Tag Archives: FHFA

Stressing out on Fannie and Freddie

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The Federal Housing Finance Agency issued Projections of the Enterprises’ Financial Performance (Stress Tests) (Apr. 30, 2014). This is a pretty technical, but important, document. The Background section provides some needed context:

This report provides updated information on possible ranges of future financial results of Fannie Mae and Freddie Mac (the “Enterprises”) under specified scenarios, using consistent economic conditions for both Enterprises.

*     *     *

. . . the Dodd-Frank Act requires certain financial companies with total consolidated assets of more than $10 billion, and which are regulated by a primary Federal financial regulatory agency, to conduct annual stress tests to determine whether the companies have the capital necessary to absorb losses as a result of adverse economic conditions. This year is the initial implementation of the Dodd-Frank Act Stress Tests.

In addition to stress tests required per the Dodd-Frank Act, this year as in previous years, FHFA worked with the Enterprises to develop forward-looking financial projections across three possible house price paths (the “FHFA scenarios”). The Enterprises were required to conduct the FHFA scenarios as they have in the past, in conjunction with the initial implementation of the Dodd-Frank Act Stress Tests.

*     *     *

The projections reported here are not expected outcomes. They are modeled projections in response to “what if” exercises based on assumptions about Enterprise operations, loan performance, macroeconomic and financial market conditions, and house prices. The projections do not define the full range of possible outcomes. Actual outcomes may be very different. (4, emphasis in the original)

 The stress test results are as follows:

Dodd-Frank Act Stress Tests Severely Adverse Scenario

  • As of September 30, 2013, the Enterprises have drawn $187.5 billion from the U.S. Treasury under the terms of the Senior Preferred Stock Purchase Agreements (the “PSPAs”).
  • The combined remaining funding commitment under the PSPAs as of September 30, 2013 was $258.1 billion.
  • In the Severely Adverse scenario, incremental Treasury Draws range between $84.4 billion and $190.0 billion depending on the treatment of deferred tax assets.
  • The remaining funding commitment under the PSPAs ranges between $173.7 billion and $68.0 billion. (3)

FHFA Scenarios

  • In the FHFA scenarios, cumulative, combined Treasury draws at the end of 2015 remain unchanged at $187.5 billion as neither Enterprise requires additional Treasury draws in any of the three scenarios.
  • The combined remaining commitment under the PSPAs is unchanged at $258.1 billion.
  • In the three scenarios the Enterprises pay additional senior preferred dividends to the US Treasury ranging between $54.0 billion to $36.3 billion. (3)

There are a number of important points to keep in mind when reviewing this report. First, it addresses just four scenarios out of the the multitude of possible ones. But hopefully the Severely Adverse Scenario gives us a sense of the outer limits of what a crisis could do to the Enterprises and the taxpayers who backstop them.

Second, the report is another corrective to arguments that the federal government’s bailout of the Enterprises can be measured by the amount of money that they actually advanced to the two companies, as opposed to a measure that also accounts for the additional amount that the federal government is committed to provide them if their financial situation takes a turn for the worse.

Finally, as I have noted before, there is an important political battle for control of the narrative of the bailout of the Enterprises. The only narrative during the crisis itself was that the federal government bailed out the two companies because they were insolvent. Revisionist histories, put forward in the main by private shareholders of the two Enterprises, challenge that narrative. The shareholders put forth another version of history: the federal government effectively stole  solvent, viable Fannie and Freddie from them. It will be important for objective third parties to document the truth about this in accordance with Generally Accepted Accounting Principles. From my understanding of the facts, however, it is clear that the two companies were as good as dead when the federal government put them into conservatorship in 2008 and started advancing them tens of billions of dollars year after year until their fortunes turned around in 2012.

Inside Johnson-Crapo

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Enterprise Community Partners, Inc. has posted Inside Johnson-Crapo: What the Senate Housing Finance Reform Bill Could Mean for Low- and Moderate-income Communities. Parsing the various Congressional proposals for housing finance reform is hard enough for an expert, let alone for an interested observer. This policy brief provides a helpful overview of the proposal that is setting the terms for the debate today, with a focus on low- and moderate-income homeownership. Its key findings include:

  • The bill, called the Housing Finance Reform and Taxpayer Protection Act of 2014 or S. 1217, lays a clear and thoughtful path forward for the nation’s housing finance system, including the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac.
  • A new federal agency, modeled after the Federal Deposit Insurance Corporation, would oversee the entire secondary mortgage market and establish a new system of government-insured mortgage-backed securities (MBS). In exchange for a fee, the agency would provide limited insurance against catastrophic losses on qualifying securities issued by private companies. Investors in the private companies would need to incur significant losses before the insurance pays out to holders of the MBS. The bill also winds down Fannie Mae and Freddie Mac, the mortgage companies that were placed under government conservatorship in 2008.
  • The bill includes several provisions to ensure that the new system adequately serves low- and moderate-income communities. First, it requires any issuer of government-insured securities to serve all eligible single-family and multifamily mortgages. Second, it preserves the GSEs’ current businesses for financing rental housing, while ensuring that those businesses continue to support apartments that are affordable to low-income families. Third, it requires issuers to contribute funding to programs that support the creation and preservation of affordable housing. Finally, it creates new market-based incentives to serve traditionally underserved segments of the housing market.
  • Enterprise strongly supports the direction laid out in this bill and appreciates the inclusion of important multifamily provisions. At the same time, we suggest several proposals to further strengthen the bill. Among other things, we recommend that lawmakers promote a level playing field among eligible risk-sharing models; authorize the federal regulator to enforce the bill’s “equitable access” rule; expand the scope of the affordable housing fee; simplify the incentives for supporting underserved market segments; and establish separate insurance funds for single-family and multifamily securities. (1)

The left has criticized Johnson-Crapo for not doing enough for low- and moderate-income homeownership. The right has criticized it for leaving too much risk with the taxpayer. But it seems that a broad center finds that the outline provided by the bill provides a way forward from the zombie-state housing finance finds itself in, with a Fannie and Freddie neither fully alive nor fully dead. Nobody seems to think that a bill will pass this year. But hopefully Congress will keep attending to this issue and we can soon see a resurrected housing finance system, one that can take us through much of the 21st Century just as Fannie and Freddie got us through the 20th.

 

Reiss on BoA-FHFA Settlement

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Inside The GSEs quoted me in BofA MBS Lawsuit Settlement Shrinks List of FHFA Defendants (behind a paywall). It reads,

It’s only a matter of time before the remaining big bank defendants settle lawsuits filed by the Federal Housing Finance Agency over billions in non-agency mortgage-backed securities sold to Fannie Mae and Freddie Mac in the years leading up to the housing crisis, predicts a legal expert.

Last week, Bank of America agreed to a $9.3 billion settlement that covers its own dealings as well as those of Countrywide Financial and Merrill Lynch, which it acquired in 2008. The agreement covers some $57 billion of MBS issued or underwritten by these firms.

BofA did not admit liability or wrongdoing but it will pay $5.8 billion in cash to Fannie and Freddie and repurchase about $3.5 billion in residential MBS at market value. In return, FHFA’s lawsuits against the bank will be dismissed with prejudice.

The FHFA said it is working to resolve the remaining lawsuits regarding non-agency MBS purchased by the GSEs between 2005 and 2007. The suits involve alleged violations of federal and state securities laws and allegations of common law fraud. One week earlier, the Finance Agency announced that Credit Suisse Group had agreed to pay $885 million to settle a similar lawsuit.

Under the terms of that agreement, Credit Suisse will pay approximately $234 million to Fannie and approximately $651 million to Freddie. In exchange, certain claims against Credit Suisse related to the securities involved will be released.

So far, the FHFA’s lawsuits have recovered $19.5 billion in total payments. Expect more where that came from, said David Reiss, a professor at Brooklyn Law School.

“Every case is different and each institution has a different risk profile in terms of litigation strategy,” said Reiss. “The BofA settlement is so high profile because it’s Countrywide. It gives a lodestar when trying to figure out how low [defendants] can go in a settlement offer.”

Prior to the BofA deal, the FHFA had collected $8.9 billion in prior settlements. The Morgan Stanley settlement is the fourth largest of those settlements, behind Deutsche Bank, which agreed to pay $1.93 billion in December, and JPMorgan Chase, which reached a $4 billion settlement in October.

The bank defendants have repeatedly tried and failed to dismiss the FHFA suits on procedural grounds, including a claim that the cases were no longer timely.

In October, the U.S. Supreme Court declined to hear an appeal from the banks, prompting the expectation in legal circles that few, if any, of the remaining cases will ever go to trial.

“I don’t think that if you are a [big bank] defendant, that you see a particularly favorable judiciary,” said Reiss. “You see that the government is able to reach deals with companies in front of you and I think you’re thinking about settling.”

