Edward J. DeMarco, Acting Director of the Federal Housing Finance Agency (FHFA), told members of the Exchequer Club in Washington, DC on Wednesday that, in contrast to how they are sometimes portrayed, Fannie Mae and Freddie Mac are playing a leading role in providing assistance to homeowners. He said that as conservator of the two government sponsored enterprises (GSEs) the FHFA's biggest challenge has been to avoid foreclosures and minimize losses to taxpayers on loans originated prior to its conservatorship. He divided the GSE's borrowers into four groups:
- Borrowers unable to pay their mortgage but with an ability to pay a reduced amount and a desire to stay in their home;
- Borrowers unable or unwilling to pay any reasonable mortgage amount or lacking a desire to stay in their home;
- Borrowers able to pay their mortgage but unable to exercise their refinance option because of the decline in house prices; and finally,
- Borrowers able to pay their mortgage and able to refinance as in normal market conditions.
For each of these categories, FHFA has worked with the GSEs to develop and implement programs tailored to the circumstances. Since conservatorship, the GSEs' foreclosure prevention activities have helped nearly 2.5 million borrowers avoid foreclosure. Of this total, more than 2 million of these actions have resulted in the borrower retaining their home.
FHFA have prevented foreclosure through several mechanisms. Over 2 million homeowners have been kept in their homes through loan modifications which provide households in financial distress with an opportunity to reduce their monthly mortgage payments. The agency has also utilized short sales to help homeowners avoid foreclosure while reducing taxpayer losses. The third method employed to avoid foreclosure is through enhanced refinance opportunities including the Home Affordable Refinance Program or HARP which helps homeowners refinance loans even with substantial negative equity.
FHFA has also worked to restore prudent underwriting and risk-based pricing to a housing finance system that went badly off-track. This has been done by steadily raising the GSE guarantee fees which over time should gradually reduce taxpayer risk though their support of the GSEs.
The GSEs have long operated without taking into account differences in doing business in different parts of the country which, while leading to a uniform mortgage price across the country also meant that they absorbed but did not price for added credit risk associated with specific state and local policies. A proposal is now undergoing a public comment period got a pricing approach to better capture the costs associated with state and local policies. This may involve an upfront fee on newly acquired single-family mortgages originated in states where the GSEs are likely to incur default-related costs that are significantly higher than the national average.
DeMarco explained that the GSEs have long operated under a representation and warranty model which called for relatively few reviews of mortgages sold to them unless or until the mortgage went into default as which point, if defaults were found in the origination, they could demand a repurchase.
While that model may have worked reasonably well in stable credit conditions, it did not work so well under stressed conditions. As the GSEs have enforced their contractual rights through loan reviews and repurchase requests it may have created an atmosphere of uncertainty that could be affecting the willingness of lenders to extend credit. Therefore in September FHFA and the GSEs announced a new representation and warranty framework for conventional loans sold or delivered on or after January 1, 2013. Under this framework, lenders will be relieved of certain repurchase obligations for loans that meet specific payment requirements.
For example, certain representation and warranty relief will be provided for loans with set periods of consecutive, on-time payments. Most important, the focus of the GSE's quality control reviews will be shifted earlier in the loan process, generally between 30 to 120 days after loan purchase.
DeMarco said that FHFA also continues to explore options for disposing of real estate owned, or REO, properties. It recently completed a pilot REO initiative that allowed investors to purchase pools of Fannie Mae foreclosed properties with the requirement to rent the purchased properties for a certain time. FHFA remains committed to pursuing similar efforts.
DeMarco told his audience that 2012 brought some changes to the Senior Preferred Stock Purchase Agreements (PSPAs) between the Treasury Department and the GSEs. One of the key changes was to the way the GSEs pay dividends to Treasury. Instead of a 10 percent dividend on outstanding senior preferred stock, the GSEs will pay Treasury with a quarterly net worth sweep, essentially a payment of income earned in the quarter. This change eliminates the possibility GSEs will have to borrower from Treasury to pay dividends and ensures that everything the GSEs earn is returned to taxpayers.
Another key change was the requirement to contract the Enterprises' portfolios at an annual rate of 15 percent -- an increase from the 10 percent annual reduction called for previously. This means that the portfolios will be reduced to $250 billion four years earlier than previously scheduled.
DeMarco explained that one goal of the conservatorship is to build a new infrastructure for the secondary mortgage market, something that will be needed regardless of the final disposition of the GSEs. The existing infrastructures are not the most effective when it comes to adapting to market changes, issuing securities that attract private capital, aggregating data, or lowering barriers to market entry. The goal is to establish one that can support the secondary market post-conservatorship with or without government involvement, and attract more private capital to the market.
To accomplish this, the GSEs' outmoded proprietary infrastructures need to be updated and maintained, so as to provide enhanced value to the mortgage market with a common and more efficient model. This new infrastructure must be operable across many platforms, so that it can be used by any issuer, servicer, agent, or other party who decides to participate.
FHFA has also put forth some broad ideas on creating a model pooling and servicing agreement, the legal document that lays out the responsibilities and rights of the servicer, the trustee, and others over a pool of mortgage loans.
DeMarco said he was cautiously optimistic that the signs of stabilization -- and in some places, strength -- that have started to emerge in certain sectors of the housing market are signals that it is beginning to recover, however many challenges remain. Today, the government touches more than 9 out of every 10 mortgages. With this in mind, it is essential that the mortgage market transition to a more secure and sustainable and competitive model.
The conservatorships of Fannie Mae and Freddie Mac were never intended to be long- term solutions, he said. They were primarily meant as a "time out" for the rapidly eroding mortgage market, to provide stability while deciding on how best to rebuild the housing finance system. It is vital that the conservatorships are brought to a conclusion and that the government's role and requirements for housing finance are defined for the future.
At the most fundamental level, the key question in housing finance reform is what, and how big, should the role of the federal government be, DeMarco said. Perhaps it will be easier to break this question up into component parts, perhaps by first defining the role of the traditional government mortgage guarantee programs like the Federal Housing Administration (FHA). If policymakers begin with the role FHA should play in the future in terms of what borrowers would have access to this program, and what structural changes might be needed, than it should be easier to consider the government's role in the remainder of the mortgage market.
He said that his agency is taking a number of steps - whether it is increasing guarantee fees or pursuing risk sharing alternatives - that have the potential to transfer some credit risk to the private sector. 'We will continue to try to make progress in this area, but if policymakers are serious about limiting the government's role, more direct action may be needed to have significant near-term effects. And, elected officials must give direction on how to end the conservatorships."