Tag Archives: Freddie Mac

Credit Risk Transfer Deals

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A Syn

The Federal Housing Finance Agency released an Overview of Fannie Mae and Freddie Mac Credit Risk Transfer Transactions. It opens,

In 2012, the Federal Housing Finance Agency (FHFA) initiated a strategic plan to develop a program of credit risk transfer intended to reduce Fannie Mae’s and Freddie Mac’s (the Enterprises’) overall risk and, therefore, the risk they pose to taxpayers. In just three years, the Enterprises have made significant progress in developing a market for credit risk transfer securities, evidenced by the fact that they have already transferred significant credit risk on loans with over $667 billion of unpaid principal balance (UPB).

Credit risk transfer is now a regular part of the Enterprises’ business. The Enterprises are currently transferring a significant amount of the credit risk on almost 90% of the loans that account for the vast majority of their underlying credit risk. These loans constitute about half of all Enterprise loan acquisitions. Going forward, FHFA will continue to encourage the Enterprises to engage in large volumes of meaningful credit risk transfer through specific goals in the annual conservatorship scorecard and by working closely with Enterprise staff to develop and evaluate credit risk transfer structures. (2)

This is indeed good news for taxpayers and should reduce their exposure to future losses at Fannie and Freddie. There is still a lot of work to do, though, to get that risk level as low as possible. The report notes that these transactions have not yet been done for adjustable-rate mortgages or 15 year mortgages. Most importantly, the report cautions that

Because the programs have not been implemented through an entire housing price cycle, it is too soon to say whether the credit risk transfer transactions currently ongoing will make economic sense in all stages of the cycle. Specifically, we cannot know the extent to which investors will continue to participate through a housing downturn. Additionally, the investor base and pricing for these transactions could be affected by a higher interest rate environment in which other fixed-income securities may be more attractive alternatives. (22)

Taxpayers are exposed to many heightened risks during Fannie and Freddie’s conservatorship, such as operational risk. These risk transfer transactions are thus particularly important while the two companies linger on in that state.

Bank Settlements and the Arc of Justice

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Ron Cogswell

MLK Memorial in DC

Martin Luther King, Jr. said that the “arc of the moral universe is long, but it bends towards justice.” A recent report by SNL Financial (available here, but requires a lot of sign-up info) offers us a chance to evaluate that claim in the context of the financial crisis.

SNL reports that the six largest bank holding companies have paid over $132 billion to settle credit crisis and mortgage-related lawsuits brought by governments, investors and other financial institutions.

In the context of the litigation over the Fannie and Freddie conservatorships, I had considered whether it is efficient to respond to financial crises by allowing the government to do what it needs to do during the crisis and then “use litigation to make an accounting to all of the stakeholders once the situation has stabilized.” (121)

Given that the biggest bank settlements are now in the rear view window, we can now say that the accounting for the financial crisis comes in at around $132 billion give or take. Does that number do justice for the wrongs of the boom times?  I don’t think I have my own answer to that question yet, but it is certainly worth considering.

On the one hand, we should acknowledge that it is a humongous number, a number so big that that no one would have considered it a likely one at the beginning of the financial crisis. This crisis made nine and ten digit settlement numbers a routine event.

On the other hand, wrongdoing (along with good old-fashioned boom mentality) during the financial crisis almost sent the global economy into a depression.  It also wreaked havoc on so many individuals, directly and indirectly.

I look forward to seeing metrics that can make sense of this (ratio of settlement amounts to annual profits of Wall Street firms; ratio to bonus pools; ratio to home equity lost), but I will say that I am struck by the lack of individual accountability that has come out of all of this litigation.

Individuals who made six, seven and eight figure paychecks from this wrongdoing were able to move on relatively unscathed.  We should think about how to avoid that result the next time around. Otherwise the arc of justice will bend in the wrong direction.

 

Wednesday’s Academic Roundup

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Monday’s Adjudication Roundup

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First-Time Homebuyers, You’re Okay

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Couple Looking at Home

Saty Patrabansh of the Office of Policy Analysis and Research at the Federal Housing Finance Agency has posted a working paper, The Marginal Effect of First-Time Homebuyer Status on Mortgage Default and Prepayment.

While this is a dry read, it yields a pretty important insight for first-time homebuyers: you’re okay, just the way you are! The abstract reads,

This paper examines the loan performance of Fannie Mae and Freddie Mac first-time homebuyer mortgages originated from 1996 to 2012. First-time homebuyer mortgages generally perform worse than repeat homebuyer mortgages. But first-time homebuyers are younger and have lower credit scores, home equity, and income than repeat homebuyers, and therefore are comparatively less likely to withstand financial stress or take advantage of financial innovations available in the market. The distributional make-up of first-time homebuyers is different than that of repeat homebuyers in terms of many borrower, loan, and property characteristics that can be determined at the time of loan origination. Once these distributional differences are accounted for in an econometric model, there is virtually no difference between the average first-time and repeat homebuyers in their probabilities of mortgage default. Hence, the difference between the first-time and repeat homebuyer mortgage defaults can be attributed to the difference in the distributional make-up of the two groups and not to the premise that first-time homebuyers are an inherently riskier group. However, there appears to be an inherent difference in the prepayment probabilities of first-time and repeat homebuyers holding borrower, loan, and property characteristics constant. First-time homebuyers are less likely to prepay their mortgages compared to repeat homebuyers even after accounting for the distributional make-up of the two groups using information known at the time of loan origination.

So, just to be clear, being a first-time homebuyer is not inherently risky. Rather, the risks arising from transactions involving first-time homebuyers are the same as those involving repeat homebuyers:  loan characteristics, property characteristics and other borrower characteristics.

Monday’s Adjudication Roundup

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Monday’s Adjudication Roundup

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