The Economics of Reform

Fannie and Freddie are in their tenth year of conservatorship, and while their long-term fates remain unresolved, two alternative paths to determining their futures now have emerged and been fleshed out. The first is legislative reform intended to replace or significantly restructure the companies, backed by the large banks and detailed in proposals this summer from the Mortgage Bankers Association (MBA) and the Milken Institute. The second is administrative reform intended to preserve and strengthen Fannie and Freddie, backed by the companies’ investors and community banks and detailed this fall in a proposal from Moelis & Company. Which path we end up taking will depend on the interaction of events and influences in three areas: political, legal and economic.

I view the politics in fairly simple terms. I believe the large banks have the political clout to get their way in any reform legislation, but that the divisions within and the dysfunction of the current Congress make legislation prior to the mid-term elections very unlikely. And on the legal front, it has long been my view that before Congress can pass legislation, some development or developments in one or more of the court cases favorable to the plaintiffs will provide a strong rationale for administrative reform. (I must confess, though, that each legal setback—and in the past eight days the dismissals of the Robinson appeal by judges in the Sixth Circuit and the Jacobs-Hindes case by Judge Sleet in Delaware have added two more to the list—diminishes my confidence in a boost to reform from the legal side.)

The economic aspects of reform—the facts about the plans and facts about the mortgage market—thankfully are less subjective. They also have been much less well publicized than the political claims and the legal news. Yet knowledge of them is critical to evaluating which plan will be better for the mortgage finance system, homebuyers and the economy, and which therefore merits the support of the public and the Trump administration.

 Unless you’ve been following it closely, I suspect you’ll be surprised to learn how greatly the profile of U.S. mortgage finance has changed since Fannie and Freddie were put into conservatorship. From the end of 2007 to the middle of this year (the latest period for which full comparable data are available), there has been a shift of almost $1.0 trillion in long-term fixed-rate mortgages from the books of Fannie and Freddie to the books of commercial banks, and the Federal Reserve has become a mammoth (but temporary) source of mortgage credit. Over the same period Fannie and Freddie credit guarantees actually have declined slightly, while government-guaranteed securities issued by Ginnie Mae nearly tripled. Here are the details:

 Changes in the sources of funding. At December 31, 2007 there were $11.27 trillion in single-family mortgages outstanding. Of these, Fannie and Freddie held $1.42 trillion in their combined portfolios, while commercial banks held $2.98 trillion ($2.02 trillion in whole loan form, and $963 billion in Fannie, Freddie, Ginnie or private-label mortgage-backed securities). The Federal Reserve owned no single-family mortgages in 2007.

At June 30, 2017 single-family mortgage debt outstanding was notably lower at $10.34 trillion, and the holdings of all three groups were considerably different. Under a mandate from Treasury to shrink their portfolios, Fannie and Freddie’s combined holdings of single-family mortgages were almost $1.0 trillion lower, at $454 billion. In contrast, banks’ single-family mortgage holdings were up by over $800 billion, to $3.81 trillion, or 37 percent of single-family mortgage debt outstanding. And at June 30, 2017 the Federal Reserve’s holdings of Fannie, Freddie and Ginnie single-family MBS no longer were zero; they were $1.77 trillion, or 17 percent of single-family mortgage debt outstanding.

There also were significant changes in the mix of bank mortgage holdings during this time. Banks’ $1.64 trillion in single-family MBS at June 30, 2017 constituted 43 percent of their total single-family mortgage holdings, up from 33 percent at the end of 2007. And within the MBS category, banks’ holdings of Fannie, Freddie and Ginnie MBS more than doubled—from $713 billion in December 2007 to $1.58 trillion in June 2017. (Banks’ holdings of private-label MBS were $212 billion lower). Nearly three-quarters of banks’ agency (Fannie, Freddie and Ginnie) MBS were pools of long-term fixed-rate mortgages, as opposed to shorter-term CMOs. Largely for that reason, 60 percent of the single-family mortgages and MBS banks held at June 30, 2017 (or $2.27 trillion) had long-term fixed rates, compared with just 45 percent (or $1.35 trillion) of such loans in December 2007. Since banks finance almost all of their mortgages with short-term consumer deposits and purchased funds, the movement of nearly $1.0 trillion in long-term fixed-rate mortgages and MBS from the books of Fannie and Freddie—who match-fund them—to commercial banks increased the interest rate risk of the mortgage finance system markedly.

The Fed’s emergence as a huge holder of long-term fixed-rate agency MBS was not a positive development either. The Fed, too, short-funds its mortgage holdings; when it purchases mortgages (or other assets), it does so by creating reserves at the seller’s bank, and those reserves pay interest in line with short-term market rates. But the bigger problem is that the Fed is not a natural holder of mortgages. It began purchasing them in January of 2009 to support the market following the crisis, then increased those purchases as part of the “quantitative easing” phase of its monetary policy. Recently the Fed announced its intent to reduce its agency MBS holdings. We do not know how much of its $1.77 trillion it ultimately will sell or allow to run off, but whatever the amount the withdrawal of Fed support will put further stress on an already challenged mortgage system.

Changes in the sources of credit guarantees. During the time Fannie and Freddie have been in conservatorship there have been enormous changes in the sources of credit guarantees as well. Most obvious has been the virtual disappearance of guarantees provided through structured transactions, following the disastrous performance of private-label securitization during the crisis. Less well publicized is the pronounced shift from Fannie and Freddie guarantees of conventional mortgages to guarantees of FHA and VA mortgages in securities packaged and issued by Ginnie Mae.

At December 31, 2007 Fannie and Freddie guaranteed the credit risk on $4.78 trillion of single-family mortgages, either for the loans they held in portfolio or for MBS held by other investors. On that same date there were $637 billion in FHA and VA loans packaged in government-guaranteed Ginnie Mae MBS. At June 30, 2017 Fannie and Freddie’s $4.72 trillion in single-family credit guarantees were down somewhat from nine and a half years earlier (with a shift in their guaranty mix away from portfolio loans to MBS held by others), while over the same period Ginnie Mae securities financing FHA and VA loans rose by $1.21 trillion, to $1.84 trillion. This dramatic market share change was particularly ironic in light of the constant claims by Fannie and Freddie’s opponents and critics that legislative reform is essential to bring private capital into the mortgage market. Fannie and Freddie were backed by private shareholder capital, and would be again if recapitalized and released. Yet while they’ve been kept in conservatorship, more than all of the $1.14 trillion net increase in agency credit guarantees has come from a near tripling in the amount of guarantees backed not by private capital, but by the federal government.

All three of the negative developments detailed above—increased interest rate risk from the strong growth in bank holdings of long-term fixed-rate mortgages funded short, $1.77 trillion of the same types of mortgages now in relatively weak hands (the Fed’s), and the effective freezing of the conventional mortgage credit guaranty function coupled with the unsustainably rapid growth of government mortgage guarantees—are by-products of the decision by the Treasury to seize Fannie and Freddie in 2008, and the subsequent policies of Treasury and FHFA to decapitalize the companies and run them with a view to ultimately replacing or substantially restructuring them.

The single-family mortgage market has not fared well during the conservatorship period. From its overheated peak of $11.34 trillion in the first quarter of 2008, single-family mortgage debt outstanding fell by 13 percent to a low of $9.91 trillion in the second quarter of 2014 (a decline of 2.1 percent per year). Since then, though, it only has been able to rebound by 5.2 percent, or at a rate of 1.7 percent per year. That is a very tepid recovery, and the crippled state of the conventional secondary mortgage market almost certainly is a primary reason.

It is clear from the current state of our mortgage finance system that we need to make changes to it, but even more clear that we need to make the right changes. And that is where the two alternative paths to reform—the legislative proposals from the MBA or the Milken Institute, and the Moelis administrative proposal—differ so starkly. The Moelis administrative plan will benefit homebuyers, because it is designed to make Fannie and Freddie (and the secondary market) as efficient as possible to maximize the value of the companies for their existing shareholders, including Treasury as holder of warrants for 79.9 percent of Fannie and Freddie’s common stock. In contrast, the MBA and Milken plans, like all legislative reform plans to date, are deliberately engineered to make the secondary market less efficient, to benefit large banks.

All recent proposals for legislative mortgage reform impose on credit guarantors a fixed “bank-like” capital ratio that is invariant to the risks of their guaranteed loans, and also provide for an explicit government guaranty on their securities. Coupled with an idiosyncrasy of the Basel III bank capital standards—they are based solely on credit risk and do not take into account differences in interest rate risk-taking—these two features of secondary market reform would produce a profit “superfecta” for banks: lower credit losses on the whole mortgages they keep in portfolio; a zero Basel III capital requirement on any MBS of Fannie and Freddie (or their successors) they own; wider funding spreads on both their MBS and whole mortgage holdings, and no capital penalty for the interest rate risk they take in funding long-term fixed-rate mortgages or MBS with short-term consumer deposits and purchased money.

Applying banks’ high, fixed-ratio capital standards to credit guarantors would lead to guaranty fee pricing that may be reasonable for lower-quality mortgages but would be far too high for better-quality loans. Banks thus would be able to hold down their single-family credit losses by keeping their best quality mortgages in portfolio as whole loans, while swapping their worst quality loans for government-guaranteed MBS, which they could either sell or keep in portfolio, as they wished. The zero Basel III risk-weight on guaranteed MBS, coupled with no Basel III capital consequences for short-funding long-term fixed-rate mortgages, would give banks a strong incentive to continue to add these loans in large quantities to their balance sheets. And the high average guaranty fees secondary market guarantors would be forced to charge because of unnecessarily high capital requirements would push up the interest rates on all mortgages, resulting in wider spreads on the mortgages and MBS banks fund with their FDIC-insured consumer deposits, whose costs are far lower than market-rate funding.

There is no mystery as to why the banks are advocating so strongly for the MBA or Milken legislative plans; they literally are crafted to give banks maximum profit benefit. But they do it by raising costs for homebuyers, reducing the availability of mortgage credit for low-and moderate income borrowers, and increasing the interest rate risk in the mortgage finance system with no governing regulatory mechanism to slow or compensate for it through higher required capital.