Entities that have yet to settle non-agency MBS claims with the FHFA include Barclays Bank, First Horizon National Corp., Goldman Sachs, HSBC, Nomura Holding America and the Royal Bank of Scotland.

Tough Row to Hoe for Frannie Shareholders

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Inside Mortgage Finance quoted me in a story, GSE Jr. Preferred Shareholders Have a Tough ‘Row to Hoe’ in Winning Their Lawsuits (behind a paywall). It reads,

Expect a long and winding legal road to resolution of investor lawsuits challenging the Treasury Department’s “net worth sweep” of Fannie Mae and Freddie Mac earnings, warn legal experts.

More than a dozen lawsuits filed against the government – including 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 private equity plaintiffs allege that the Treasury’s change in the dividend structure of its preferred stock leaves the government-sponsored enterprises with no funds to pay anything to junior shareholders.

The complaints raise complex constitutional and securities law issues, according to Emily Hamburger, a litigation analyst for Bloomberg Industries. “It may be a year before the crucial questions can be answered by the courts because the parties are still in the early stages of gathering evidence,” explained Hamburger during a recent webinar.

Brooklyn Law School Professor David Reiss agrees. “The plaintiffs, in the main, argue that the federal government has breached its duties to preferred shareholders, common shareholders, and potential beneficiaries of a housing trust fund authorized by the same statute that authorized their conservatorships. At this early stage, it appears that the plaintiffs have a tough row to hoe,” notes Reiss in a draft paper examining the GSE shareholder lawsuits.

Government attorneys argue that Treasury has authority to purchase Fannie and Freddie stock when it’s determined such actions are necessary to provide stability to the financial markets, prevent disruptions in the availability of mortgage finance and protect the taxpayer. The government also argues that the plaintiffs do not have a legal property interest for purposes of a Fifth Amendment “takings” claim due to the GSEs’ status in conservatorship.

Hamburger predicted that the judges in the various suits won’t be able to ignore the “obvious equitable tensions” involved. “The government is changing the terms years after their bailout, but on the other hand, the timing and motivation of investors is going to be challenged too,” she noted.

While Reiss agrees that the junior shareholders “look like they are receiving a raw deal from the federal government,” it’s a tall order to sue the federal government even under the most favorable of circumstances. The plaintiffs will have to overcome the government’s sovereign immunity, unless it is waived, and the government has additional defenses, including immunity from Administrative Procedures Act claims, under the Housing and Economic Recovery Act of 2008.

Reiss explained that HERA states that except “at the request of the Federal Housing Finance Agency, no court may take any action to restrain or affect the exercise of powers or functions of [FHFA] as conservator or receiver.” It remains to be seen how this language might apply to Treasury’s change in the preferred stock agreement, but Reiss said it could be read to give the government broad authority to address the financial situation of the two companies.

“The litigation surrounding GSE conservatorship raises all sorts of issues about the federal government’s involvement in housing finance,” said Reiss. “These issues are worth setting forth as the proper role of these two companies in the housing finance system is still very much up in the air.”

The full paper, An Overview of the Fannie and Freddie Conservatorship Litigation (SSRN link), can also be found on BePress.

Fannie and Freddie’s Debt to Treasury

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Larry Wall of the Federal Reserve Bank of Atlanta has posted one of his Notes from the Vault, Have the Government-Sponsored Enterprises Fully Repaid the Treasury? It opens,

Have U.S. taxpayers been fully compensated for their bailout of the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac? The Treasury is reported to have argued that “the value of Treasury’s commitment to the GSEs was “incalculably large,'” with the implication that it could never be repaid. Richard Epstein, the Peter and Kirsten Bedford Senior Fellow at the Hoover Institution [and who discloses that he consults “with several hedge funds with positions in Fannie and Freddie”], responded that “the level of the Treasury commitment was not ‘incalculably large’: it was $188 billion, all of which will shortly be repaid.” The significance of Epstein’s argument is that if Treasury has been fully compensated for its bailout of Fannie and Freddie, a case can be made that the future profits of the two GSEs should go to their private shareholders.

As an accounting matter, one could argue that Epstein is correct; the dividends equal the amount of Treasury funds provided to the GSEs. And as a legal matter, the issue may ultimately be resolved by the federal courts. However, as an economic matter, the value of the government’s contribution clearly exceeds $188 billion once the risk borne by taxpayers is taken into account.

