CrunchedCredit : Capital Markets Finance and Real Estate Attorneys

While the stylized program analyzed by the CBO is not an analysis based on a legislative proposal (and instead is an analysis based on a CBO-developed probabilistic model of borrower behavior, estimated from the historical performance of GSE and FHA mortgage loans), the analysis, nevertheless, serves as a basis to assess whether (any similar) refinancing program would have a significant impact on the U.S. housing market.

The stylized program analyzed by the CBO is aimed at helping those distressed borrowers who do not qualify for the current federal refinancing programs (i.e., HAMP, HARP and the FHA) by loosening eligibility requirements. The thought is—loosen eligibility requirements (e.g., relax LTV tests, waive appraisal requirements, limit borrower income tests, include existing loans guaranteed by the GSEs and FHA, etc.) and more distressed borrowers will be able to refinance their mortgages and avoid default. After all, even those contestants who are not smarter than a fifth grader know that avoiding default is beneficial to both the distressed borrowers and the economy at large.

Under these loosened eligibility requirements, the CBO estimates that the program would cause 2.9 million mortgages to be refinanced, resulting in 111,000 fewer defaults on loans and an estimated savings for the GSEs and FHA of $3.9 billion on their guarantee exposure, and from the borrowers’ perspective, the estimate savings within the first year is estimated to be $7.4 billion. Wow—you say…things are looking good. But (and wait for it because it is a BIG BUT), the CBO estimates that federal investors in MBSs, including the Federal Reserve, GSEs and Treasury would experience an estimated loss of $4.5 billion. And, now for the BIG BUT, non-federal investors (i.e., everyone else involved) would experience an estimated loss of $13-15 billion.

All of this loss for what (here is where we feel a sense of déjà vu): 

• a program that doesn’t help delinquent borrowers (i.e., borrowers most likely to default)—actually, the program specifically excludes delinquent borrowers and borrowers that have been late for 30 days within the past year—and sounds a lot like the existing federal programs HARP and HAMP, which have been criticized for not helping enough borrowers;
• a program that will have a net benefit on the economy of about 0, as the losses to investors will negate the gains to borrowers;
• a program, that in the end, probably won’t reach too many distressed borrowers, because many borrowers that wanted to refinance and could, one way or another, have already done so (remember, mortgage rates have been historically low for a few years now);
• a program that may end up increasing the GSEs and FHA guarantee exposure, as lenders will likely not agree to refinance unless the “put back” options and standard reps and warrants about the loans themselves are eliminated; and
• a program that does nothing for borrowers with significant negative equity to reduce the incentive for “strategic” default or the susceptibility to delinquency caused by life or other economic realities (think unemployment rate 9.1%).
   

We want to see an end to borrower delinquency and foreclosure as much as the next guy, but creating another program that has about as much chance of success as the Cubs winning the World Series is not the direction in which our hopes should be pitched.

By: Krystyna Blakeslee and Devin Swaney

Congressman Garrett noted in his remarks that the portfolios of the GSEs are a combined $1.5 trillion-- a book with a lot of interest rate risk and a lot of unrealized gain. He said this portfolio needs to be unwound sooner rather than later. He wants to see the GSEs on the federal budget-- on the books of the U.S. government-- and he noted that in private industry, there has been a movement toward on-balance sheet and questioned why this wasn't so in Washington.

Knowing his audience, he stressed that securitization has to play a huge, vital, integral part in the resurrection of the mortgage market, and he said that securitization is vital to the movement of capital around the country. He noted the unsustainability of FHA insuring 50% of new originations and the government underwriting 95% of the mortgage market. The Congressman stated he is firmly committed to a purely private U.S. mortgage market over time, free of government subsidies or guarantees. He acknowledged concerns associated with a purely private market but also said there are competing concerns with models that include government support.

Addressing assertions from critics, the Congressman asked whether home price increases and higher down payments would be so bad (possible results of the 30-yr fixed rate mortgage not surviving without a government guarantee). He questioned whether the government is able to price catastrophic credit risk and pointed to a shoddy track record. He posited that there are other ways to keep a TBA market viable aside from a government guarantee and noted that the government steps in at the end of the day perhaps because it is allowed to, and that allowing it to increases the chances the government will do so. He noted that a discussion of servicing standards in connection with QRM never came up in crafting Dodd-Frank and suggests regulators not take the servicing issue into account. In the Risk Retention breakout session later in the morning, Tom Boemio (Sr. Project Manager, Policy, Board of Governors of the Federal Reserve System) concurred and asked: Why have servicing standards in connection with the highest quality loans only-- and not the rest?