 It doesn’t have to be this way, and shouldn’t be. The U.S. economy has the enviable advantage of access to dual systems of financing: a strong deposit-based lending system alongside a robust capital markets-based securitization capability. The two complement each other, but they also compete. And if not properly monitored and regulated, that competition can become destructive.

There is useful history on this from the mortgage market. In the mid-1970s, nearly three-quarters of all single-family mortgages were made and held by depository institutions—thrifts or commercial banks. Two successive thrift crises, the first in the late 1970s and the second in the late 1980s, caused that system to collapse, with thrifts’ share of single-family mortgages financed plunging from 57 percent in 1975 to 17 percent in 1995. Fannie and Freddie’s ability to tap the international capital markets for prodigious amounts of fixed-rate funding allowed us to undergo a rapid and successful transition to a more balanced financing system. At the end of the 1990s, Fannie and Freddie either owned or guaranteed more than 40 percent of all single-family mortgages, up from less than 5 percent 25 years earlier.

Homebuyers benefitted from this development and were happy with it, but the large commercial banks were not. Fannie and Freddie’s standards in the secondary market placed limits on banks’ product offerings and pricing in the primary market. Banks did not wish to cede that control to Fannie and Freddie, and what I refer to as the “mortgage wars” began. In 1999 three large banks, one subprime lender and two private mortgage insurers (owned by GE and AIG) created a lobbying group called FM Watch, whose purposes were to put out misinformation depicting Fannie and Freddie in as negative a light as possible, and to lobby Congress for changes to the companies’ charters to raise the cost and restrict the scope of their business.

The deceptions about Fannie and Freddie that began with FM Watch have continued unabated since then. In fact, the insistence that Congress either replace or greatly restructure the companies through legislation has its origins in the earliest days of the reform dialogue, when their opponents succeeded in falsely blaming them for the 2008 mortgage and financial crises. Today, of course, we know this not to be true. Fannie and Freddie were not the worst sources of mortgage credit leading up to the crisis; they were by far the best. And they were not “rescued and bailed out;” they were “seized and decapitalized”—that is, taken over at the initiative of Treasury against the companies’ will and without statutory authority, then stripped of their capital by accounting entries booked by FHFA that temporarily or artificially ballooned their expenses and forced them to take huge amounts of unneeded but non-repayable senior preferred stock from Treasury.

While the appropriate response to a rescue and bailout might indeed be legislation to remedy the defects and weaknesses of the previous system, the correct remedy for the “seize and decap” of Fannie and Freddie that actually took place—and whose negative effects now constrict the provision of single-family mortgage credit—is the reverse, that is, “recap and release.” Bank supporters have turned recap and release into a taboo phrase, claiming it’s “not enough reform,” but the Moelis plan includes both actions, along with detailed steps to ensure the plan’s success.

In contrast, legislative reform as proposed by the MBA and the Milken Institute is an inequitable solution to an invented problem, and would exacerbate the weaknesses that have developed in our mortgage finance system over the last nine and a half years. With the Fed about to begin running off its mortgage holdings, we don’t need to drive more business onto bank balance sheets, where it will be leveraged, short-funded and not capitalized for interest rate risk. Instead we need to re-invigorate the conventional secondary market credit guaranty function to better enable it to attract low-cost capital from the international credit markets, whose investors can manage fixed mortgage interest rate risk far more safely than banks. The Moelis plan does that, and for that reason the Trump administration should embrace it.


208 thoughts on “The Economics of Reform

    1. Well, I’ve finally been able to plow my way through all 82 pages of this document. I can’t tell if it’s the current version of the draft Senate bill or not. The heading says “staff discussion draft 29,” and after finishing it my reaction was, “If this is the twenty-ninth draft of the Senate bill, what on earth did the first 28 look like?”

      What we’ve all been saying about the task of trying to replace a $5 trillion secondary market system based on Fannie and Freddie that has proven to work efficiently and effectively (invented criticisms to the contrary notwithstanding) is that advocates for doing so have the challenge of addressing, and answering, some very difficult and complex questions: about capital (both capital standards and raising new capital at a time when the government is expropriating the capital of the two credit guarantors that exist), about affordable housing, about the nature and operational details of any new potential credit guarantors, and about the complex legal and market problems associated with the transition from the existing system to the envisioned new one, including the treatment of Fannie and Freddie’s existing preferred and common shareholders who are in the midst of litigation against the government.

      The solution seized upon by the authors of staff discussion draft 29 is, “We’ll let FHFA (and in a few cases, Ginnie Mae) figure out how to solve all those problems, AFTER Congress passes our bill.” I lost track of the numbers left blank in the draft–whether for capital, fees paid to Ginnie Mae, fees charged to the credit guarantors for the affordable housing fund, or other things. FHFA will figure out what criteria to use to grant charters to the 5 to 6 new credit guarantors that somehow will spring up (whose guaranteed MBS then will be eligible for government guarantees.) Not surprisingly, credit-risk sharing is mandatory for the new guarantors. There is a vague section in the capital requirements that says, “a credit guarantor shall maintain…eligible credit risk transfer arrangements that together cause credit risk transfer counterparties to bear, to the extent economically sensible, a significant portion of the credit risk on the collateral that guarantees mortgage-backed securities,” with FHFA left to work out how to evaluate those risk-transfer arrangements so that the companies end up with enough real capital to back the risks they’re taking. I could go on and on about the plethora of details FHFA has to get right to make this new system work.

      And the transition? FHFA is given five years to get the new credit guarantors set up and fully capitalized (by now it’s no surprise that how it does that is left unsaid), and running sufficiently well that it can certify that “a competitive secondary mortgage market has been achieved.” Once FHFA makes that declaration, Fannie and Freddie will be put into receivership and liquidated. And if for some reason a competitive secondary market CAN’T establish itself within five years, FHFA will “endeavor to exercise the authorities under section 403 and this Act to foster the organization of additional small lender guarantors,” and, failing that, simply go to back to Congress and ask for new legislation to “remediate the impediments” to the competitive market it seeks.

      It’s all so simple and easy. Why didn’t I think of that?

      Liked by 4 people

      1. tim

        there is zero skin in the game in this bill. if the proponents of this bill truly bore the downside of all of the outrageous execution risk involved in this scenario, they would be involuntarily committed. no one in their right mind who sought the most efficient execution of a resolution to the current problem of a $5T mortgage finance system supported by zero capital would come within a hemisphere of suggesting anything like this.

        and so it goes. we wait…for sanity if not godot.



      2. If one were to wager a guess on why private guarantors might be reluctant to step forward, it’d be that they run the risk of being placed under a conservatorship under the guise of a future crisis. The conservator might then change the terms and usurp the value of the guarantors.

        Hmm, where have we seen that?

        Liked by 2 people

      3. Tim your reply should be a WSJ editorial and I mean that as a compliment! So well said with a touch of humor and disgust at Corker’s draft.


    1. This is FHFA’s standard annual strategic plan for the conservatorships. I’ve reviewed it quickly, and found it to be very similar in both structure and content to previous strategic plans. Other than noting that “On December 21, 2017, FHFA and the Treasury Department agreed to reinstate a $3 billion capital reserve amount under the PSPAs beginning in the fourth quarter of 2017,” this year’s report contained nothing new or significant with respect to the issues we’re currently interested in.

      Liked by 1 person

    1. Somehow that org missed all the plans from Main Street lenders. And civil rights and consumer groups. And missed the Senate Banking Comm hearing’s panel of small lenders’ recommends.


      1. I’ve now had a chance to read the paper put out by the Milken Institute today. It focuses only on legislative reform efforts, and for this reason is able to (and does) ignore the Moelis plan, concerning itself instead with what it contends are the “two different conceptual approaches” now being discussed in Congress: the one put forth by Ed DeMarco and Michael Bright in their proposal from the Milken Institute in September (“Toward a New Secondary Mortgage Market”), and a “multi-guarantor model” arrangement along the lines of the proposal made by the Mortgage Bankers Association last April.

        Given the limited scope of the paper’s subject matter, I was pleasantly surprised by it. It does make the egregious mistake made by all advocates of “guarantee the MBS but not the guarantor”—maintaining that half a dozen credit guarantors with the same capital requirements, a restricted menu of eligible products and very tight regulation won’t all either succeed or fail as a group—but other than that (which is a very big “that”) I thought the paper was pretty realistic. It identifies and discusses a number of difficult problems that both the DeMarco-Bright and multi-guarantor approaches will need to overcome in order to result in “actual legislation” (as opposed to just papers advocating legislation). And they ARE difficult problems. Difficult enough to make a reader want to ask, “So why are we trying to do this, given the ease, practicality and feasibility of the Moelis plan?” The authors of the Milken Institute paper unintentionally answer this question when they say, “The…existential challenge is creating a system that ends the current GSE duopoly. Without new entrants into the guarantor space, the reformed housing finance system could end up further entrenching Fannie Mae and Freddie’s Mac’s market dominance.”

        While retaining its meaning, I would phrase this last point somewhat differently: “We need to hamstring Fannie and Freddie so that the big banks can make even more money off consumers than they’re making now.”

        Liked by 5 people

        1. If I may add to your last paragraph , fixing something that works for the benefit of the consumers( GSE) to the advantage of the banks who created the mess in 2008.
          Thanks for your analysis and thoughts!


