Tag Archives: Federal Housing Finance Agency

Reiss in CSM on Rental Policy

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The Christian Science Monitor quoted me in Census Outlines ‘Poverty Areas’: Which States Hit Hardest? It reads in part,

The number of US residents living in “poverty areas” has jumped significantly since 2000, according to a Census Bureau report released Monday.

According the 2000 Census, less than 1 in 5 people lived in poverty areas. But more recently, 1 in 4 residents have lived in these areas, according to census data collected from 2008 to 2012.

The Census Bureau defines a poverty area as any census tract with a poverty rate of 20 percent of more.

Sociologists and other analysts point to the Great Recession, in particular housing and job challenges, as well as slow and uneven growth since the recession.

“With the advent of the financial crisis and the bursting of the housing bubble, many people lost their homes and thus needed to rent or move in with relatives,” says Cheryl Carleton, an economics professor at Villanova University near Philadelphia. “[I]ndividuals need to move where they can afford to live … which is going to be in areas where public housing is available or housing prices and rental rates are low, which is more likely to be in a ‘poverty area.’ ” Professor Carleton made her comments via e-mail.

*     *     *

Law professor David Reiss suggests that changes to homeownership policies could help.
“Federal and state housing programs could do more to support a market for well-maintained rental units for low-income households,” e-mails Professor Reiss, who teaches at Brooklyn Law School. “Many low-income households have difficulty maintaining homeownership because of irregular incomes and low wealth.”

Investors Unite for High GSE-Fees

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Investors Unite, a “coalition of private investors . . . committed to the preservation of shareholder rights for those invested in” Fannie Mae and Freddie Mac sent a letter to FHFA Director Watt pushing for higher guarantee fees (g-fees). The technical issue of how high g-fees should be set actually contains important policy implications, as I had blogged about earlier.

Tim Pagliara, the Executive Director of Investors Unite, writes,

g-fees were historically determined by the GSEs and FHFA does not have a mandate as conservator to run the GSEs as not-for-profit entities. We urge you to adhere to a set of principles that takes into account the critical purpose of setting appropriate guarantee fees while respecting the rights of all economic stakeholders, including the GSE’s shareholders. Ideally, after undoing the 2012 sweep, when setting guarantees fees, FHFA should also take into full consideration that:

1. Fannie Mae and Freddie Mac have profit-making purposes onto which public mandates are layered, and they should charge guarantee fees that earn an appropriate market-based return on the capital employed, whether taxpayer capital or private capital. This is an absolutely critical factor “other than expected losses, unexpected losses and G&A fees” that should be considered when determining g-fees.

2. Increasing guarantee fees will provide more cash flow with which the GSEs can build capital and be restored to “safe and solvent condition.” Maximizing returns is not only consistent with, but arguably required by, the conservatorship.

3. FHFA as conservator has legal duties to the direct economic stakeholders – including all shareholders – that must be respected alongside the interests of other parties.

4. Earning an appropriate return on capital is entirely consistent with the conservatorship and affordable housing mandates. There is no conflict here between the GSEs building capital and setting aside funds for affordable housing. Indeed, it is only when the GSEs have earned their way back to a “safe and solvent condition” that they can sustainably meet their public affordable-housing mandates. After the GSEs have adequate capital, the suspension of those mandates can be reversed, i.e. the affordable housing support can be turned back on.

5. Keeping guarantee fees low to support the housing market in general, including homeowners and homebuyers that are well off and do not need help, is not as important as charging higher guarantee fees (a) to build a capital base to protect against future credit losses, and (b) to redistribute a portion of earnings to targeted constituencies that  particularly need financial support.

6. Guarantee fee rates should be tied to sound underwriting standards. If FHFA directs the GSEs to relax underwriting standards, it is essential that guarantee fees be adjusted upwards to account for the greater credit risk assumed in doing so.

