In February, the Federal Housing Finance Agency (FHFA)
issued a strategic plan for its ongoing conservatorship of Freddie Mac and
Fannie Mae (the GSEs). The plan had
three primary goals:
- Build a new infrastructure for the secondary mortgage market.
contract the Enterprises' dominant presence in the marketplace, simplifying and shrinking their operations.
- Maintain foreclosure
prevention activities and credit
availability for new and refinanced mortgages.
Yesterday FHFA published a white paper proposing an
infrastructure that attempts to connect these goals. To maintain
the efficient flow of mortgage credit, the existing
antiquated and inflexible GSE infrastructures
must be upgraded. A
transition to a future securitization framework would require a more
flexible infrastructure than
is currently available to accommodate
future policy decisions. Given that the expenditures
for the upgrades are necessary, it makes
sense to direct them toward
the development of a common flexible
infrastructure to accommodate various structures and policy goals.
FHFA said it believes that work can begin on these elements
even while the structure of housing finance and government's role in it are debated
through an incremental approach, starting with the very basic elements and
building with feedback from the industry and regulators and decisions from
At present approximately 75 percent of mortgage
securitizations is done through the GSEs and 25 percent through Ginnie
Mae. Two key goals of the proposal are
to preserve liquidity while developing a framework that will include the
reentry of private capital into risk taking.
core functionalities of a securitization infrastructure can be standardized and
serve a utility function; issuance, master servicing, bond administration, collateral
management, and data integration and these are where FHFA suggests focusing its
efforts. The securitization platform
must be flexible enough to adapt to the evolving standards and requirements of
stakeholders including originators/lenders, securitizers/issuers, trustees and
bond administrators, investors, and regulators.
GSEs currently perform many securitization functions including issuance, trustee, guarantee, credit underwriting and pricing, master servicing, and credit loss management. Their functions are essentially similar and
the GSEs are working to align them so markets don't have to manage two distinct
processes. Additionally, each Enterprise continues to make separate
investments in maintaining its set of guides and
contractual framework, increasing the
cost to taxpayers.
Mae administers the mortgage-backed securities program for FHA, VA, and the
Department of Agriculture (USDA) where the pooled loans are issued as
securities by the issuers. The standards
that govern the origination and default servicing of loans in the Ginnie Mae
pools are established by the sponsoring agencies which also bear the credit
risk. The issuers are responsible for
servicing and Ginnie Mae mainly has exposure to servicer counterparty risk
while the GSEs also have exposure to mortgage insurers and borrowers.
securitization platform in the Ginnie Mae model has the same elements as those
of the GSEs, but Ginnie Mae is responsible for few of them, outsourcing all but
policy-making and contract and non-contract resource and relationship
management functions to third parties.
Private Label Securities (PLS) market relies on private investment capital for support
and private parties perform all of the functions shown above. Credit risk is either retained by the
aggregator or investor, guaranteed by a third party or re-packaged into new
securitization structures. This market
relies on customizing its own rules rather than following the GSE model. Since 2008 investors have largely avoided
mortgage credit risk but there signs some capital is returning although not at
of the three securitization platforms uses its own contracts and guidelines and
while those used by the GSEs and Ginnie Mae result in fairly uniform and
standard outcomes, many versions of Private
Label PSAs have produced divergent
business practices that led to ambiguity in interpretation and
placed different market
participants (i.e., sellers,
borrowers, servicers, trustees,
senior investors and subordinate
investors) at direct odds with each other.
framework proposed by FHFA contains certain key principles it views as critical
to the success of a functional secondary mortgage market; promoting
liquidity, attracting private capital, benefiting borrowers and operating
flexibly and efficiently, while minimizing market
disruption during transition. This framework
focuses on functions repeated across the industry where greater standardization would benefit the overall market while not limiting market choices or valuable independent innovations.
The functions highlighted in Figure 3 could be accommodated
via the securitization platform
through standardized processing, and possibly offered to the market
as a form of utility.
Functions are defined as:
Collateral management, specifically centralized note tracking.
Master servicing within the overall servicing related
functions, including asset and cash management,
standardized interfaces to servicers,
guarantors, and aggregators,
servicing metrics, data validation
Issuance, including eligibility rules, data quality standards,
pool delivery, settlement
Data validation (servicing and
issuance) with the securitization platform storing loan level,
pool level, and bond level data.
Bond administration, including
standardized investor and third party disclosures, bond processing, principal
and interest distributions,
securities monitoring, portfolio
reporting and role of Trustee.
In addition to these key functions, greater consistency is
necessary to a more stable, liquid, and efficient market so another proposed function
is the creation of standardized documents including a new PSA incorporating a robust
selling and servicing guide.
that a new platform would include credit risk distribution designed to be flexible to
accommodate multiple models of housing finance so that policy makers can ultimately
chose those that could be less dependent on government assumption of risk. It could also support the distribution of credit risk to
the private sector through various
credit risk sharing arrangements and support credit structured
securities where various classes of securities holders agree to receive cash
flows based on contractual distribution rules.
The envisioned platform would bundle mortgages into an
array of securities structures
and provide all the operational
support to process and track the payments from borrowers through to security creation to payoff.
The platform must maintain existing liquidity, while enabling
the entry and participation of private capital.
Thus is should be able to support the current TBA market and securities across a range of interest
rates and should include the high
level of automation. necessary to
process the current volume of
industry issuance - more
than $100 billion per month.
securities could be
similar to the guarantee provided by
the GSEs today but different in the future and the platform must to be flexible enough to support
all potential options while bringing
transparency to investors and facilitating
the return of private capital by supporting various options for credit investors to participate in the market.