    1. My summary after listening 3 times to the audio on Craig Phillips

      1) Mnuchin wants broader housing reform (across all gov’t agencies FNMA, FMCC, GNMA, FHA, etc) and he needs Congress to achieve this – as administratively he can only impact FNMA/FMCC
      2) Mnuchin specific to FNMA/FMCC wants to impact them in ways greater than what is administratively available to him so specific to these 2 he also needs Congress (i.e., he can’t alter their charters, can’t make explicit govt guarantees, etc)
      3) I think Mnuchin’s intent is good in trying to find a way to reduce the govt’s exposure to the housing market but being that he is only the U.S. Treasurer, he doesn’t have the power alone to do all of this. So obviously he needs to work with Congress to achieve his much bigger vision for housing reform. With that said, I don’t think he necessarily backs MBA, but as a good business negotiator, he will have to give and take on certain aspects to achieve something as close to his grand plan as he can.
      4) Finally however, if all the bickering in Congress stalls housing reform and it becomes a lost cause, at that point Mnuchin may have to “settle” for the limited impact he can make by doing the Administration actions he has available to him before his tenure at Treasury is up. This is not his ideal outcome as I truly believe he wants to accomplish something more grand across all the ideas out there. On a positive note, I also believe he has a very good relationship with Mel Watt (and his GSE proposals) as Watt was a previous member of Congress and also could have acted unilaterally at any time but instead was the good diplomat to get Treasury on board with the capital buffer due to the inaction of Congress.



      1. @sean

        this doesnt add up.

        if mnuchin wants to do comprehensive housing finance reform across all secondary market participants and not just GSEs, i understand that he needs congress to do this, but why is it that there have been no reports of treasury presenting acceptable comprehensive reform proposals to congress which serves to achieve this objective, and there have been no reports that congress is entertaining any such across the board comprehensive reform?

        if i were strategic, i would as treasury secretary put out there that i want comprehensive reform, not push for it in any overt way, and when it is not addressed or delivered by congress, pursue a plan b.


        Liked by 2 people

    2. There is something important to point out about this recording of the Craig Phillips luncheon yesterday. It left out the last 2 or 3 questions fielded by Craig Phillips. I was there in attendance (flew from Chicago to be there) and the last question was mine! I asked CP if we get to the August recess and no legislative solution was forthcoming, would the Treasury take administrative action? He answered no. They would just be patient and give it another chance after the midterm elections. This was not the answer I wanted to hear. Why this was redacted from the audio I don’t know. So Joe Light has reported this faithfully. Many are assuming (including me) that the Administration is waiting for legislation to fail and will then move to act expeditiously. Perhaps behind the scenes this is truly the case, but CP said otherwise yesterday without any hesitation or signs of a flinch.

      Liked by 2 people

      1. William: Thank you for letting us know about this last question and answer at the Phillips talk. That’s an important point for us to be aware of.

        I would add a bit of a caveat, though. If it were me answering that question, even if I intended to do exactly what you’d framed when you asked it, I would have answered as Phillips did, to avoid giving the impression of “waiting for the legislative effort to fail.” Beyond that, though, HOW the legislative effort fails (assuming that it does) also will be relevant. If it is a failure caused by disagreements that the likely outcome of the midterms only will exacerbate, Treasury will have no excuse for continuing to wait for something few observers think will happen. A failure to then advance on administrative reform will look like what it is: Treasury wanting to continue to sweep all of Fannie and Freddie’s net income for as long as it can, until the courts or the Congress tell it to do otherwise.That’s going to be hard to square with Mnuchin’s repeated comments that “getting Fannie and Freddie out of the government” is a top administration priority.

        Liked by 4 people

      2. Were any of those last 2-3 questions involving the various litigation against the Treasury and Conservator? If not, it leaves one wondering why given the considerations they are making to encourage private capital and their statements about shareholders. Given the way the current ones have been treated and constitute to allow to be treated by virtue of allowing the continuation of said securities to trade just adds to the bewilderment of the situation. How does this get squared Tim or ROLG?


        1. if i may, i know this blog is intended by tim to focus on policy reform, not shareholder gain potential.

          tim has done a great job on the reform analysis front, and the investment analysis that many of us want to pursue (me included) has been flummoxing in the GSE reform winds.

          things are opaque now, and i feel a sulleness based upon court decisions. but there is a scotus decision on whether to grant cert in perry, and two constitutional cases beginning apace (bhatti and rop). how these cases figure into any endgame is beyond predictability.

          investing is a hard game generally, and FnF? oy!


          Liked by 2 people

  1. Full Twitter thread by Joe Light & all his quotes from Craig Phillips


  2. And this confusing comment:

    Joe Light‏ – Twitter

    Phillips: “There actually aren’t shareholders so there’s no longer a fiduciary relationship between stakeholders in the traditional way. We sort of see ourselves as the stakeholder at the Treasury” but not represented by the board and employees because of the shares’ nature
    2:18 PM – 18 Jan 2018


    1. Not uncommon for Chairman and Ranking Member to put their names on legislation, even though others did the heavy lifting.

      If you are Corker and Warner, you want the “senior Senators” on the bill because it adds some PR gravitas.


        1. The picture IS becoming a little more clear. And we’re also experiencing the well known phenomenon of people with established but different points of view looking at the same thing and seeing it in a way that favors themselves.

          The article in the American Banker yesterday (cited above) confirms that, as Bill Maloni noted, the Crapo-Brown initiative is the same effort as others have been describing as “Corker-Warner 2.0.” And although all we’ve learned about it so far has been either a broad outline or details of proposed elements leaked by people hoping to gain support for them, there is little doubt that this is the Senate’s formal attempt to turn the MBA’s Fannie/Freddie reform proposal–described in its April 2017 paper “Creating a Sustainable, More Vibrant Secondary Mortgage Market”– into legislation.

          The MBA’s proposal–and therefore C-W 2.0 (Crapo-Brown)–is what the large banks want, which in my view will result in a weaker secondary market capability that will allow banks to move control of mortgage underwriting and pricing to the primary market. The counter to C-W 2.0/C-B is the Moelis plan–released last June– which seeks to restore Fannie and Freddie as strong, well capitalized, shareholder-owned entities, and which in my view would better serve consumers and be a counter-weight to the power of the large banks.

          To my reading, the key elements of the “Perspectives on Housing Finance Reform” paper put out by the Federal Housing Finance Agency on Wednesday are more consistent with the Moelis plan than the MBA plan. And while I have not yet listened to the recording of Craig Phllips’ talk at Women in Housing Finance (which I intend to do today), the reported excerpts from it indicate that Phillips and therefore almost certainly Mnuchin and Treasury are keeping their cards face down until they see how C-W 2.0/C-B shapes up and is received. The next and critical act in this drama, therefore, will be the release of– or the inability to successfully complete– this draft legislation. At that point, the REAL handicapping on the future of residential mortgage reform can begin.

          Liked by 3 people

          1. tim

            thanks for this card reading analysis. one might remember that mnuchin grew up at goldman when rubin was ceo, and rubin fanatically preached creating/maintaining optionality and freedom to react until the odds turn in your favor.

            when you listen to the audio, perhaps you can comment on phillips’ references to creating a “level playing field” between private market (which he seemed to say would incentivize originators to keep whole loans in portfolio) and public market (selling to secondary market for securitization). this reminds me of what calabria once wrote, imagining a housing finance market with no secondary market participants, though it is clear that phillips is not going anywhere near there.

            it seems to me that this is not what MBA wants, which is multiple secondary market participants that are more user-friendly than FnF (and which apparently CW2.0 seeks to promote). am i right to understand that to extent treasury is seeking alternatives to selling mortgages to FnF they are considering an alternative (portfolio retention) that would not follow MBA’s preferred path?

            second, if i am right about this, then wouldnt creating a treasury last loss mbs guaranty simply incentivize originators to securitize, which goes against the above desired goal of leveling the playing field?

            and third, to the extent originators keep loans in portfolio, this reduces housing finance liquidity which cuts against one of treasury’s first principles, preserving liquidity for 30 year prepayable mortgages.

            i felt somewhat like i sat through a public policy lecture in which nothing definitive was said, though i may have missed something. but for the life of me, if i were a journalist covering this talk, i have no idea what my lede would be.


            Liked by 2 people

          2. Having now listened to the housing finance reform portion of Phillips’ talk, I would put him closer to the MBA’s position than to the Moelis plan. You’re right to note his use of the term “level playing field” as significant. That has been the code phrase for supporters of banks for a couple of decades now, and it means giving Fannie and Freddie bank-like capital requirements without giving them the broad asset powers that make banks’ capital levels right for them but wrong for Fannie and Freddie (as I discussed in my post, “The Right Choice on Capital”). It’s possible that this is not what Phillips means–and that he means something more in line with his statement that Treasury wants to look at all aspects of federal housing policy, including FHA, VA and USDA along wth Fannie and Freddie, to ensure consistency–but given Treasury’s long history of supporting what the banks want the former interpretation seems more likely.

            Briefly on your three questions: (1) On portfolio retention, I think the banks (and the MBA) want exactly what I described in my current post: to be able to retain high-quality residential mortgages as whole loans in portfolio, to swap lower-quality mortgages for MBS that will carry an explicit government guaranty–that banks can either sell or keep on their balance sheets at a zero Basel III risk-weight–and to be able to do both of these things at the higher spreads to their cost of FDIC-insured deposits that would result from the guaranty fees charged by credit guarantors overcapitalized to the degree banks want them to be; (2) See point (1), and (3) more 30-year loans held in bank portfolios will tend to reduce agency MBS liquidity, but not to any significant degree.

            I continue to believe that if Congress can agree on legislation it will look very much like what the banks want, and be supported by Treasury. But I also don’t think Congress WILL be able to agree on legislation. If and when it does not, Treasury will focus on what it can do administratively. At that point, I believe the realization that reforming and recapitalizing Fannie and Freddie in a way that makes the companies low-cost and efficient (to the benefit of homebuyers) also will make Treasury’s warrants for the companies’ common stock more valuable, and this will pull it to go in that direction.

            Liked by 2 people

          3. Tim, I wonder how Phillips could be leaning toward MBA, as you suggest, and yet say that Watt’s plan is nothing Treasury is ‘allergic’ to. How can both be true?

            Liked by 1 person

          4. Phillips’ comment on the Watt proposal is less puzzling than an MBA spokesperson saying “MBA is grateful for the well-informed input from the Director and hope[s] that it contributes to momentum for congressional action on reform.”

            Liked by 1 person

          5. Thanks Tim. One obvious fly in the ointment to any progress whatsoever is that all current plans contemplate federally backed MBS. That cannot be achieved administratively.


