed system of servicing for consumers and other players in that market. The Collaborative will certainly be taking deeper dives into these risks in future releases.
As with much of the Housing Finance Policy Center’s work, this collaborative is very forward-looking. Hopefully, it will help us prepare for the next downturn in the housing market.
January 30, 2018 | Permalink | No Comments
January 29, 2018
Bringing Housing Finance Reform over the Finish Line
Mike Milkin at Milkin Institute Global Conference
The Milkin Institute have released Bringing Housing Finance Reform over the Finish Line. It opens,
The housing finance reform debate has once again gained momentum with the goal of those involved to move forward with bipartisan legislation in 2018 that results in a safe, sound, and enduring housing finance system.
While there is no shortage of content on the topic, two different conceptual approaches to reforming the secondary mortgage market structure are motivating legislative discussions. The first is a model in which multiple guarantor firms purchase mortgages from originators and aggregators and then bundle them into mortgage-backed securities (MBS) backed by a secondary federal guarantee that pays out only after private capital arranged by each guarantor takes considerable losses (the multiple-guarantor model). This approach incorporates several elements from the 2014 Johnson-Crapo Bill and a subsequent plan developed by the Mortgage Bankers Association. Fannie Mae and Freddie Mac—the government-sponsored enterprises (GSEs)—would continue as guarantors, but would face new competition and would no longer enjoy a government guarantee of their corporate debt or other government privileges and protections.
The second housing finance reform plan is based on a multiple-issuer, insurance-based model originally proposed by Ed DeMarco and Michael Bright at the Milken Institute, and builds on the existing Ginnie Mae system (the DeMarco/Bright model). In this model, Ginnie Mae would provide a full faith and credit wrap on MBS issued by approved issuers and backed by loan pools that are credit-enhanced either by (i) a government program such as the Federal Housing Administration (FHA) or U.S. Department of Veterans Affairs (VA), or (ii) Federal Housing Finance Agency (FHFA)- approved private credit enhancers that arrange for the required amounts of private capital to take on housing credit risk ahead of the government guarantee. Fannie Mae and Freddie Mac would be passed through receivership and reconstituted as credit enhancement entities mutually owned by their seller/servicers.
While the multiple guarantor and DeMarco/Bright models differ in many ways, they share important common features; both address key elements of housing finance reform that any effective legislation must embrace. In the remainder of this paper, we first identify these key reform elements. We then assess some common features of the two models that satisfy or advance these elements. The final section delves more deeply into the operational challenges of translating into legislative language specific reform elements that are shared by or unique to one of the two models. Getting housing finance reform right requires staying true to high-level critical reform elements while ensuring that technical legislative requirements make economic and operational sense. (2-3, footnotes omitted)
The report does a good job of outlining areas of broad (not universal, just broad) agreement on housing finance reform, including
- The private sector must be the primary source of mortgage credit and bear the primary burden for credit losses.
- There must be an explicit federal backstop after private capital.
- Credit must remain available in times of market stress.
- Private firms benefiting from access to a government backstop must be subject to strong oversight. (4-5)
We are still far from having a legislative fix to the housing finance system, but it is helpful to have reports like this to focus us on where there is broad agreement so that legislators can tackle the areas where the differences remain.
January 29, 2018 | Permalink | No Comments
January 26, 2018
Trump and the Regulation of Real Estate
I have posted my article, The Trump Administration and Residential Real Estate Finance, which just came out in Westlaw Journal Derivatives to SSRN (and also to BePress). The abstract reads,
An executive order titled “Reducing Regulation and Controlling Regulatory Costs” was one of President Donald Trump’s first executive orders. He signed it Jan. 30, 2017, just days after his inauguration. It states: “It is the policy of the executive branch to be prudent and financially responsible in the expenditure of funds, from both public and private sources. … It is essential to manage the costs associated with the governmental imposition of private expenditures required to comply with federal regulations.” This executive order outlined a broad deregulatory agenda, but it was short on details other than setting a requirement that every new regulation be accompanied by the elimination of two existing ones. A few days later, Trump issued another executive order that was focused on financial services regulation in particular. That order is titled “Core Principles for Regulating the United States Financial System.” It says the Trump administration’s first core principle for financial services regulation is to “empower Americans to make independent financial decisions and informed choices in the marketplace, save for retirement, and build individual wealth.” However, it is also short on details.
Since Trump signed these two broad executive orders, his administration issued two sets of documents that fill in applicable details for financial institutions. The first is a slew of documents that were released as part of the Office of Information and Regulatory Affairs’ Current Regulatory Plan and the Unified Agenda of Regulatory and Deregulatory Actions. The second is a series of Treasury reports — titled “A Financial System That Creates Economic Opportunities” — that are directly responsive to the core principles executive order. While these documents cover a broad range of topics, they offer a glimpse into how this administration intends to regulate — or more properly, deregulate — residential real estate finance in particular. What is clear from these documents is that the Trump administration intends to roll back consumer protection regulation so that the mortgage market can operate with far less government oversight.