Ultimately, g-fees profits should be allowed to stay within the housing market and should be set at levels that help ensure safety and soundness of the GSEs, that protect long-term health of the housing market, and that respect the rights of all economic stakeholders-including the GSE’s shareholders. (1-2, emphasis added)

This letter goes to the heart of the g-fee debate and the GSE litigation, as far as I am concerned.  The g-fee level will determine whether Fannie and Freddie shares have any value at all. A low g-fee means no profits and no value. A high g-fee means profits and shareholder value. I agree with Pagliara that g-fees should reflect “sound underwriting.” The FHFA should therefore clearly outline the goals that the g-fee is intended to achieve. I may disagree with Pagliara as to what those goals should be, but sound underwriting is key to any vision of a sustainable housing finance market.

Frannie Effects on Mortgage Terms

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The Federal Reserve’s Alex Kaufman has posted The Influence of Fannie and Freddie on Mortgage Loan Terms to SSRN.  It is behind a paywall on SSRN, but an earlier draft is available elsewhere on the web. The abstract reads,

This article uses a novel instrumental variables approach to quantify the effect that government‐sponsored enterprise (GSE) purchase eligibility had on equilibrium mortgage loan terms in the period from 2003 to 2007. The technique is designed to eliminate sources of bias that may have affected previous studies. GSE eligibility appears to have lowered interest rates by about ten basis points, encouraged fixed‐rate loans over ARMs and discouraged low documentation and brokered loans. There is no measurable effect on loan performance or on the prevalence of certain types of “exotic” mortgages. The overall picture suggests that GSE purchases had only a modest impact on loan terms during this period.

This is pretty dry reading, but it is actually an important project: “[g]iven the GSEs’ vast scale, the liability they represent to taxpayers, and the decisions that must soon be made about their future, it is crucial to understand how exactly they affect the mortgage markets in which they operate.” (2, earlier draft) The current conventional wisdom is that the two companies will return in something that looks like their pre-conservatorship form.

Given that that is the case, studies such as these are useful for providing some facts about the actual impact that these two companies actually have on the mortgage market.  In terms of their impact on loan terms, it appears that the two companies have a modest or even “mixed” effect, at least for the subset of mortgages studied. (22, earlier draft) And there “is no measurable effect on loan performance” at all. (22, earlier draft)

I have argued previously that returning Fannie and Freddie to their pre-conservatorship ways is a bad call. I still think that is the case. And I think studies such as these offer support for that view, in the face of the conventional wisdom.

 

Discovery War in GSE Litigation

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The United States filed a motion for a protective order in the Fairholme Funds case in the Court of Federal Claims (the Fairholme Takings case). You may not be familiar with protective orders. By way of background, Federal Rule of Civil Procedure 26(c) states that “The court may, for good cause, issue an order to protect a party or person from annoyance, embarrassment, oppression, or undue burden or expense . . ..”

The federal government can request a protective order, like any other party.  But there may be some unique policies at issue when the federal government makes such a request.  For instance, the federal government may assert a variety of privileges to limit discovery.  These may include the deliberative process qualified privilege.  This privilege is asserted to protect communications about the government’s decisions.  Another example would be the qualified government privilege for official information.  This privilege would be asserted to maintain the confidentiality of official government records.  These are just two examples – there are a whole other range of privileges that the government might assert.  A court’s protective order analysis involving the federal government thus might take into account a variety of legitimate objectives that would not apply in a dispute between two private parties.

Here, the United States is seeking to limit discovery requests that “seek documents that relate in their entirety to the future termination of the conservatorships, with no end date” and “documents that relate (in part) to the future profitability of the Enterprises, again with no end date.” (2) The government argues that

Disclosure of these documents is contrary to the strictures of the Housing and Economic Recovery Act of 2008 (HERA), which bars a court from taking “any action to restrain or affect the exercise of powers or functions” of the Federal Housing Finance Agency (FHFA) as conservator. 12 U.S.C. § 4617(f). The declaration of FHFA Director Melvin Watt explains that disclosure would “have extraordinarily deleterious  consequences on the Conservator’s conduct of the ongoing and future operations of the conservatorships.”  Decisions about when and how to terminate the conservatorships and the future profitability of the Enterprises are at the heart of FHFA’s responsibilities as conservator, and Court-mandated disclosure of information bearing on such matters would jeopardize the stewardship of the Enterprises. (2, footnotes and some citations omitted)

While some of the government’s language in the motion seems hyperbolic, the court should certainly focus on the deliberative process privilege that the government asserts. Defining its scope will have implications far beyond this case, no matter that this case is incredibly important itself.