          6. thanks tim.

            i do recall a snippet where CP says that legislation is preferred as there is a limit to what treasury can do administratively, and i believe he said this in the context of a federal mbs guaranty, which treasury cant commit to without legislation. you would think CW would try to craft something that has a treasury mbs guaranty (satisfying MBA) but in all other respects is palatable to Democrats, in order to promote chance of passage. it doesnt seem that this is what they are doing.


            “If you thought that GSE reform had a good chance of passing this year, think again. Friday morning, industry lobbyists were perplexed about new reports that Senate Republicans were leaning toward a reform plan that entailed placing Fannie Mae and Freddie Mac into receivership as a transition to a new housing-finance system, one with multiple guarantors. The belief is that the GSEs would be killed outright. As one trade group official noted: “There is no vote count for receivership. There is not a single Democrat who will vote for this…”


            Liked by 1 person

  3. Looks like it’s official, FNMA/FMCC will need a draw to deal with DTAs.


    Treasury’s Craig Phillips also told a group today that Fannie Mae and Freddie Mac will require a draw from Treasury as a result of tax reform which reduced the value of deferred tax assets. This is despite a deal with FHFA to allow each to retain $3 billion in capital. #GSE


    1. Twitter – Council of FHLBanks‏
      Follow Follow @FHLBanksVoice
      Treasury Counselor Craig Phillips @WHF_DC : broadly supportive of new FHFA white paper, “no allergic reaction to it”, the questions now are “the how” for example “how to measure the value of low-mod versus overall goals”


      1. my takeaway from tweets is that mnuchin is still busy on other treasury matters and hasnt signed off on any treasury plan, so phillips is just trying to make nice until he has marching orders. his reference to reforming all federal housing programs not just GSEs (which mnuchin has mentioned before) is nice but only adds to the unlikelihood of congressional action given the expanded scope. watt is watching this and saying that, while treasury is still pondering, i am going to put it out there that increased competition a la CW2.0 is an unacceptable risk of a race to the bottom. and fhfa would rather have utility regulation regulatory power over FnF continuing with their current footprint.

        so i am not sure what all this means, but i dont see how CW2.0 can get bipartisan support when fhfa seems opposed.



        1. So, it seems more and more as if Mnuchin is going to wait to see if Congress can put something together that can get traction (I have consistently felt that it will not be able to), and then start floating balloons about potential administrative moves. C-W, your move next.

          Liked by 1 person

          1. Imo, awaiting a bipartisan approach is actually good news, combined with, as I view it, the chronological ceiling of November for such an unlikely event to occur, probably gives UST until then to adjudicate the matter of GSE’s and reap another 10 or so billion in the process. Sounds like a win-win for everyone.


    1. This is notable as he points to too many enterprises in the space would lead to a race to the bottom…

      Which is exactly what Tim noted happened in his book when PLMBS came into play in the mid 2000s which really was the root cause of the crisis.

      Would love to get your thoughts Tim.


    2. Unfortunately , Watt does not understand why it is better to back the companies rather than the securities, as you explain in “Fixing What Works” , but other than that I think that your proposal is being taken in account

      Liked by 1 person

        1. ‘The FHFA document said future mortgage guarantors should be required to transfer credit risk to the private market when it’s economically feasible and that the companies should have enough capital to withstand a housing crash akin to the one that devastated the financial markets a decade ago. Rather than having a specific amount of capital dictated in legislation, the FHFA said it should be up to the companies’ regulator to set and adjust the needed level.”

          1. CRT when economically feasible.
          2. sufficient equity capital (measured on a functional basis…withstand 2008-9 FC).
          3. utility regulation, few credit guarantors.

          this sounds like moelis blueprint except for explicit MBS guarantee

          as jimmy durante might say (millennials, google), “everybody is trying to get into the act”


          Liked by 1 person

          1. It’s one thing, and a big one, that Watt would support something so close to the Moelis plan. But it’s another for him to espouse these views to Congress, who has no role in the original Moelis plan. Is Watt asking Congress to just sit back and give the green light to a Moelis-like restructuring?

            Liked by 1 person

          2. I’ve finally been able to read the FHFA proposal, and with a few quibbles I think it’s very good–it has a lots of features I like (and have recommended), along with a couple of favorable surprises. And I think it’s quite constructive to have Fannie and Freddie’s regulator on record favoring a sensible path to get the companies out of conservatorship.

            My quibbles involve CRTs, the Mortgage Insurance Fund (MIF), and the government guaranty. FHFA says in bold print, “Require Credit Risk Transfer”–which I’ve said repeatedly is a terrible idea–but then they immediately backpedal by saying “when such transactions are economically sensible.” My question to FHFA would be, “economically sensible for whom?” The CRTs Fannie and Freddie have been doing for the last four years are economically sensible (indeed, overly so) for investors but not the companies, and when the market changes to where they would become economically sensible for Fannie and Freddie to issue the investor base almost certainly will back away. As regulator, FHFA will have to be VERY careful with how they handle CRTs to avoid ending up weakening the companies’ ability to handle stress. I’m not wild about either the MIF or a government guaranty of the guarantors’ securities–again for reasons I’ve written about previously–but in the grand scheme of things if these need to be part of the deal to make it go through so be it.

            The surprises are FHFA’s proposed government guaranty of credit guarantors’ debt–even I hadn’t gone that far–and also the proposal that Fannie and Freddie (and any other guarantors created) be allowed to use their on-balance sheet portfolios to hold certain affordable housing loans.

            Overall, a good proposal, and good to have out there.


        2. just to elaborate a tad, if watt proposes a few credit guarantors (FnF are a few already, no need for more) with sufficient capital to weather FC, then FnF have to raise >$100B of capital.

          FnF can do this by eliminating current shareholders (including treasury’s warrant position), or use the capital structure in place (which would monetize treasury’s warrants to the tune of about $100B for treasury). my guess is that watt would think that treasury would want the latter, though as a mere regulator watt has no skin in that game.

          in order to raise this amount of capital, the treasury senior preferred will have to be deemed paid off (or paid off when the next draw for the tax law deferred tax asset hit is paid off). an alternative would be for treasury to convert its senior pref into common and cram out all other shareholders, which would make the roadshow for the new equity capital surreal bordering on absurd.

          why the fed mbs guaranty? from a fhfa regulator’s perspective, why not?



          1. ROLG

            The American Banker article used the word “Reincorporate”. This isn’t re chartered but would this give cause for pause or just semantics?


          2. @mfs

            fhfa perspectives refers to credit guarantors being private corps subject to state corp law/governance practices/SEC review. the only change between now and then would be to reincorporate FnF so they have state charters, rather than federal charters but subject to state corp law. i dont see this as being a biggie. a corp can reincorporate and it changes nothing except the law it is subject to going forward…(and if FNF are to do this, the senior pref will have to get paid off because they are not kosher under state corp law such as delaware).



          3. @tim

            wouldn’t a fed cat mbs guaranty (whether funded by an insurance fund or not) and a fed guaranty of FnF debt targeted to fund certain FnF core activities (as set forth in fhfa perspectives) both serve to lower FnF’s overall cost of borrowing?

            i am just trying to get a sense of profitability going forward, and with the tax act, these ideas would seem to enhance FnF’s profitability.



          4. Let’s set aside government guarantees on debt for the moment (since I very much doubt those will fly), and just focus on government guarantees on MBS. It’s not clear to me that a government guaranty of Fannie or Freddie MBS will lead to a lower security yield (and thus rate to a mortgage borrower) than could be obtained through some other approach to catastrophic risk. It all will depend on the capital required in each case. One of my main concerns about a government guaranty of MBS is that the alleged “protectors of the taxpayer” will require the credit guarantors whose securities would benefit from a government guarantee to hold unnecessarily high levels of capital to qualify for it. This excessive capital will push mortgage rates up a lot; an explicit government guaranty would then lower them to some degree, but they still would be high. Compare that to a true risk-based capital framework, which sets required capital as the amount necessary to survive a defined environment of economic stress. The latter approach, if endorsed by Treasury as “meeting current government standards of safety and soundness,” should (a) earn AAA/Aaa ratings from the ratings agencies, and (b) facilitate (relatively low-cost) private catastrophic reinsurance on top of that, since the cat reinsurers will know (because of the risk-based standard) both the parameters of the credit risk the companies have and the amount of their capital that has to be burned through before the cat risk coverage is tapped. I believe this second method will result in a notably lower mortgage rate to the homebuyer than a government guaranty layered on top of credit guarantees from overcapitalized private companies.

            And one other point. Advocates of government guarantees (including, now, FHFA) keep saying that we will be guaranteeing “only the securities, not the companies that issue them.” That’s balderdash. If you set up the guarantors as regulated utilities, with caps on their returns and regulatory control of their pricing, they all (however many there are, and I don’t think there will be that many) will have very similar performance. If one gets into trouble they all will, and if you guarantee “only the securities and not the companies” you’ll be left with no functioning entity to issue NEW credit guarantees as the crisis is unfolding, and the system will melt down. The government then will step in and say, “Well, whoever could have predicted that,” and guarantee the companies.

            Liked by 1 person

        1. Hello Tim,

          I must say I find FHFA’s mention of a “comprehensive risk-based capital standard” encouraging as well. Would any resemblance of that concept to the Volcker standard you initiated in the early 90’s, be coincidental?

          Thank you for all the factual, nuanced, and careful writing you’ve done through the years.

          Liked by 1 person

    1. I hope so. My understanding is that Phillips’ prepared remarks will be published, and there also will be people there listening to the Q and A portion, who will report on anything of significance he says in response to a question.

      Liked by 1 person

  4. Tim,

    Tim Pagliara claims on Twitter that Mark Warner pulled out of working on GSE reform with Bob Corker. Have you or anyone else heard about this or have details?


    Liked by 3 people

    1. I hadn’t heard that, but it wouldn’t surprise me. Tim is a reliable source who is well plugged in, and Warner has new issues he’s been focused on recently that are more politically promising for him, and also don’t involve potentially putting 5,000 employees in his district out of work.

      Liked by 3 people

      1. This would appear to be a nail in the coffin of Congressional housing finance reform efforts in 2018. If 60 votes in the Senate are required and even Warner won’t support a bill by Corker, good luck finding 9 other Democrats that will.