The housing finance lifecycle, shown in Figure 4 below, frames
the scope and functions that a platform would
serve, and how it would benefit the industry and the housing finance system:
It is at the final phase that the automated securitization
platform could serve both the GSEs and the wider securitization market of
the future by providing a discrete set of services at the time of issuance and on an ongoing (typically monthly)
basis in support of principal
and interest payments to
The initial core services proposed by the paper are intentionally
selected as foundational due to their place within the
housing finance lifecycle. The initial
core services of the proposed platform have
the following characteristics:
They lend themselves to
straight-through, highly automated processing of large volumes with limited manual
They accommodate setting and
adjusting market standards and assist in market and data transparency.
They are rules driven and can
readily adapt to changes in standards and policy.
They are flexible to service many
They can enable the private sector
to continue to drive security selection, loan pooling and underwriting, and
other non-GSE functions.
The platform scope would include the issuance of
securities as requested by a user, the monthly
servicing of loans while in the securities, the payment of monies to securities investors, and the tracking and
disclosure of securities balances,
payments and underlying loan performance
data. The data validation service would verify that the request conforms to standards and the format for
loans and securities is correct and
servicing functions performed by the
platform include asset and cash management activities
including collecting and processing primary
servicer loan activity and verifying that principal and interest payments
are correct for each reporting
The platform could monitor and direct document custody, and monitor
primary servicer performance for adherence to standards as well as all
compliance directives requested
by the trustee or other governing documents.
Bond administration would be responsible for
calculating investor payment factors
and making data available to the
disclosure function for ongoing investor reporting for each payment cycle.
Bond administration would support both first level securitizations
and second level re-securitizations. Bond administration
would also ensure payments to investors and other parties are managed in a timely manner.
Disclosures describe a security and underlying loans or
pools published to the marketplace before and when the security
settles describing the securities' fundamental characteristics and detailed
information on the pool and security structure.
On-going disclosure occurs monthly,
or when relevant changes occur. Disclosure
documents proposed by FHFA would
include the prospectus supplements
and supplemental oversight documents. Disclosure information would be published by the platform on the Internet and possibly in other forms.
There a handful of other, more specific design principles that will guide how the
platform is designed and built.
Open architecture: standard external interfaces would be
established and the platform would leverage existing data standards
Functional modularity - internal
components would communicate via standard interfaces to ensure that
changes can be accomplished with minimal impact.
Scalability - Integration architecture
would be based on standard
technologies with proven scale in financial services and multiple
Data transparency - Architecture
would provide data traceability
and accessibility via common infrastructure
Under previous FHFA guidance, the Enterprises are transitioning their
single-family loan delivery
data formats to one that leverages the industry-recognized standard. The platform
would expand upon this model, allowing the primary market to deliver
bundles of mortgages into any of an
array of securities structures,
including those that support PLS and other innovative credit
transfer facilities. It would
also provide operational support to
process and track the payments from borrowers through to the investors, by leveraging the Uniform Mortgage
Servicing Dataset Initiative to
define a standard servicing dictionary and data exchange.
This, in conjunction with the proposed PSA framework,
could improve service to borrowers,
reduce financial risk to servicers,
and provide flexibility and data for
guarantors to better manage
non-performing loans. The Uniform Mortgage Servicing Dataset Initiative will
make standard servicing interactions
(such as servicing transfers, loan removals from securities, etc.)
consistent and transparent across
The proposed integrated infrastructure
cannot function without the appropriate legal
agreements, rules and allocations of responsibilities, including a framework for an effective contractual
The key elements
for private capital to return to the housing finance market hinge on clear
rules and standards about: 1) the
integrity of mortgage originations in terms
of data and seller responsibilities; 2) the
adequacy of servicing; 3) servicer compensation; and 4) disclosures to investors. In addition,
there are examples of ongoing work at
the GSEs that can be incorporated into the model PSA: 1) alignment and enhancement of the existing policies, practices, and legal documents of the GSEs; and 2) standardized
servicing, disclosure and other practices of the GSEs.
The proposed PSA framework would leverage the existing structure. The framework
would include a short PSA containing
lender/seller specific requirements and variances, general trust provisions and incorporate robust program guides which would set out the requirements
for underwriting, disclosure, servicing and loan delivery and setting forth the
standards for eligibility to use the platform, specifying duties
and responsibilities, reflect a compilation
of "best practices" and applicable regulatory requirements
for servicing and the other transaction
participants, and address certain
shortcomings of the Private Label PSA.
The design of the common securitization platform would support a government guarantee while
not assuming that the future housing market will incorporate one and will have
the flexibility to accept different levels of credit standards and mortgage
products. The structure could help enforce
Qualified Mortgage (QM)/Qualified Residential Mortgage
(QRM) guidelines, screening for QM/QRM eligibility, and identifying any
corresponding risk retention requirements.
Here are a few of the questions about the proposal for which
the FHFA is soliciting comments.
- Will the four core functions (issuance,
disclosure, bond administration and master servicing)
provide an efficient and effective foundation for the housing
finance system going forward? Are there
additional functions that should be considered as core?
- Will the framework
for a model PSA described herein provide
the foundation for a standardized contractual framework for the housing
finance system going forward?
- Are there additional elements/attributes that
should be included in a model PSA?
- What enhancements to the role of trustee should
be considered in order to better attract private capital to the housing
submitting comments which are due December 2, 2012 can be found here.