As to this case itself, it is interesting to see how even procedural disputes in the GSE lawsuits implicate the current operations of the GSEs as well as their post-conservatorship future. There is no question that the plaintiffs are very aware of their effect on the broader debates about the housing finance system as they press their individual claims in court. It is not yet clear to me how much the Court will weigh those considerations in its decision regarding the reach of the deliberative process privilege.

More on GSE Litigation

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Inside Mortgage Finance did a longer story on the GSE litigation that profiled my take on it, Expert: GSE Shareholder Suits at ‘Early Stage’ of a Long Process; Litigation No Barrier to Dissolution, Says Group.

Look for the various lawsuits filed by private owners of Fannie Mae and Freddie Mac stock against the federal government to take a “very long time to be decided,” as the courts may take up to a year to resolve just the introductory motions, according to a legal expert. Beyond that, the litigation over shares in the two government-sponsored enterprises could stretch out to the U.S. Supreme Court.

Brooklyn Law School Professor David Reiss, speaking during a Bloomberg Industries webinar last week, noted that lawsuits stemming from the savings and loan debacle of 20 years ago give a sense of the possible timeframe, but litigation brought by disenfranchised Fannie and Freddie investors against the government offers an entirely different and deeper set of legal complexities.

“These are factually and legally complex cases and don’t trust anyone who thinks this is a slam dunk for any one of the parties,” said Reiss. He added that neither the government nor shareholders of the two government-sponsored enterprises can cut a deal and settle for anything short of total victory.

“I think we have plaintiffs that are going to go all the way on this because they have a lot at stake and they have a lot of resources to pursue their claims. You have a government that doesn’t have an incentive to settle like a normal private party does. They’re not worried about litigation costs or time, so I foresee this going on for a very, very long time,” said Reiss.

More than a dozen lawsuits filed against the government – led by hedge funds Perry Capital and Fairholme Capital Management – are pending in federal district court in Washington, DC, and in the Court of Federal Claims. The shareholder plaintiffs allege that the Treasury’s 2012 change in the dividend structure of its preferred stock leaves no funds to pay dividends to junior shareholders.

The government in its pending motion to dismiss gives some clear indication as to the tactics it will take to derail the various shareholder suits, Reiss explained. The government’s brief states that not a single plaintiff is entitled to recover anything – either on their individual or derivative claims – in light of the extensive powers that the Housing and Economic Recovery Act vests in the Federal Housing Finance Agency in its capacity as conservator to the GSEs.

“Until we have some motions to dismiss decided, we’re not really going to know how wide a scope these cases will have,” he said. “Only when we having a ruling on a summary judgment motion, will we have a sense of the real issues in contention. I will say that we are at an absolutely early stage.”

With the “entire range of private, administrative and constitutional principles” due to be called into question through the litigation, Reiss said there’s a great deal of uncertainty how the courts will decide the issue, including whether the Supreme Court will hear the inevitable appeal by plaintiffs or the defendant.

Although the pending shareholder litigation and investors’ claims of a government taking “must be taken seriously,” there’s no barrier – either from a legal or safety and soundness standpoint – preventing Fannie and Freddie from being dissolved, the Heritage Foundation argued in an issue brief.

“Protecting property rights, however, does not mean that taxpayers and consumers must continue to be put at risk by these government-sponsored housing giants,” said Heritage. “The ongoing lawsuits need not impede and should not distract Congress from the critical task of dissolving these economically dangerous institutions.”

Each of the GSE charters explicitly grants Congress the power to dissolve the corporations free of any conditions. After dissolution, Heritage notes that creditors would be paid off, with any remaining assets divided among shareholders, taking into account the priorities of different classes of shares.

“Because the United States is a defendant in the lawsuits, the litigation can proceed independently of the GSEs’ dissolution,” said Heritage. “If shareholders prevail on their takings claim, or any other monetary claim, they would still be able to receive full restitution for any legitimate claims.”