        As for Mnuchin finally acting, what indications from Congress would he be looking for? I would hope Warner’s walking away would be one. And why is administrative reform seen as stepping on Congress’s toes anyway? Getting Fannie and Freddie out of government control does not affect their efforts in crafting policy.


        1. I wouldn’t go (nearly) that far. Even if Warner is not actively working with Corker on what’s been called “Corker-Warner 2.0”–and I haven’t yet seen confirmation of this– that’s different from “not supporting” Corker’s initiative, and certainly not the same as “walking away from” it. And you’re also missing the political context of this kabuki. The big banks want legislation that will weaken Fannie and Freddie, or their successors, to banks’ advantage. Administrative reform is likely to be less bank-friendly, because Treasury will extract more value from the warrants of the companies if they are reformed and recapitalized in a way that makes them efficient and more profitable. I’m speculating here, but I suspect that Mnuchin feels he will have considerably more scope for going forward with administrative reform after Congress has tried and failed legislatively with the bank-centric approach.

          Liked by 1 person

          1. Hey Tim – since Mnuchin is a GS alum and Hank Pauslon is also a GS alum – do you see any reason why Mnuchin will be any different than Paulson and just continue the path of global TBTF bank domination? Given the umm … direction of the Trump administration, it seems highly likely to me that Mnuchin will basically do whatever his buddies/handlers who got him the job want him to do. I would guess that would include GS.

            I guess the short question is, why do you have any faith in what this guy says?


          2. Tim

            Hasn’t Congress tried for 9 years? After what point in time does the congressional effort have a statute of limitations? What will be the triggering mechanism of not the courts to motivate Admin reform? DTA?


          3. Absent both Congressional action and some favorable development in the court cases, I certainly wouldn’t rule out the possibility that the administration will try to keep Fannie and Freddie in conservatorship indefinitely. But that’s not how I’d bet.


    1. I don’t see the timing of the upcoming C-W 2.0 as linked to the Supreme Court decision on cert; I think it’s more likely related to the facts that the tax bill is now out of the way, and Corker will be leaving the Senate at the end of this term.

      Liked by 1 person

      1. At this point in time there is no evidence of a workable vote count in Senate Banking Committee for a complex redo of the US secondary market. Things can change of course, and we’ll all be much smarter if/when a legislative draft is released, but consider one angle: the prior Senate Banking Comm effort incubated for nearly two years, got 13 votes after all that incubation, didn’t move, and now the sponsors admit it had major flaws.

        People should ask themselves if a much (much) shorter incubation period will yield better results for this thorny and far-reaching economic issue.


      2. Interesting article yesterday by Susie Gharib from Fortune featuring Fannie CEO Tim Mayopoulos noting Fannie had paid back the original $116 Billion original bailout in full. A rare occurrence that a major financial news organization states GSE’s repaid principal loan as opposed to merely servicing interest or (executive) privilege payments. That point could be a decent platform for TS to build public awareness upon. In lieu of releasing NWS documents, one less step to proving GSE’s weren’t/aren’t/never will be the villains in the residential mortgage market, quite the contrary in fact. Facts first, indeed.

        Liked by 1 person

  5. Tim,

    Good afternoon. The Bloomberg report today about “Corker/ Warner 2.0” clearly states they are seeking a receivership through legislation. A past comment from you on November 3rd is as follows:

    “If putting Fannie and Freddie into receivership is being “discussed frequently at the White House,” it’s by people who have little idea of what they’re talking about. If you put the companies in receivership you liquidate their $5 trillion in business. Who or what will replace that financing, and at what cost? Mortgages don’t finance themselves.”

    Have your sentiments or thought process changed? Also, do you think Corker/ Warner 2.0 has a legitimate chance to pass? I know specific details aren’t out yet, but the word “receivership” is a serious and direct term, even if the specifics aren’t yet revealed. Boltanksy with Compass Pointe Research maintains a 10% chance of this legislation passing.

    Thank you.


    1. What I was saying earlier is that you can’t just put Fannie and Freddie into receivership without having something that will replace them. That’s what C-W 2.0 is hoping to do. But it’s not going to be easy. From what I’ve read (leaked selectively by supporters of the effort), the idea behind C-W 2.0 is to replace Fannie and Freddie’s charters with something weaker (that makes the new credit guarantors less of a threat to banks). New entrants willing and able to do $50 billion in new credit guarantees could enter the business, but would need to raise at least $2.0 billion in capital first. While these new companies are being formed, Fannie and Freddie would be kept in conservatorship (and presumably run in such a way to make them less efficient, and easier to compete with) until there were enough new credit guarantors that the government felt comfortable running the existing Fannie and Freddie through receivership, and allowing them to be reconstituted as new companies with the same charters the new entrants have.

      While I don’t know if that’s actually what C-W 2.0 is trying to do, if it is a major issue will be how you attract capital into these new entrants. They will be businesses operating with bank-imposed handicaps—including unnecessarily and unjustifiably high capital requirements—and they will need to raise their new capital at a time when the government continues to insist that it has the legal right to appropriate all of the capital of the two existing credit guarantors the new entities are being enticed to replace. Good luck with that.

      Liked by 3 people

      1. tim

        this whole “create GSE competition/additional credit guarantors by legislative fiat” exercise seems so absurd to me.

        I have been involved in large equity raises. you hire a banker (or three), which has a monstrous amount of work to do to talk up the deal with institutional investors, go on the roadshow to sell the deal etc…and this is with a real existing company, with a real management that knows what it is doing and has a record to run on. (like moelis if GSEs are to recapitalize).

        the notion that, just because corker and warner think that having GSE competitors is a good idea, congress can legislate this is beyond belief. what kind of alternative universe does congress think it occupies?

        i would think mnuchin’s (and cohn’s) experience on wall street leads him to wonder the same thing…amateur hour.


        Liked by 2 people

        1. The main proponent of the multiple credit guarantor idea is the Mortgage Bankers Association; Corker and Warner are just trying to do what the MBA and the big banks want. And it’s possible that C&W are aware of, and struggling with, some of the real world constraints you mention, and that this is one reason we still haven’t seen a concrete proposal from them.

          It’s been fascinating to watch the evolution over the past decade of the ideas for replacing Fannie and Freddie with a bank-centric alternative. Initially, Treasury and the big banks went for the quick kill: “Fannie and Freddie caused the financial crisis; we must replace them to protect the taxpayer.” Congress bought that diagnosis, but didn’t act on it. Then in the years following the crisis data became available showing which mortgages performed well and which didn’t; loans financed by Fannie and Freddie had by far the lowest delinquency and default rates. Opponents and critics of the companies still routinely blame them for the crisis—for public consumption—but they know it’s not true, so they’ve had to come up with other reasons to justify replacing them with their preferred alternative.

          For a short while, the Urban Institute’s “Promising Road” idea was in vogue: avoid the concentration of credit risk in two companies by spreading it out among tens of thousands of investors in the capital markets. That was a theoretical fantasy from day one, and I think it’s now pretty well dead. The current idea is the one the MBA came up with last spring: we shouldn’t rely on “too big to fail” companies (Fannie and Freddie) for the continued health of our mortgage system; instead we should have a system of multiple credit guarantors, in which the government guarantees the securities they issue, but not the guarantors themselves. And we’ll pile up capital in the private guarantors to reduce the risk of loss to the government.

          The MBA’s proposal just happens to result in the “profit superfecta” for big banks I discuss in the current post. It’s now Corker and Warner’s job to try to come up with legislation that will make it work, but as you note, and as I’ve detailed elsewhere, there are many practical impediments to doing so. I am very interested to see how C&W will try to deal with these obstacles, or if instead they choose the easy path of pretending they aren’t important or don’t exist.

          Liked by 3 people

          1. tim

            you have lived this history and we appreciate that you know it more intimately than any of us could.

            as i see it, C/W are faced with a conundrum:

            in typical legislative policy, a congressperson can focus on constructing a policy solution and then congress can appropriate money; with a snap of legislative fingers, the desired policy construct is financed (which may explain why government spending is so wasteful…it is so easy).

            but in the case of any GSE reform that seeks to create credit guarantor competitors, there is no snap of legislative fingers to provide funding. hard private money is needed to provide equity capital. and the providers of hard equity capital ask hard equity capital questions, such as why would i provide my money to this new credit guarantor when i have witnessed what the government has done to the existing credit guarantors (GSEs).

            MBA lobbyists, senate committee staffers and fellow travelers have no clue what it takes to answer these hard equity money provider questions because they don’t come from wall street and have the bruises to show for it.

            in my view, if our treasury secretary focuses more on how to get a sensible financing fix for GSEs in the real world of privately-supplied capital and less on making nice with politicians, he will be thinking along these lines as well because he understands the process required to raise billions of dollars of private capital (and has the bruises to show for it).


            Liked by 2 people

          2. I agree with you. My “most likely scenario” since the surprise appellate decision in Perry Capital last February has been that Mnuchin would wait to see what Congress can come up with–since it and others have been so insistent that there be legislative reform–then, when that proves to be infeasible or unworkable for the reasons we’ve identified (and others), Mnuchin can step in with an administrative proposal that IS feasible and workable, and also nets Treasury upwards of $100 billion from conversion of its Fannie and Freddie warrants. The reason I’m not ruling out a legislative solution entirely is that I’m reluctant to call something DOA until I actually see the body.

            Liked by 6 people

    1. What I expect will happen, based on previous draw requests, is that we will learn whether Fannie and Freddie’s DTA write-downs are severe enough to cause them to need to take draws from Treasury (Freddie’s may not be; Fannie’s most likely will) when the companies announce their fourth quarter and full year 2017 earnings in mid-February. Should either company need a draw, FHFA will request it at that time, and if past practice is followed Treasury will provide the funding for the draw(s) on March 31, 2018.

      Liked by 1 person

    1. @ eric

      solicitor general has asked for two deferments for its response. next response due in a couple weeks, but may ask for another deferment. Ps have couple weeks for reply to SG response, then scotus decides when scotus decides.