In this Notes from the Vault I examine the value of the taxpayers’ contribution to Fannie and Freddie from an economic perspective. My analysis of these contributions is divided into three parts: (1) the GSEs’ profitability prior to the 2008 conservatorship agreement (bailout), (2) the value of the taxpayer promise at the time of the bailout, and (3) support of new investments since they were placed in conservatorship. (1)

The article goes on to explain each of these three parts of the taxpayers’ contribution and concludes,

The claim that the taxpayers and Treasury have been fully repaid for their support of Fannie Mae and Freddie Mac is based on an accounting calculation that does not withstand economic analysis. The claim that Treasury’s commitment has been fully repaid attributes no dividend payments to Treasury starting in 2012, attributes no value to the government guarantee to absorb whatever losses arose in the pre-conservatorship book of business, and arguably reflects Treasury setting too low of a dividend rate on its senior preferred stock. Moreover, the profits that are being used to pay the dividends did not arise from the contributions of private shareholders but rather entirely reflect risks borne by the Treasury and taxpayers. Thus, the Treasury claim that the value of the aid was “incalculable” is an exaggeration; the value surely can be fixed within reasonable bounds. However, the implication of this claim, that the GSEs cannot repay the economic value on behalf of their common shareholders, is nevertheless accurate. (2)

This article offers a useful corrective to the story one hears from those representing Fannie and Freddie’s shareholders. They have constructed a simple narrative of the bailout of the two companies that ignores the way that the two companies’ fortunes have been intrinsically tied to the federal government’s support of them. That simple narrative just nets out the monies that Treasury fronted Fannie and Freddie with the payments that the two companies made back to Treasury.  After netting the two, they say, “Case closed!” Wall has demonstrated that there are a lot more factors at play than just those two.

I would also highlight something that Wall did not: the federal government actually determines the level of profits that Fannie and Freddie can make by setting the fees the two companies charge for guaranteeing mortgages. So, the federal government could wipe away future profits by lowering the guaranty fees. And wiping away those profits would make those outstanding shares worthless.

So the question remains: what is the endgame for the investors who have brought these lawsuits?

CFPB Strategy on Mortgage Data

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The CFPB released its Strategic Plan, Budget, and Performance Plan and Report which provides a good summary of what the Bureau has done to date. I was particularly interested in this summary of its work to build a representative database of mortgages:

In FY 2013, the CFPB began a partnership with the Federal Housing Finance Agency (FHFA) to build the National Mortgage Database (NMDB). This work continues in FY 2014. For this database, the FHFA and the Bureau have procured (from a credit reporting agency) credit information with respect to a random and representative sample of 5% of mortgages held by consumers. The NMDB is the first dataset that will provide a truly representative sample of mortgages so as to allow analysis of mortgages over the life of the loans, including firsts, seconds, and home equity loans.

In all of the data used for its analyses, the Bureau will work to ensure that strong protections are in place around personally identifiable information. (66)

Such a database (assuming privacy concerns are adequately addressed) will be an invaluable tool for the Bureau (and researchers too, to the extent that they are allowed to access it). One question that the Strategic Plan does not answer is how fresh will the mortgage data be. The mortgage market can innovate at warp speed, as it did in the mid-2000s, so it will be important for the CFPB database to be as current as possible and accessible to researchers as quickly as possible. That being said, even if the data is a bit stale, it will still provide invaluable guidance regarding abusive behaviors in the market. It should also provide guidance regarding a lack of sustainable credit in the market generally as well as within those communities that have historically suffered from such a lack, low- and moderate-income communities as well as communities of color.

On a separate note, I would say that the Strategic Plan makes some assumptions about the efficacy of financial education that should probably be studied carefully. There is a lot of research that challenges the usefulness of financial education. The Bureau should grapple with that research before it invests heavily in financial education implementation.

Reiss on Fannie and Freddie Conservatorship Litigation

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I have posted An Overview of the Fannie and Freddie Conservatorship Litigation to  SSRN (and to BePress as well). The abstract reads:

The fate of Fannie Mae and Freddie Mac are subject to the vagaries of politics, regulation, public opinion, the economy, and not least of all the numerous cases that have been filed in 2013 against various government entities arising from the placement of the two companies into conservatorship. This short article will provide an overview of the last of these. The litigation surrounding Fannie and Freddie’s conservatorship raises all sorts of issues about the federal government’s involvement in housing finance. These issues are worth setting forth as the proper role of these two companies in the housing finance system is still very much up in the air. The plaintiffs, in the main, argue that the federal government has breached its duties to preferred shareholders, common shareholders, and potential beneficiaries of a housing trust fund authorized by the same statute that authorized their conservatorships. At this early stage, it appears that the plaintiffs have a tough row to hoe.