The Congressman said there is no role for government assistance except in connection with first-time home buyers, and such assistance should be on-budget and transparent. Finally, he said that the government has to play a big role because the private sector isn't-- the old chicken-egg thing. [His prepared remarks can be found here].

At the February 7 General Session that followed, Martin Hughes of Redwood Trust further addressed the chicken and the egg issue noting that "uber government support is stifling the return of private securitization." He acknowledged that government bids are attractive and there's been no incentive for banks to sell to non-agency, and that reducing the government's role would be a game changer. Addressing the circular problem, he did note that if the government backs out before the private sector is up and running, there are sure to be problems but he suggested the status quo needs to be tested. Stating that "issuance velocity leads to issuance velocity," he also noted there are too few prime loans to get real issuance velocity. Hughes agreed that, yes, investors are mad, and investors have demands and opinions with respect to servicing practices but he believes those demands can be met and that prime jumbo can have safe attractive yields.

Hughes summarized the general sentiment by stating we need the new rules of the road-- final rules so that market participants can adapt and move ahead-- because uncertainty has been an enormous headwind. And we have uncertainty as to what the rules are and, in addition, how those rules are to be interpreted. Stay tuned for more from ASF.

By Laurie Nelson.

The reality is, the private markets would provide enough credit to support the housing market if they could. When and if the GSEs are scaled down, they will. Will that result in 65% of the adult population owning a house? Maybe not. But who says that’s the measure of success? Historically, it’s an anomaly.

I served on the MBA’s Committee to Enhance Liquidity, which developed a thoughtful white paper on the future of the GSEs. We will now weigh in to actually try to help our legislators and regulatory constituencies to craft a solution. On Tuesday, the Treasury, together with the Department of Housing, invited a cross section of experts and industry representatives, including the MBA, to talk about the future of the GSEs. Secretary Geithner kicked off the meeting with a speech that seems to support the notion that private capital should fundamentally fund the housing market, but that the federal government has an important ongoing role. That sort of sums up the tension at the heart of the debate. There are a lot of good ideas out there, both in the MBA and elsewhere, on what to do about these two wayward economic wards of the state, but some fundamental policy decisions need to be made before the hard work of developing an executable plan can follow.

Here’s a modest solution. Let’s do a test case and spin off the GSEs multifamily business into something new and see if it works. The multifamily businesses are small businesses in comparison to Fannie and Freddie’s single family business, but nonetheless significant. Create cooperatives for these businesses. There is a long history of cooperatives in this country and, in fact, the Federal Home Loan banks are cooperatives (OK, maybe that’s not a good example since they are mired in problems as well). But the multifamily businesses could be easily and simply spun into a cooperative in which the members are the existing GSE mortgage banking outlets as well as major depository institutions. In the cooperative structure, the members would provide capital support to the enterprise in proportion to their use of the enterprises. The co-op’s service would be as a conduit for securitization of these loans, and perhaps as a vehicle to provide warehouse financing to the members to accumulate loans on a modest scale in advance of a securitization. The co-op would not become a bloated hedge fund chock full of mortgages and thereby avoid the failed policies of the past. A government guarantee may still be necessary (though I personally wonder whether it really is), it could be bought at a fair price, and a guarantee fee would be paid to the Treasury. This would allow the business to size the value of that guarantee, engage in price discovery, and perhaps over time it could be weaned from that federal teat. There was a lot of talk on Tuesday at the Treasury / Department of Housing meeting about re-sizing the federal guaranty as some sort of backstop guaranty, with a layer of private insurance in between. The thinking being that government ultimately owns the tail risk of another complete and utter market meltdown. This may be a good idea too, and could easily be annealed to my cooperative idea, but let’s not let the perfect drive out the good. Let’s experiment with the multifamily business and see if we can begin to find a way towards a healthier and sustainable private enterprise based market place.

By Rick Jones.