      Liked by 2 people

      1. ROLG,

        How many times does SG get to have a deferment granted? In Sammons today they requested the deferment the same day their reply was due, and I thought such requests were required at least 10 days before that date. I thought SCOTUS was pretty strict about how much time they would allow to grant these things and the rules for requesting them?



  6. Tim,

    There had been comments in the past about the “10% moment” and that once Fannie and Freddie passed those it would be possible for Treasury to claim that they had been fully repaid per the terms of the original SPSPA. I believe that the senior preferred stock will need to be declared repaid or something similar for Fannie and Freddie to get out of government control, which is finally possible starting Tuesday.

    Since Treasury’s liquidation preference increased by $3B for each company as a result of the capital buffer, but they received no cash for it, has Treasury’s IRR dipped back below 10%? Does that even matter?


    1. There are a few ways to calculate when Treasury has received a ten percent return on the draws Fannie and Freddie were forced to take from it. The one I find most straightforward and defensible is to credit each company’s quarterly post-sweep payments in excess of ten percent (at an annual rate) as a paydown of outstanding senior preferred stock. Doing that, by my calculations Freddie fully paid off its senior preferred stock, at a 10 percent after-tax dividend, in the second quarter of 2016, while Fannie did it in the third quarter of this year. (I don’t how the author of the “ten percent moment” concept does his calculation.)

      But either calculation is just an exercise. No action will be triggered once Fannie and Freddie repay the government, however one measures it. For the companies to be released from conservatorship, Congress, the administration or the judiciary will have to end the net worth sweep, and allow them to recapitalize. Whichever body takes the initiative to do that will be the one that defines when, how, and under what terms the sweep ends, as well as how their recapitalization will take place.

      Liked by 6 people

      1. tim

        the terms of the SPSP agreement were “negotiated” in the midst of the financial crisis almost a decade ago. while the 10% dividend rate and other terms were exorbitant even then at the height of financial risk (see other TARP deal terms), they are absurd to apply to any extension of credit in 2018 from Treasury to FnF arising from the non-cash accounting for deferred asset write downs while FnF are two of the most profitable financial firms today.

        wouldnt it be fitting if Treasury amended the terms of the SPSP to govern the financial reality governing any extension of credit in 2018, let alone acknowledge the reality that the senior preferred has already been paid off by the terms of that original exorbitant 2009 deal!


        Liked by 3 people

          1. I agree. The ten percent (after-tax) senior preferred dividend, the inability to repay the senior preferred without Treasury’s permission (a feature present in no other financial rescue program ever) and the dollar amount of non-cash expenses recorded by FHFA at Fannie and Freddie (which resulted in the mandatory draws of senior preferred) were designed in combination to bury the companies under a mountain of imposed indebtedness, to give Treasury and the companies’ opponents and critics both a (phony) rationale and the time to replace them with a bank-centric alternative. When they could’t do that before the non-cash accounting entries began to reverse, Treasury and FHFA entered into the net worth sweep, extending Fannie and Freddie’s indebtedness, and conservatorship, indefinitely.

            The courts should have ruled against the net worth sweep some time ago, but so far no judges have had the courage to (with some resorting to tortured readings of statute or legal precedent to avoid finding against Treasury and FHFA). And so Fannie and Freddie remain hostages of the federal government well into their tenth year. Knowing the right thing to do with them is easy; getting someone able and willing to step up and actually do it has been, and continues to be, much harder.

            Liked by 2 people


    CRTs forever! Tim at what point does it become problematic that the GSEs are giving away relatively risk free money to the bond market?

    Also is there a reason you won’t just come out and say that the current management is willfully bankrupting the companies thru financial engineering? Clearly the big money managers have gotten the wink and nod… As someone who hopes fairness and rule of law will someday return to the republic, I wish you could be more direct in eviscerating this sham.

    Sorry but when is enough enough?


    1. I don’t believe that “current management is willfully bankrupting the companies” through their use of securitized CRTs. Fannie and Freddie managements are being required by FHFA (and Treasury) to issue CRT securities that are not economic for them, under the justification that, with the companies having no capital (because Treasury has taken it all), CRTs at least give them some protection. Treasury also has been very clear that it wants to “de-risk” Fannie and Freddie prior to winding them down. The fact that the CRTs the companies have been issuing transfer much more revenue than risk (as measured by probable losses) doesn’t bother Treasury in the slightest. But I doubt that me, or anyone else, “eviscerating” Treasury or FHFA over this will change their behavior. I’m focused more on the post-reform use of CRTs, and am pleased that others now are making many of the same points on this topic as I’ve made. I think we’re making some headway.

      Liked by 1 person

      1. Tim –

        Bloomberg discussed this on TV this morning.

        A Starbridge Capital analyst (or M.D.) discussed how these had larger spreads over Treasuries, REITS, and MBSs, but have tightened closer to MBS & REITS, but still offered an attractive investment option for “bond investors”.

        They discussed the biggest risk to buyers of CRTs was a series of uninsured natural disasters followed by a national housing price decline.

        One question I still have is the about the “flow of funds” and the transferability of the CRTs. Right now CRTs involve an upfront payment from the buyer to the GSEs. Then a flow of interest payments from the GSEs to the buyer of the CRTs. Then, if there is “credit event”, the buyer of CRTs will reverse the flow of funds to the GSEs (if I understand this correctly). I believe that the most a buyer of the CRT could lose would be the coupon payments and the principal invested. If that is the case, then counterparty risk shouldn’t be an issue as the final principal payment could be offset rather than receiving a check from the owner of the CRT.

        However, if principal is paid any earlier than the final payment, then if CRTs are transferred to a weaker counterparty, it could create serious issues if there is a credit event.

        Is there currently counterparty risk with the CRTs and are they transferable?


        1. There is no counterparty risk with Fannie and Freddie’s CRTs, and for that reason the transferability issue you raise really isn’t a concern.

          Fannie or Freddie receive cash proceeds when they sell a CRT tranche to an investor. At the end of each quarter, the companies pay interest on the outstanding principal of the tranche (although technically, I think I recall that it’s the principal outstanding at the end of the previous quarter) at the stated rate of interest, which is a spread over 1-month LIBOR. The principal of Fannie and Freddie’s CRT tranches can be reduced by both scheduled and unscheduled mortgage repayments, as well as “credit events,” i.e., losses allocated to that tranche. A tranche repayment is passed through to the investor as an early reduction in principal, where a credit event is an actual LOSS of principal, in which the investor ultimately will receive less principal–either in prepayments or at maturity–than they initially put into the deal, by the cumulative amount of the credit events. There never is a payment from the investor to Fannie or Freddie (which would give rise to counterparty risk) because of credit losses.


          1. FHFA released their score card for 2018 outlining the risk transfers. Of course Tim Howard is right again, they are transferring the best quality mortgages while retaining the bad ones.

            Liked by 1 person

  8. Good Morning Tim
    There are some people out there speculating that the preferred will be converted to common.
    Can you explain where the idea comes from and why would the government do that ?
    I mean it would dilute the value of the warrants, would not? Is not better for the government just let the preferred standing and start paying them the non cumulative dividend from now on ?
    Thanks for your opinion.

    Liked by 1 person

    1. The investment prospects for Fannie or Freddie common or preferred stock are not a focus of this blog. (There are other sites and message boards where speculation about and advice on these topics abound.) Once there is a concrete proposal for legislative reform–as many think there will be some time next month–should it include details on the recapitalization of Fannie and Freddie I very likely will have a view about and comment on them. But I don’t intend to make general recommendations about the treatment of the companies’ existing common and preferred stock outside the context of some defined objectives for their business and capitalization.


      1. tim

        if i may, i would only point out that preferred stock is a contract between the holder and the issuer, governed by the terms of the certificate of designation for the preferred and the applicable state corporate law. each preferred holder should go read that certificate to understand whether there are call (issuer can force redemption) or exchange (issuer can force conversion) provisions. what happens to the preferred in a merger or other similar transaction for example is spelled out there. outside of a bankruptcy proceeding, these contractual provisions cant be overridden. an issuer can propose a transaction that may provide holders a choice they cant refuse, but that is another matter.



    1. That’s good. Now the question becomes: what will the companies do about the write-downs of their deferred tax assets (DTAs) that will be done in the fourth quarter of 2017, given passage of the tax bill.

      Fannie has the bigger problem–its net DTAs are twice the size of Freddie’s. At September 30, Fannie had $30.5 billion in net DTAs. Fannie’s net DTAs have been dropping by about $1.0 billion per quarter this year, so for the fourth quarter one could expect them to be around $29.5 billion. If that’s correct, a cut in the corporate tax rate from 35 percent to 21 percent will cause it to have to write its DTAs down by $11.8 billion.

      Year to date, Fannie has been averaging about $4.5 billion in pre-tax net income per quarter. With an $11.8 billion net DTA write off, that would leave it with a pre-tax loss of $7.3 billion. Is there some way Fannie could make that up, and not have to take a draw?

      In a post I did this February (“Deferred Reform, and Deferred Taxes”), I noted that all of Fannie’s DTAs stemmed from timing differences between when it paid taxes to the IRS and when it accrued them on its books. (I’ve read in other places that Fannie’s DTAs are the result of net operating loss or capital loss carry-forwards; that’s simply not correct–Fannie said in its 2016 10K that it had no NOL or capital loss carry-forwards.) Since these timing differences stem from accounting implementations that push income back and accelerate expense (beyond the thresholds used by the IRS), I argued that Fannie should look at changing some of those implementations to treatments that still were GAAP-compliant (and approved by its outside auditor), but would allow it to reduce its DTAs, and thus reduce the post-tax reform DTA write-off. So far Fannie hasn’t done that. I wonder if it will this quarter. If I were CFO at Fannie I would make every effort to. If the company doesn’t figure out some way to get about $8 billion in pre-tax net income this quarter through a combination of lower net DTAs and one-time revenue gains, it will need to take a draw. (Freddie’s problem is more manageable, but it still will need some DTA reduction, or extraordinary income, to avoid a draw.)