January 26, 2018 | Permalink | No Comments
January 24, 2018
The Miraculous Continuous Workout Mortgage
Professor Robert Shiller
Nobel Prize winner Robert Shiller et al. have posted Continuous Workout Mortgages: Efficient Pricing and Systemic Implications to SSRN. The paper opens,
The ad hoc measures taken to resolve the subprime crisis involved expending financial resources to bail out banks without addressing the wave of foreclosures. These short-term amendments negate parts of mortgage contracts and question the disciplining mechanism of finance. Moreover, the increase in volatility of house prices in recent years exacerbated the crisis. In contrast to ad hoc approaches, we propose a mortgage contract, the Continuous Workout Mortgage (CWM), which is robust to downturns. We demonstrate how CWMs can be offered to homeowners as an ex ante solution to non-anticipated real estate price declines.
The Continuous Workout Mortgage (CWM, Shiller (2008b)) is a two-in-one product: a fixed rate home loan coupled with negative equity insurance. More importantly its payments are linked to home prices and adjusted downward when necessary to prevent negative equity. CWMs eliminate the expensive workout of defaulting on a plain vanilla mortgage. This subsequently reduces the risk exposure of financial institutions and thus the government to bailouts. CWMs share the price risk of a home with the lender and thus provide automatic adjustments for changes in home prices. This feature eliminates the rational incentive to exercise the costly option to default which is embedded in the loan contract. Despite sharing the underlying risk, the lender continues to receive an uninterrupted stream of monthly payments. Moreover, this can occur without multiple and costly negotiations. (1, references omitted)
If it is not obvious, this is a radical idea. It was not even contemplated before the financial crisis. That being said, it is pretty brilliant financial innovation, one that should not just be discussed by academics. The paper provides a lot more detail about the proposal for those who are interested. And if you want to avoid taxpayer bailouts of the housing market in the future, you should be interested.
January 24, 2018 | Permalink | No Comments
January 23, 2018
Aggressive Retirement Investing in Real Estate Lending
InsuranceNewsNet.com quoted me in Investors ‘Flocking In’ to Real Estate Lending. It reads, in part,
The stock market is off to a roaring start in 2018, but there’s no shortage of investment gurus who warn that continued equities growth is far from guaranteed.
The dreaded market correction could be coming sooner, rather than later, some say.
That gives some money managers pause about what asset tools to steer in and out of a client’s retirement portfolio. But there’s an emerging school of thought that one specific alternative investment could be good protection against a stock market correction.
“We’re seeing financial experts weigh in with their 2018 investing recommendations, citing everything from mutual funds to value stocks,” said Bobby Montagne, chief executive officer at Walnut Street Finance, a private lender.
But one prime retirement savings vehicle often gets overlooked — real estate lending, Montagne said.
Real estate lending means investing in a private loan fund managed by a private lender. Walnut Street is one such lender in the $56 billion home-flipping market.
“Your money helps finance individuals who purchase distressed properties, renovate them, and then quickly resell at a profit,” Montagne explained. “Investments are first-lien position and secured by real assets.”
With real estate lending, investors can put small percentages of their 401(k)s or IRAs in a larger pool of funds, which lenders then match with budding entrepreneurs working on home flipping projects, he said.
“It allows investors to diversify their portfolios without having to collect rent or renovate homes, as they would in hands-on real estate investing,” Montagne added.
* * *
An Aggressive Investment
Some investment experts deem any investment associated with real estate flipping as a higher-risk play.
“Investing a percentage of a retirees funds in real estate flipping would be considered an aggressive investment,” said Sid Miramontes, founder and CEO of Irvine, Calif.-based Miramontes Capital, which has more than $250 million in assets under management.
Even though the investor would not directly manage the real estate project, he or she has to understand the risks involved in funding the project, material costs, project completion time, the current interest rate environment, where the properties are located geographically and the state of the economy, he said.
“I have had pre-retirees invest in these projects with significant returns, as well as clients that did not have experience and results were very poor,” he added. “The investor needs to realize the risks involved.”
A 1 percent to 5 percent allocation is appropriate, only if the investor met the aggressive investment criteria and understood the real estate market, Miramontes said.
Investment advisors and their clients should also be careful about grouping all real estate lending into one basket.
“You could invest in a mortgage REIT, which would be a more traditional vehicle to get exposure to real estate lending,” said David Reiss, professor of law at Brooklyn Law School in Brooklyn, N.Y. “If you’re doing something less traditional, research the fund’s track record, volatility, management, performance and expenses.
