Treasury Official Throws Cold Water on Fannie/Freddie Optimism, HARP Extension

A Treasury Department official said
today that despite arguments that Fannie Mae and Freddie Mac (the GSEs) are
financially flush and that, with the confirmation of Mel Watt as Director of
the Federal Housing Finance Agency (FHFA) the administration can now accomplish
its goals without the help of Congress, it is critical to continue the pursuit
of comprehensive housing finance reform. 

Secretary for Housing Finance
Policy Dr. Michael Stegman told a meeting of the ABS Structured Finance Industry Group many of the structural flaws
of the legacy GSE-centric mortgage finance system have not been fixed.  Indefinitely continuing a taxpayer-backed
duopoly is neither sustainable nor sensible public policy.

First, the GSEs might not be that flush.  He said that recent quarterly results may “significantly overstate the true financial condition
of the enterprises, especially on a go-forward basis.”  Some recent income has resulted from one-time
tax reversals, releases of loan loss reserves, or settlements of legacy
securities litigation.  Excluding these,
in the first three quarters of 2013 more than 60 percent of the GSEs’ combined
income was from their retained investment portfolios which they are required to
steadily shrink under their agreements with Treasury.  They have also benefited significantly
from strong home-price appreciation and low interest rates, both of which may
moderate in future periods. 

Further, he said, keeping the GSEs in a conservatorship
designed by emergency legislation is not the best way to operate over the long
term and continued uncertainty about their future will continue to impede
access to credit.  Thus comprehensive
housing finance reform remains a top Administration priority.

Stegman said the President has outlined his objectives for
that reform
; require private capital to play the dominant role in providing
mortgage credit; ensure creditworthy borrowers have broad access to safe and
responsible mortgages; put in place strong safeguards to protect taxpayers; and
help ensure access to affordable rental options for middle class families and
those who are working toward joining the middle class.  The following are priorities.

  • Preserving a deep and liquid TBA
    market. A catastrophic government
    guarantee of qualified mortgage backed securities (MBS) standing behind
    substantial private capital in a first loss position is critical to maintaining
    market liquidity and preserving broad access to the 30-year fixed rate mortgage. GSEs’ legacy securities must have a
    comparable guarantee.

A good first step toward this would be to reduce the price
gap between Freddie Mac’s securities and Fannie Mae’s by linking them.  This would reduce the cost to taxpayers and
improve liquidity in the TBA market.

  • The holding or syndicating of credit
    risk should be separated from the act of securitizing mortgages. This would help prevent entities holding
    credit risk from becoming too important to fail because they also control the infrastructure
    needed to create securities. It would
    also lower the barriers to entry. “Our
    preference would be that all single-family mortgages that receive a
    government-backed wrap be securitized through a single, non-profit
    securitization utility that would issue standardized mortgage backed
    • To attract significant private
      capital to take credit risk, the regulator should be able to approve various
      forms of first loss as long as they meet specified criteria. Allowing different types of first loss
      mechanisms can help attract a wide source of private capital to take credit

    There are two phases of the mortgage
    credit cycle in which alignment of interest issues arise between the first
    loss-taker and the government: (1) when mortgage pools are formed; and, (2)
    throughout life of the loan.  The
    interests of the Guarantor entity and the government are powerfully aligned where
    a well-capitalized guarantor is responsible for paying all credit losses on a
    given pool and the government guarantee is triggered only when all of its
    capital is exhausted.

    •  Creditworthy borrowers in all
      geographies, and with varying income levels, must have access to the system. All originators, guarantors, and aggregators within
      a government guaranteed system will be required to provide mortgage credit on an
      equitable and non-exclusionary basis with a strong independent regulator available
      to enforce compliance.
      • The future system must provide
        liquidity to the rental market. The new system should have many more
        participants and be more competitive than the current marketplace, where the GSEs
        dominate. Stegman says the Administration supports repeal of GSE affordable
        housing goals but would incorporate affordability standards for multifamily
        housing into the new system.
      • The new system should include a
        national mortgage database. The recovery
        was hampered by the low quality and idiosyncratic coverage of mortgage data
        such as information to assess risk or to identify and link senior and junior
        liens. A comprehensive database covering
        residential loans and liens would be a significant step to improve these data
      • The transition must be done in a way
        that does not disrupt liquidity and access to credit and will take time, at
        least five years. In the lead up to a successful transition, the GSEs should
        ramp up their risk sharing transactions, and make strong progress on their
        Common Securitization Platform, since a single securitization utility is
        central to the future system. The Administrations also wants to see a number of
        new guarantors during the transition period prior to terminating the GSEs’ authority to do new business.

      A robust non-agency private label
      market is crucial to any future system and increasing guarantee fees
      is necessary but not sufficient to insure the re-entry of private capital.  Stegman said as he looks at the three crucial
      focal points of reform he sees a new confirmed director of FHFA, a bipartisan commitment
      to reform on the part of the Senate Banking Committee, and sees “one glaring

      “Where can we turn to find the focal
      point for reforming and reinvigorating the private label securities sector?
      Where is the center of gravity for
      addressing standards around reps and warranties, trustee obligations, data and
      disclosure, loss mitigation, and related issues? In the absence of an apparent
      leader, Treasury plans to coordinate a series of conversations with relevant regulators, market
      participants, and other stakeholders to help accelerate necessary reforms in
      the non-agency space. 

      Stegman also told the group that
      Treasury is not in favor of extending the eligibility for refinancing under the
      Home Affordable Refinance Program (HARP) to loans originated after the current
      May 31, 2009 cutoff date.  Very few
      homeowners whose loans were originated after that date are underwater, he said,
      and changing the date would prolong market and investor uncertainties.  But, he
      added, we must remember the inability of performing underwater borrowers whose
      loans are held in private label security trusts to refinance, a situation which
      has motivated some communities to suggest using eminent domain to seize and “right
      size” residents’ mortgage debt.  “As we work to reform the housing
      finance system, we will seek to ensure that neither the source of one’s
      mortgage nor who owns the credit risk should determine a borrower’s eligibility
      for refinancing or mortgage assistance.”

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