      We’ll know how this plays out in late January, when both companies publish their fourth quarter and full-year 2016 results.

      Liked by 2 people

        1. I hadn’t seen that. But, yes, if the bill is signed in January, it will become a first quarter event. That’s a good thing. With the three billion capital buffer, whatever the retained earnings are from the fourth quarter (which would be scheduled to be swept on March 30) and the first quarter’s earnings, Freddie should certainly have enough capital to handle its DTA write-down, and Fannie’s becomes much more manageable. By the end of March both companies should have a decent idea of what their first quarter 2018 earnings will be. If Treasury wanted to avoid a draw, it could defer the March 30 sweep and let the Freddie and/or Fannie use those earnings to offset the DTA write-down. It wouldn’t make a lot of sense for Treasury to sweep the fourth quarter earnings on March 30, then turn around when earnings are reported in late April and extend a draw that’s smaller than the earnings that had just been swept–unless Treasury really wanted to get people spun up about another “bailout.” Again, we’ll have to wait to see how this develops.

          Liked by 2 people

          1. Tim –

            You’re almost spot on with your $11.8B draw.

            They filed an 8-K today with an estimate of $10B. What’s $1.8B between friends?

            “This will result in an estimated one-time charge through our provision for federal income taxes of approximately $10 billion in that period.

            We expect this charge, combined with the restrictions on the amount of capital we are permitted to retain, will result in our being required to draw from Treasury under our Senior Preferred Stock Purchase Agreement with Treasury.

            Our expectations are based on assumptions relating to a number of factors, including the value of our deferred tax assets as of December 31, 2017. Upon drawing funds from Treasury, the amount of remaining funding under the agreement, currently $117.6 billion, will be reduced by the amount of our draw.”


            Liked by 2 people

          2. Well, that’s that, then. (As an aside, $11.8 billion is “approximately $10 billion;” we’ll see what the actual number is next month.) And $10 billion won’t be the amount of the draw; Fannie should have pre-provision earnings of between $4 and $5 billion, making the draw more modest. Finally, given the lower corporate tax rate going forward, Fannie should earn back its approximate $10 billion DTA write-off in between four and five years–after that, the 21 percent tax rate will be a pure benefit for the company.

            Liked by 2 people

      1. Freddie’s 8k states an expected DTA hit of $5.3B. With $3 buffer as of Jan 1, seems a 4Q net of $2.3B (before DTA consideration) avoids the DTA hit. Guess we’ll have to see where 10-yr T ends up this Q. But seems possible Freddie could avoid new draw, unless I’m missing something.


        1. I agree that Freddie might be able to avoid a fourth quarter draw, and would go further and say that I expect it to be able to. If it does, that would be a good thing for both companies, as it would emphasize to the general public the unique nature of the circumstance behind Fannie’s draw.


  9. Tim,

    Someone made an interesting observation on StockTwits that the proposed Senate GSE reform bill may somehow reduce the amount of capital the entities need to raise if they keep the old book of business behind as follows:

    December 19, 2017
    What MBA Expects to See from GSE Reform: ‘De Novo’ Versions of Fannie and Freddie, Multiple Guarantors…

    By Paul Muolo

    The final details of what GSE reform might look like in the Senate won’t be known for weeks, but the Mortgage Bankers Association expects the legislative language will include “de novo” versions of Fannie Mae and Freddie Mac.

    “Fannie and Freddie will be new companies – theoretically, they will be spun off,” MBA President and CEO Dave Stevens said in an interview Tuesday. He also expects multiple guarantors will be allowed, an idea the trade group has steadily advocated for.

    As for the GSEs’ legacy book of business, Stevens expects the current line of credit Fannie and Freddie have with the Treasury Department will be used to backstop those assets.

    It’s unclear when exactly reform legislation will be introduced in Congress, but the expectation is that a bill will be introduced in the Senate Banking Committee, probably in January. For more details, see the upcoming editions of Inside Mortgage Finance and Inside MBS & ABS, available online Thursday afternoon.


    1. I don’t follow “StockTwits,” but the reason the latest version of Corker-Warner might require the new versions of Fannie and Freddie to raise less capital is that once they finally are transitioned out of conservatorship (in a way that presumably will be described when the draft bill is made public) they will be much smaller, with considerably diminished growth prospects. That’s nothing to cheer about.

      As I’ve said earlier, I can’t comment on a bill I haven’t yet seen, but the steady stream of stories about it that quote Dave Stevens (including the article you cite) make it completely clear that what Corker and Warner are about to put out is very close to, if not exactly, what the MBA wants. And for at least two decades the MBA, and the large banks, have wanted to reduce the market power of Fannie and Freddie. The new C-W bill will do that by keeping Fannie and Freddie in conservatorship, with FHFA and Treasury running them in a manner that supposedly will give “fully private” de novo companies time and an incentive to raise capital and enter the conventional single-family credit guaranty business. Only then will Fannie and Freddie be released, with new charters, and allowed to try to raise their own capital after their competitors already have raised theirs.

      I am very interested to see how C-W (and/or the MBA) think this can work. For that, though, it looks like I’ll need to wait until next year. Which I suppose is just as well. All of us can use–and deserve–a year-end break.

      Liked by 2 people

      1. tim

        so, CW/MBA would have treasury forgo $100B in warrant value that it would otherwise create through a conventional GSE recapitalization, and have treasury maintain its >$200B line of credit to support GSE outstanding guarantees?

        do they think that mnuchin is so stupid that he would want treasury to lose twice?

        happy holidays all


        Liked by 2 people

        1. Even before I see the details of the upcoming Corker-Warner bill, my view on the likelihood of legislation to reform Fannie and Fannie definitely has changed, due to Hensarling’s about-face on the issues of a government guaranty for conventional mortgages and the presence of affordable housing provisions in any reform legislation. At the moment he still says he’ll accept those only if the legislation “kills Fannie and Freddie,” but I suspect he’ll change on that, too, if the proposed legislation severely weakens the companies to the point where they won’t pose any threat to banks’ ability to dictate how residential mortgages are underwritten or priced.

          I’m pretty cynical about Washington DC politics, but I still am scratching my head over Hensarling’s transformation. Ideology is supposed to be immutable. Having Jeb Hensarling go from saying “no government involvement in housing whatsoever” to “well, maybe it’s okay if it helps get rid of Fannie and Freddie” seems akin to having Grover Norquist wake up one day and say, “well, maybe taxes are okay if they’re for a good cause.” If both the House and Senate embrace a government guaranty on conventional mortgages, the odds of legislation have to go up.

          BUT, that still doesn’t make legislation likely. We’re dealing with a $10 trillion residential mortgage market that has just been dealt the one-two punch of having the value of the mortgage interest and property tax deductions reduced by the fact that, with the greatly increased standard deductions in the tax bill, many fewer homebuyers will itemize. In the real world, handing Fannie and Freddie’s business over to the banks will raise the cost and reduce the availability of mortgages, putting yet further pressure on the housing market. Will Congress really want to make that a priority? I think not, but I’ll want to see the actual C-W bill before making that statement categorically.

          Liked by 2 people

  10. Joe Light with a piece giving more details about Corker-Warner II:

    Joe Light was actually balanced enough to include a competing viewpoint from Andrew Davidson at the end. I believe it echoes what Tim has been saying: Fannie and Freddie’s main business is counter-cyclical, which is a very good thing in bad times. Competitors – and CRTs in place of up-front equity – are pro-cyclical, exacerbating the effects of any downturn.

    Liked by 3 people

    1. Bob–

      I plowed my way through this report by CBO. It’s heavy on assumptions and theory, but I don’t have a lot of disagreement with its basic conclusions. If I could summarize them, it’s that Fannie and Freddie’s credit risk transfer (CRT) securities, CAS and STACRs, aren’t economic for the companies to issue in normal credit environments–their interest costs exceed the credit losses transferred, for reasons I’ve discussed in previous blog posts–and while they would be economic in bad credit environments IF investors would buy them at anything close to current pricing spreads (or indeed at all), it’s uncertain (I would say highly unlikely) whether that would be the case.

      I would go back to the points I made about CRTs in my post titled “Risk Transfer and Reform.” Post-reform, a going-concern credit guarantor, and its regulator, are going to have to determine when, and at what “equity equivalency,” a guarantor can substitute contingent capital in the form of CRTs for real equity capital invested upfront. Hoping you can issue CRTs on the threshold of a downturn and then discovering you can’t would lead to disaster. For that reason, making CRT issuance mandatory in legislation, instead of leaving it to the guarantors and their regulator to do their own economic analysis to determine when and how to use them, would be a tremendous mistake.

      Liked by 2 people

  11. Don’t want to over read/interpret the facts, but the Doug Jones Alabama win–down the road–could help the “good guys” if the Senate ever moves against the GSEs.


    1. Q–don’t want to clutter TIm’s site with our exchange. Please post a comment on my blog and I, gladly, will answer you.


    2. I’ll take a shot at this. In politics the “good” eventually turn bad,and the “bad “ are suddenly perceived as “good,”then the cycle repetes. Dispite this inconvenience, we manage to thrive,and prosper as a nation. Fairwell


  12. Tim

    Would you be willing to create a “Friends of Fannie” SuperPac? I recall Stephen Colbert doing a segment on this some years ago to show how ridiculously easy and low cost it was to do. I am sure it would get attention and donations and hopefully help create a needed voice inside the Beltway! Hope you would at least consider the idea or suggest someone that might.

    Many thanks again for all you do.

    Liked by 1 person

    1. This table—which compares the amounts, interest rates and repayment dates of different types of government assistance given to Fannie, Freddie, Goldman, Morgan Stanley and Citigroup during and after the financial crisis—seems accurate, although it needs some interpretation. The dollar amounts shown for Goldman, Morgan Stanley and Citi are the cumulative short-term assistance extended to these companies by the Federal Reserve under one of its liquidity programs (Section 13(3)); the numbers are so large because each individual extension of credit made under that program gets counted separately (i.e., a weekly loan of $10 billion, made for ten weeks, is reported as $100 billion). And both the March 2008 “beginning of lending or ‘assistance’” date and the February 2010 ending date are the dates the Fed’s Section 13(3) was used to help a large number of commercial and investment banks weather the crisis, not just the three named in the table. Finally, the interest rates seem accurate, but they just apply to the Section 13(3) loans; Citi also received a (repayable) $20 billion TARP bailout at a much higher 8 percent dividend rate.

