Tag Archives: secondary mortgage market

Road to GSE Reform

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photo by Antonio Correa

A bevy of housing finance big shots have issued a white paper, A More Promising Road to GSE Reform. The main objective of the proposal

is to migrate those components of today’s system that work well into a system that is no longer impaired by the components that do not, with as little disruption as possible. To do this, our proposal would merge Fannie and Freddie to form a single government corporation, which would handle all of the operations that those two institutions perform today, providing an explicit federal guarantee on mortgage-backed securities while syndicating all noncatastrophic credit risk into the private market. This would facilitate a deep, broad and competitive primary and secondary mortgage market; limit the taxpayer’s risk to where it is absolutely necessary; ensure broad access to the system for borrowers in all communities; and ensure a level playing field for lenders of all sizes.

The government corporation, which here we will call the National Mortgage Reinsurance Corporation, or NMRC, would perform the same functions as do Fannie and Freddie today. The NMRC would purchase conforming single-family and multifamily mortgage loans from originating lenders or aggregators, and issue securities backed by these loans through a single issuing platform that the NMRC owns and operates. It would guarantee the timely payment of principal and interest on the securities and perform master servicing responsibilities on the underlying loans, including setting and enforcing servicing and loan modification policies and practices. It would ensure access to credit in historically underserved communities through compliance with existing affordable-housing goals and duty-to-serve requirements. And it would provide equal footing to all lenders, large and small, by maintaining a “cash window” for mortgage purchases.

The NMRC would differ from Fannie and Freddie, however, in several important respects. It would be required to transfer all noncatastrophic credit risk on the securities that it issues to a broad range of private entities. Its mortgage-backed securities would be backed by the full faith and credit of the U.S. government, for which it would charge an explicit guarantee fee, or g-fee, sufficient to cover any risk that the government takes. And while the NMRC would maintain a modest portfolio with which to manage distressed loans and aggregate single- and multifamily loans for securitization, it cannot use that portfolio for investment purposes. Most importantly, as a government corporation, the NMRC would be motivated neither by profit nor market share, but by a mandate to balance broad access to credit with the safety and soundness of the mortgage market. (2-3, footnotes omitted)

The authors of the white paper are

  • Jim Parrott, former Obama Administration housing policy guru
  • Lewis Ranieri, a Wall Street godfather of the securitized mortgage market
  • Gene Sperling,  Obama Administration National Economic Advisor
  • Mark Zandi, Moody’s Analytics chief economist
  • Barry Zigas, Director of Housing Policy at Consumer Federation of America

While I think the proposal has a lot going for it, I think that the lack of former Republican government officials as co-authors is telling. Members of Congress, such as Chair of the House Financial Services Committee Jeb Hensaerling  (R-TX), have taken extreme positions that leave little room for the level of government involvement contemplated in this white paper. So, I would say that the proposal has a low likelihood of success in the current political environment.

That being said, the proposal is worth considering because we’ll have to take Fannie and Freddie out of their current state of limbo at some point in the future. The proposal builds on on current developments that have been led by Fannie and Freddie’s regulator and conservator, the Federal Housing Finance Agency. The FHFA has required Fannie and Freddie to develop a Common Securitization Platform that is a step in the direction of a merger of the two entities. Moreover, the FHFA’s mandate that Fannie and Freddie’s experiment with risk-sharing is a step in the direction of the proposal’s syndication of “all noncatastrophic credit risk.” Finally, the fact that the two companies have remained in conservatorship for so long can be taken as a sign of their ultimate nationalization.

In some ways, I read this white paper not as a proposal to spur legislative action, but rather as a prediction of where we will end up if Congress does not act and leaves the important decisions in the hands of the FHFA. And it would not be a bad result — better than what existed before the financial crisis and better than what we have now.

Fannie & Freddie’s Duty to Serve

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Alan Cleaver

The Federal Housing Finance Agency had issued a request for comments on a proposed rulemaking back in December about Enterprise Duty to Serve Underserved Markets. Comments were due yesterday. I drafted a short comment letter on one of the many topics raised by the rulemaking. The abstract reads,

The FHFA has requested input on its proposed rule that would provide a Duty to Serve credit to Fannie Mae and Freddie Mac (The Enterprises) for eligible activities that facilitate a secondary mortgage market for mortgages related to preserving the affordability of housing for homebuyers, among other things.  I write to comment regarding the preservation of affordable homeownership through shared equity homeownership programs.