“You should be very careful about buying into a fund that does not check out on those fronts.”
January 23, 2018 | Permalink | No Comments
January 22, 2018
The Case for More Federal Housing Assistance
Corianne Payton Scally et al. of the Urban Institute have posted a Research Report, The Case for More, Not Less: Shortfalls in Federal Housing Assistance and Gaps in Evidence for Proposed Policy Changes. The Executive Summary opens,
Federal housing assistance programs aim to ensure that those who receive assistance have decent, safe, and affordable housing. Unlike some other key safety net programs, however, housing assistance is not an entitlement, which means it does not provide benefits to all who are deemed eligible. Currently, available assistance falls significantly short of the current and growing need for it: only one in five renter households who qualify for housing assistance actually receive any.
Recent proposals, including the recently enacted Tax Cuts and Jobs Act, the administration’s proposed fiscal year 2018 budget, and Speaker of the House Paul Ryan’s A Better Way plan, threaten deep cuts and significant changes to housing assistance. These funding and policy changes will decrease the funds for the preservation and creation of affordable housing, reduce the amount of assistance available, and may undermine the stability of those currently on assistance.
This report provides an overview of the current landscape of housing assistance, its central role in the safety net, and the evidence on contemporary policy proposals. We highlight several critical gaps in our knowledge that suggest we need a serious review of our affordable housing policy with a focus on developing a stronger evidence base before attempting large-scale changes to federal housing assistance programs. (v, citation omitted)
The title of the report is very hopeful in the current political environment, but the report does close with some fundamental questions that members of both parties should struggle with:
- How should we determine need for housing assistance?
- What subgroups should be prioritized for housing assistance and for what reasons?
- How should “affordable” be defined—30 percent of income, or more? Less?
- What is the public cost of transitioning more households to work versus continuing to provide housing assistance?
- What are the best practices for coordinating and delivering services for adults? For children and youth?
It would be great to hear definitive Republican and Democratic answers to these questions.
January 22, 2018 | Permalink | No Comments
January 25, 2018
Credit Risk Transfer and Financial Crises
By David Reiss
Susan Wachter posted Credit Risk Transfer, Informed Markets, and Securitization to SSRN. It opens,
Across countries and over time, credit expansions have led to episodes of real estate booms and busts. Ten years ago, the Global Financial Crisis (GFC), the most recent of these, began with the Panic of 2007. The pricing of MBS had given no indication of rising credit risk. Nor had market indicators such as early payment default or delinquency – higher house prices censored the growing underlying credit risk. Myopic lenders, who believed that house prices would continue to increase, underpriced credit risk.
In the aftermath of the crisis, under the Dodd Frank Act, Congress put into place a new financial regulatory architecture with increased capital requirements and stress tests to limit the banking sector’s role in the amplification of real estate price bubbles. There remains, however, a major piece of unfinished business: the reform of the US housing finance system whose failure was central to the GFC. Fannie Mae and Freddie Mac, the government-sponsored enterprises (GSEs), put into conservatorship under the Housing and Economic Recovery Act (HERA) of 2008, await a mandate for a new securitization structure. The future state of the housing finance system in the US is still not resolved.
Currently, US taxpayers back almost all securitized mortgages through the GSEs and Ginnie Mae. While pre-crisis, private label securitization (PLS) had provided a significant share of funding for mortgages, since 2007, PLS has withdrawn from the market.
The appropriate pricing of mortgage backed securities can discourage lending if risk rises, and, potentially, can limit housing bubbles that are enabled by excess credit. Securitization markets, including the over the counter market for residential mortgage backed securities (RMBS) and the ABX securitization index, failed to do this in the housing bubble years 2003-2007.
GSEs have recently developed Credit Risk Transfers (CRTs) to trade and price credit risk. The objective is to bring private market discipline to bear on risk taking in securitized lending. For the CRT market to accomplish this, it must avoid the failures of financial assets to price risk. Are prerequisites for this in place? (2, references omitted)
Wachter partially answers this question in her conclusion:
CRT markets, if appropriately structured, can signal a heightened likelihood of systemic risk. Capital markets failed to do this in the run-up to the financial crisis, due to misaligned incentives and shrouded information. With sufficiently informed and appropriately structured markets, CRTs can provide market based discovery of the pricing of risk, and, with appropriate regulatory and guarantor response, can advance the stability of mortgage finance markets. (10)
Credit risk transfer has not yet been tested by a serious financial crisis. Wachter is right to bring a spotlight on it now, before events in the mortgage market overtake us.
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January 25, 2018 | Permalink | No Comments