BLOG VIEW: Five years ago, government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac were placed into conservatorship and driven into a shaky future. But if the Johnson-Crapo housing finance reform bill makes its way through Congress, the GSEs will surrender to an FDIC-like Federal Mortgage Insurance Corp. (FMIC) that will likely create an opportunity for the return of private capital.
First, let's take a look at the bill that was proposed in March – it suggests a private capital first loss position and seeks to stabilize the housing industry's future through a federal guarantee for catastrophic loss. In turn, it attracts private capital and eases taxpayer burden in the event that mortgage backed securities (MBS) plummet again. The plan would replace GSEs with private entities that would securitize qualifying mortgages carrying the FMIC's explicit government guarantee.
The secondary mortgage market would be regulated by the FMIC, where guarantee fees would be established to cover anticipated losses and insure against catastrophic losses on qualified MBS. The private capital entities would be in a first position before the FMIC guarantee and cover the required 10% derived from a private guarantee or a private risk-share agreement.
Private entities would also be required to pay 10 basis points (bps), which would likely generate about $5 billion per year for the benefit of affordable housing programs. In fact, the bill details how the money would be spent: 75% to the Housing Trust Fund, 15% to a Capital Magnet Fund and 10% to a new Market Access Fund to assist with lending products and services for underserved markets.
‘This bill represents our effort to draft the final chapter of financial reform by addressing the most significant unresolved issue from the financial crisis – the housing finance system,’ said Democratic Committee Chairman Tim Johnson during a Senate panel, where the Senate Banking Committee approved the bill by a 13-9 vote.
The bill proposes a five-year plan to dissolve the GSEs. During those five years – or if the bill doesn't pass – private capital will still likely return to the securitization market, albeit slowly. There will, however, be challenges faced to ensure liquidity and transparency. As such, securitization should be viewed with a new perspective, and previous practices are already being questioned.
Lenders must also balance pricing to attract both consumers and private capital investors. Jumbo loans – loans over $417,000, or $625,000 in high-cost areas – have become popular with private capital investors. The Federal Housing Finance Agency (FHFA) and legislators recently considered, but did not act on, decreasing jumbo thresholds at a 5% annual rate over the next five years, leading to an increase in the jumbo loan market and, consequently, private capital. In fact, the FHFA indicated that a percentage cut this year would have moved 1% of the total GSE loan volume into the jumbo market.
In an effort to stimulate a return of private capital, the FHFA has been involved in other initiatives. First, an increase in g-fees of 10 bps and loan level pricing adjustments of at least 25 bps were to go into effect in April; however, it was delayed until the impact on pricing and the return of private capital investors to the MBS market is evaluated.
If it passes, the Johnson-Crapo reform bill could very well encourage a return of private capital and improve liquidity to the mortgage market, but the impact to investors, lenders, housing prices, rates and consumers will need to be carefully considered. The key to continued private capital interest will be transparency – something the housing and investment industry did not see in past private capital investment. Moving ahead, investors must have access to the accuracy of the underlying asset including loan origination and ongoing performance data.
Regardless of the bill's future, a sluggish return to private capital is already on the horizon. While private capital residential mortgage-backed securities increased from $4.2 billion in 2012 to just over $12 billion in 2013, this amount is still far less than the $700 billion in 2006. Loan performance is improving as delinquency rates, particularly on newer vintages, decline.
Lisa Weaver, certified mortgage banker, is senior vice president of mortgage solutions for ISGN, a provider of end-to-end technology solutions and services to the U.S. mortgage industry.
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