The Proposed Rule requires that each Objective of an Underserved Markets Plan be measurable in order to determine whether it has been achieved by the Enterprise.  The Proposed Rule requires that these programs “promote successful homeownership.” § 1282.34(d)(4)(iii).  While the Proposed Rule addresses ways that ensure that housing remains affordable for future owners after resale, it does not offer a way to measure successful or sustainable homeownership for participants while they are in a shared equity program.

The FHFA should require that the Enterprises measure the tenure of homeowners participating in shared equity programs and disallow Duty to Serve credit if participants fail to maintain their housing for reasonable length of time.  While this comment is being made in the context of shared equity programs, it applies with equal force to all homeownership programs that are counted for Duty to Serve purposes.

P2P, Mortgage Market Messiah?

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Monty Python's Life of Brian

As this is my last post of 2015, let me make a prediction about the 2016 mortgage market. Money’s Edge quoted me in Can P2P Lending Revive the Home Mortgage Market? It opens,

You just got turned down for a home mortgage – join the club. At one point the Mortgage Bankers Association estimated that about half of all applications were given the thumbs down. That was in the darkest housing days of 2008 but many still whisper that rejections remain plentiful as tougher qualifying rules – requiring more proof of income – stymie a lot of would be buyers.

And then there are the many millions who may not apply at all, out of fear of rejection.

Here’s the money question: is new-style P2P lending the solution for these would-be homeowners?

The question is easy, the answers are harder.

CPA Ravi Ramnarain pinpoints what’s going on: “Although it is well documented that banks and traditional mortgage lenders are extremely risk-averse in offering the average consumer an opportunity for a home loan, one must also consider that the recent Great Recession is still very fresh in the minds of a lot of people. Thus the fact that banks and traditional lenders are requiring regular customers to provide impeccable credit scores, low debt-to-income (DTI) ratios, and, in many cases, 20 percent down payments is not surprising. Person-to-person lending does indeed provide these potential customers with an alternate avenue to realize the ultimate dream of owning a home.”

Read that again: the CPA is saying that for some on whom traditional mortgage doors slammed shut there may be hope in the P2P, non-traditional route.

Meantime, David Reiss, a professor at Brooklyn Law, sounded a downer note: “I am pretty skeptical of the ability of P2P lending to bring lots of new capital to residential real estate market in the short term. As opposed to sharing economy leaders Uber and Airbnb which ignore and fight local and state regulation of their businesses, residential lending is heavily regulated by the federal government. It is hard to imagine that an innovative and large stream of capital can just flow into this market without complying with the many, many federal regulations that govern residential mortgage lending. These regulations will increase costs and slow the rate of growth of such a new stream of capital. That being said, as the P2P industry matures, it may figure out a cost-effective way down the line to compete with traditional lenders.”

From the Consumer Financial Protection Bureau (CFPB) to Fannie and Freddie, even the U.S. Treasury and the FDIC, a lot of federal fingers wrap around traditional mortgages. Much of it is well intended – the aims are heightened consumer protections while also controlling losses from defaults and foreclosures – but an upshot is a marketplace that is slow to embrace change.

Fannie/Freddie 2016 Scorecard

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Anne Madsen

The Federal Housing Finance Agency has posted the 2016 Scorecard for Fannie Mae, Freddie Mac, and Common Securitization Solutions. The FHFA assesses the three entities using the following criteria, among others:

  • The extent to which each Enterprise conducts initiatives in a safe and sound manner consistent with FHFA’s expectations for all activities;
  • The extent to which the outcomes of their activities support a competitive and resilient secondary mortgage market to support homeowners and renters . . . (2)

The FHFA expects Fannie and Freddie to “Maintain, in a Safe and Sound Manner, Credit Availability and Foreclosure Prevention Activities for New and Refinanced Mortgages to Foster Liquid, Efficient, Competitive, and Resilient National Housing Finance Markets.” (3) The specifics are, unfortunately, not too specific when it comes to big picture issues like maintaining credit availability in a safe and sound manner, although the scorecard does discuss particular programs and policies like the Reps and Warranties Framework and the expiration of HAMP and HARP.