Reiss on GSE Litigation

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Inside Mortgage Finance profiled me in Legal Expert: GSE Shareholder Plaintiffs, U.S. Want ‘Total’ Victory (behind a paywall). It reads,

Look for the various GSE shareholder lawsuits against the federal government to take a “very long time to be decided” with the courts taking up to a year to resolve just the introductory motions and an ultimate appeal to the U.S. Supreme Court.

That’s the view of one legal expert speaking during a recent Bloomberg Industries webinar on Fannie Mae and Freddie Mac litigation. Brooklyn Law School Professor David Reiss noted there are some parallels to the savings and loan lawsuits brought by owners against the federal government 20 years ago. But the attorney stressed that the litigation from the Fannie and Freddie investors against the government offers an entirely different and deeper set of legal complexities.

“These are factually and legally complex cases and don’t trust anyone that thinks this is a slam dunk for any one of the parties,” predicted Reiss. He added that neither the government nor GSE shareholders can cut a deal and settle for anything short of total victory.

In its motion to dismiss, the government argues that the plaintiffs – hedge funds that have speculated in the junior preferred – are not entitled to recover anything, either on their individual or derivative claims, in light of the extensive powers that the Housing and Economic Recovery Act granted to the Federal Housing Finance Agency in its capacity as conservator.

With the “entire range of private, administrative and constitutional principles” due to be called into question in this litigation, Reiss said there’s a great deal of uncertainty over how the courts will decide the issue, including whether the Supreme Court will hear the inevitable appeal by plaintiffs or defendant.

Reiss in Bloomberg Industries Q&A on Frannie Litigation

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Bloomberg Industries Litigation Analyst Emily Hamburger interviewed me about The Government as Defendant: Breaking Down Fannie-Freddie Lawsuits (link to audio of the call). The blurb for the interview is as follows:

As investors engage in jurisdictional discovery and the government pleads for dismissals in several federal cases over Fannie Mae and Freddie Mac stock, Professor David Reiss of Brooklyn Law School will provide his insights on the dynamics of the lawsuits and possible outcomes for Wall Street, the U.S. government and GSEs. Reiss is the author of a recent article, An Overview of the Fannie and Freddie Conservatorship Litigation.

Emily questioned me for the first half of the one hour call and some of the 200+ participants asked questions in the second half.

Emily’s questions included the following (paraphrased below)

  • You’re tracking several cases that deal with the government’s role in Fannie Mae and Freddie Mac, and I’d like to go through about 3 of the major assertions made by investors – investors that own junior preferred and common stock in the GSEs – against the government and hear your thoughts:
    • The first is the accusation that the Treasury and FHFA’s Conduct in the execution of the Third Amendment was arbitrary and capricious. What do you think of this?
    •  Another claim made by the plaintiffs is that the government’s actions constitute a taking of property without just compensation, which would be seen as a violation of the 5th Amendment – do you think this is a stronger or weaker claim?
    • And finally – what about plaintiffs asserting breach of contract against the government? Plaintiffs have said that the Net Worth Sweep in the Third Amendment to the Preferred Stock Purchase Agreement nullified Fannie and Freddie’s ability to pay dividends, and that the two companies can’t unilaterally change terms of preferred stock, and that the FHFA is guilty of causing this breach.
  • Is the government correct when they say that the section 4617 of the Housing and Economic Recovery Act barred plaintiff’s right to sue over the conservator’s decisions?
  • Former Solicitor General Theodore Olson, an attorney for Perry Capital, has said that the government’s powers with respect to the interventions in Fannie and Freddie “expired” – is he correct?
  • Can you explain what exactly jurisdictional discovery is and why it’s important?
  • Do we know anything about what might happen if one judge rules for the plaintiffs and another judge rules for the government?
  • Is there an estimate that you can provide as to timing?
  • Are there any precedents that you know of from prior crises? Prior interventions by the government that private plaintiffs brought suit against?
  • How do you foresee Congress and policymakers changing outcomes?
  • What do we need to be looking out for now in the litigation?
  • How does this end?

You have to listen to the audiotape to hear my answers, but my bottom line is this — these are factually and legally complex cases and don’t trust anyone who thinks that this is a slam dunk for any of the parties.