The FHFA also expects Fannie and Freddie to “Reduce Taxpayer Risk Through Increasing the Role of Private Capital in the Mortgage Market.” Here, the FHFA has more specifics, as it outlines particular risk transfer objects, such as requiring the Enterprises to transfer “credit risk on at least 90 percent of the unpaid principal balance of newly acquired single-family mortgages in” certain loan categories. (5)

The last goals relate to the building of the Common Securitization Platform and Single Security: Fannie and Freddie are to “Build a New Single-Family Infrastructure for Use by the Enterprises and Adaptable for Use by Other Participants in the Secondary Market in the Future.” (7) The FHFA us moving with all deliberate speed to reshape the secondary mortgage market in the face of indifference or gridlock in Congress.

The FHFA may implement the reform of Fannie and Freddie all by its lonesome. Maybe that’s the best result, given where Congress is these days.

 

Reviewing the Big Short

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Jared

Wax Statue of Ryan Gosling at Madame Tussauds

Realtor.com quoted me in Explaining the Housing Crash With Jenga—Did ‘The Big Short’ Get It Right? The story reads in part,

One of the more hyped movie releases this Oscar season stars the housing crisis itself: “The Big Short,” in which four financial wheelers and dealers (Christian Bale, Steve Carell, Ryan Gosling and Brad Pitt) join forces to figure out what caused the housing bubble of 2003-2005 to burst (and how they could profit from it, of course). It’s based on the best-selling, intensively reported book by journalist Michael Lewis.

Granted, the subprime mortgage meltdown is a complicated subject… but this movie purports to illuminate all with a simple visual aid: a tower of Jenga blocks. As Gosling explains in [this video clip], mortgage bonds at that time were made up of layers called tranches, with the highest-rated and most secure loans stacked on top of the lower-rated “subprime” ones. And once holders of those subprime mortgages defaulted in droves, as they did starting in 2006, the whole structure collapsed. Jenga!

Which seems simple enough. Only is this depiction accurate, or just a Hollywood set piece?

Well, according to David Reiss, Research Director at the Center for Urban Business Entrepreneurship at Brooklyn Law School, this movie’s high-concept depiction of the mortgage crisis is largely on the money.

“There is a lot that is accurate in the clip: the history of mortgage-backed securities, the degradation of mortgage quality during the subprime boom, the loss of value of lower grade tranches,” he says.

*     *     *

Yet there is one thing that the movie did fudge, according to Reiss.

“I would argue that there is one big inaccuracy that exists, I am sure, for dramatic effect,” he says. “I would have put the AAA [tranches] at the bottom of the Jenga stack. In fact, the failure of the Bs and BBs did not cause the failure of AAAs, and many AAAs survived just fine or with modest losses.”

In other words, only the top half of the Jenga tower should have crumbled … but that wouldn’t have looked quite as flashy, would it?

“It would not sound as cool if only the top part of the stack crashed,” Reiss concedes. “But the bigger point, that the failures of the secondary mortgage market led to the crash of the housing market, is spot on.”

And hopefully one that won’t play out again in real life.

Obama Administration on Frannie

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Michael Stegman

Michael Stegman, a White House Senior Policy Advisor, offered up the Obama Administration’s “perspective on critical housing issues” recently. (1) I found the remarks on the future of Fannie and Freddie to be of particular interest:

Before discussing what we would like to see happen in this Congress on GSE reform, you should be aware that last week the Administration made clear its opposition to taking any action in support of what has become known as “recap and release.” We believe that recapitalizing the GSEs with taxpayer funds and administratively- or legislatively-releasing them from conservatorship with a business model that conflicts with their public mission— in essence turning back the clock to the run up to the crisis~ would be both bad policy and poor stewardship of the taxpayers’ interest; willfully recreating the very system that helped do this nation so much harm.
ln remarks I presented two weeks ago at the Mortgage Bankers Association conference, I cautioned that no one should be misled by the increasingly noisy chorus of the advocates of recap and release, many of whom have placed big bets against reform so they can make a‘profit, and are doing everything they can to make sure that those bets pay off.
Nor, I said, should their promise that recap and release would generate a pot of money for affordable housing be taken seriously.
Despite claims to the contrary, recapitalizing the GSEs would not itself provide any resources for affordable housing. Nor can a related — or even unrelated — sale of Treasury’s investment in the GSEs provide any resources for affordable housing. The proceeds of the sale of any GSE obligations acquired by Treasury must by law be “dedicated for the sole purpose of deficit reduction.”
Rather than freeing recapitalized GSEs from conservatorship with their flawed charters intact, we should pursue more comprehensive approaches to reform such as those that members of Congress have introduced over the past two years including mutualizing Fannie and Freddie, or build upon bipartisan agreements on the features of a future secondary market system that were hammered out in the Senate Banking Committee last year:
Preservation of the TBA market; an explicit, paid for government guarantee of catastrophic losses for investors in qualifying MBS; maintaining a clear separation of the primary and secondary markets; ensuring the flow of mortgage credit in both good times and bad; separating the securitization plumbing from private credit risk taking; ensuring that community lenders have the same access to the secondary market as big banks; and making the benefits of government guaranteed MBS available to all households — both those who choose to rent and those with the ability and desire to own.
Members in Congress also reached bipartisan consensus on a transparent way to serve those the private market cannot serve without subsidy, through an annual 10 basis point assessment on the outstanding balance of government-guaranteed MES—which once fully implemented, would generate about 15 times more resources a year for affordable housing than FHFA is expected to raise through the GSEs’ current affordable housing levy–though we were pleased to see the Director begin collections on the affordability fee and look forward to effectively implementing the dollars through the Housing Trust Fund and the Capital Magnet Fund that should become available for the first time in the early months of 2016.
But there is much more work to be done on ensuring a level playing field in the new system, including a robust role for community banks and credit unions who know how best to serve their customers, and ensuring that all communities are served fairly, which can be most effectively achieved through a statutory duty to serve. Regrettably, the Committee could not agree upon such a provision during last year’s negotiations, and we will continue to fight for it. (3-4)
Much of these remarks are eminently reasonable but I have to say that the Obama Administration has not deployed much political capital on reforming the housing finance system. This has left the whole system in limbo and the longer it stays in limbo, the more likely it is that special interests will make inroads into the reform of the system, inroads that will not be in the public interest.
While the likelihood of reform coming out of the current Congress is incredibly small, the Administration should take all of the administrative steps it can to sketch out an outline of a housing finance system that can work for a broad range of borrowers through the credit cycle without putting excessive risk on taxpayers.
The Administration has taken some steps in the right direction, like off-loadling some risk from Fannie and Freddie to private investors. But there is a lot more work to be done if we are to have a system that provides the optimal amount of credit through the 21st century.

Frannie v. Private-Label Smackdown

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Eric Armstrong

S&P posted a report, Historical Data Show That Agency Mortgage Loans Are Likely to Perform Significantly Better Than Comparable Non-Agency Loans. The overview notes,

  • We examined the default frequencies of both agency and non-­agency mortgage loans originated from 1999­-2008.
  • As expected, default rates for both agencies and non-­agencies were higher for crisis-­era vintages relative to pre­-crisis vintages.
  • The loan characteristics that were the most significant predictors of default were FICO scores, debt­-to­-income (DTI) ratios, and loan­-to­-value (LTV) ratios.
  • Agency loans performed substantially better than non­agency loans for all vintages examined. The default rate of agency loans was approximately 30%-­65% that for comparable non-­agency loans, whether analyzed via stratification or through a logistic regression framework. (1)

This is not so surprising, but it is interesting to see the relative performance of Frannie (Fannie & Freddie) and Private-Label loans quantified and it is worth thinking through the implications of this disparity.

S&P was able to do this analysis because Fannie and Freddie released their “loan-level, historical performance data” to the public in order to both increase transparency and to encourage private capital to return to the secondary mortgage market. (1) Given that the two companies have transferred significant credit risk to third parties in the last few years, this is a useful exercise for potential investors, regulators and policymakers.

It is unclear to me that this historical data gives us much insight into future performance of either Frannie or Private-Label securities because so much has changed since the 2000s. Dodd-Frank enacted the Qualified Mortgage, Ability-to-Repay and Qualified Mortgage regimes for the primary and secondary mortgage market and they have fundamentally changed the nature of Private-Label securities. And the fact that Fannie and Freddie are now in conservatorship has changed how they do business in very significant ways just as much. So, yes, old Frannie mortgages are likely to perform better, but what about new ones?