      Yet the overall message conveyed by the table is accurate, and even understated. During the financial crisis numerous commercial or investment banks would have failed without the low-cost, repayable loans given to them by the Fed, or TARP monies granted by Treasury. The Fed’s loans came with very low short-term interest rates, and both the Fed’s and the Treasury’s assistance was repayable, and not accompanied by any punitive conditions, such as warrants for the recipients’ common stock. In contrast, Fannie and Freddie’s senior preferred stock was not needed by the companies to weather the crisis—they remained profitable throughout it on an operating basis—was forced upon them by Treasury and FHFA, carried an after-tax dividend of 10 percent, was not repayable, and included a grant to Treasury of warrants for 79.9 percent of the companies’ common stock at a negligible strike price.

      And, yes, this disparate and unfair treatment IS an outrage. But Treasury and the Fed support the banks they regulate, and historically have opposed Fannie and Freddie. We’re not going to win the public opinion battle because the financial press repeats what the Financial Establishment says (which is a made-up story about Fannie and Freddie causing the financial crisis), and we’re also not going to get Congress on our side because the Financial Establishment makes large campaign contributions and homebuyers as a group do not. Our only real remedy is the courts, where the facts—which are not in dispute—should matter. But so far we haven’t been able to obtain a favorable ruling on the law to even GET to the facts. Hopefully that will change, however.

      Liked by 3 people

  13. If Mnuchin isn’t happy with the direction Congress is going in on mortgage reform he will attempt to get them to change to something more to his liking. But if Congress does pass legislation (which in spite of this week’s developments I’m still skeptical it will do next year) it will become the law, and Mnuchin and everyone will have to abide by it.


  14. Looks like some in Congress are trying to extend “Jumpstart” until 1/1/19 and also include a clause to put pressure on Mel Watt to pay the GSE dividend to Treasury by not allowing for contributions to the Housing Trust Fund while PFD stock dividends are not fully paid!!


    1. There is a huge amount of money at stake for the banks in wresting control of the conventional secondary market from Fannie and Freddie, and it certainly seems as if they’ve decided to make an all-out push to try to get that done before the mid-term elections–with this, the Corker-Warner bill being prepared in the Senate, and Henarling’s announced willingness to go along with what he admits is the “bad idea” of an explicit government guaranty in order to get rid of Fannie and Freddie (which it seems the new C-W doesn’t really do).

      Apparently the section Zimmer has included with his tweet–to extend the expiration of Corker’s “Jumpstart GSE” legislation from January 1, 2018 to January 1, 2019– is being proposed for inclusion in the spending bill now being drafted in the House. It still has to be accepted in that bill (which is going to be controversial enough even without this) and also by the Senate, so again, we’ll have to wait to see what actually happens here. At a minimum, though, the notion of a quiet year-end for mortgage reform has definitely gone out the window.

      Liked by 3 people

      1. Mr Howard

        All present reform proposals overlook the most fundamental question of all: How to make a MBS security as safe as treasury debt during stress time without a government garantee.With that question resolved everything else falls neatly in place or perhaps I missed it somewhere


  15. Hi Tim,

    From Light’s article it seems like Cork-Warner II wants to use Ginnie as the “utility” to guaranty & get paid G fees, why is the beltway enamored with Ginnie? Who stands to benefit from Ginnie increasing their revenues 100 fold? Ginnie has no stakeholders other than government, but seems like there is a group in the beltway that are trying to lift Ginnie big time.


    1. I think the primary attraction of using Ginnie Mae to provide an explicit government guaranty on conventional mortgages is that it already exists (unlike the cumbersome and bureaucratic Federal Mortgage Insurance Corporation in the original Corker-Warner legislation) and it is known to work well in its role of securitizing FHA and VA loans that already have government guarantees. The idea is to split the conventional credit guaranty function and the securitization function, and have Ginnie perform the latter.

      Ed DeMarco (former acting head of FHFA) and Michael Bright (former staffer to Senator Corker) incorporated this idea in the September 2016 reform proposal they did for the Milken Institute, “Toward a New Secondary Mortgage Market.” Since that time Bright has joined Ginnie Mae as its chief operating officer—and is rumored to be its next president—so he now has an additional reason to pursue the concept.

      Ginnie, by the way, would not “increase its revenues 100 fold” in the Milken Institute plan. The large majority of the guaranty fees paid by lenders still would go to the (private) conventional credit guarantors that provide the primary guaranty—and have to capitalize for it. As it does now, Ginnie would get a much smaller fee for “wrapping” the private guaranty with one from the government, and providing the operational and administrative activities for their securitization function.


      1. Thanks Tim!

        What are your thoughts regarding such a structure? Any notable pros and cons? Just curious to hear your opinion given your expertise…


        1. I would have to be convinced that there were benefits to separating the credit guarantor and issuer functions, as Ginnie Mae does. Today, Fannie and Freddie have direct responsibility for approving and monitoring the seller-servicers that sell to or swap loans for MBS with the companies, and Fannie and Freddie also are responsible for loss mitigation on non-performing loans in their MBS. In the Ginnie model, Ginnie, not the guarantor (FHA or VA,) approves the issuers of its MBS, and I believe the issuers (not Ginnie) do the loss mitigation.

          I do not know how the Milken plan proposes to allocate or divide lender approval and monitoring responsibilities between and among Ginnie and the multitude of private credit guarantors they envision having, but this is something you have to get right in order to control risk in the system. And I also don’t know how Milken allocates loss mitigation responsibilities (which, when done by the credit guarantor, allows it to price based on how it anticipates handling non-performing loans).

          In all of these proposals for replacing the current conventional credit guaranty system, “the devil is in the details.” And until I see the details of a proposed new system, I really can’t critique it.


          1. Thanks Tim! That helps paint some light. If any other thoughts come to mind, let us know! Truly value your contributions here.


      2. Someone asked, “Who stands to benefit…”

        When I was at Deloitte, prior to moving to Freddie Mac, Deloitte had (and likely still does) the Ginnie Mae “staff aug” contract.

        Ginnie Mae likes to tout that they guaranty the same amount in mortgages as Fannie or Freddie with a fraction of the staff, but that is not true, at all.

        The “staff aug” contracts basically have entire teams of contractors doing the work for one government employed manager. Its an end-around the hiring freezes and budget restrictions.

        Liked by 2 people

      3. “Under the Corker Warner Plan preferred shareholders of Fannie and Freddie could be made whole or close to it, but common shareholders may not fare as well,” said people familiar with the matter. Tim, do you have a view on the impact of the Plan on stakeholders? On the mortgage market?


        1. No. Until they publish at least a summary of the new C-W bill, there is no way to tell how their proposed new system would work–or even whether it would work–or to handicap its prospects for becoming law. And it’s also possible that if the summary leaves out critical details it still may not be possible to evaluate it comprehensively.

          Liked by 1 person

  16. Corker and Warner flipped sides…

    Via Lorraine at Politico:

    It’s happening: Senate #GSE reform proposal preserves Fannie and Freddie (in smaller form) and builds on existing system. #housing Only on @POLITICOPro

    Liked by 1 person

    1. Today we seem to have been transported into “opposite land,” with reports of Corker and Warner now wanting to preserve Fannie and Freddie and Hensarling saying he supports a government guaranty on conventional mortgages. We’ll need to see the details on both of these shifts–if indeed they are being reported accurately–before speculating on what they might mean for the prospects for legislation to end the companies’ conservatorships (for better or worse).

      Liked by 2 people

        1. Light’s piece, along with Lorraine Woellert’s Politico article (which someone sent to me, but I’m not able to link) does give a decent indication of what Corker and Warner’s (and Hensarling’s) intent is. They are responding to the criticism of the earlier Corker-Warner and Johnson-Crapo proposals–that transition from Fannie and Freddie’s proven system to their untested ones was too risky– by saying, essentially, “Okay, we’ll keep Fannie and Freddie alive (and under FHFA and Treasury’s control in conservatorship) for long enough to change their operations and create competitors to them, so that when we’re done they’ll no longer pose any threat to what the banks want to do in the $10 trillion residential mortgage market.” That’s clever, but they still have to satisfy the affordable housing groups, who won’t like the fact that a crippled conventional secondary mortgage market (which is the banks’ goal) will greatly raise the cost and restrict the availability of mortgages for this segment of borrowers.

          As I noted earlier, we’ll need to see the details of the draft Senate bill, but we now have a decent idea of where they’re headed. And given Hensarling’s astounding about-face on government guarantees, I’d have to say that the odds of something actually getting through Congress seem better today than they did yesterday.

          Liked by 1 person

      1. It seams that every hearing and committe in Washington discussing housing only includes the destroy Fannie alumni. WHERE ARE THE FANNIE SUPPORTERS? What does it take to get a seat at the table?


        1. You can count today’s “Fannie fans”—willing to stand up and testify to that fact–on one hand and could have a finger or two left over.

          Think about doing that exercise and please share the names/institutions you believe fit that description?

          As I reminded Tim, offline, most people in DC buy the FM Watch lie about the GSEs being responsible for the 2008 financial debacle and displaying no redeeming value, despite decades of doing just that before Conservatorship and the nine years since.

          Little understood is that except when the banks between, 2006-and 2008, went around the GSE systems—spewing out $2.7 TRILLION dollars of their flawed private label securities (PLS)—and attempted to use own paid brokers, back offices, brokers, extorted inflated ratings and applied insufficient guarantees—Fannie and Freddie (especially Fannie) have forced the banks to employ GSE underwriting standards, or—if they refused–sell their originations as PLS or hold that garbage in their portfolios.

          All part of the reason big banks have been unstinting GSE opponents. (Also, read all about it in Tim’s book, “The Mortgage Wars,” a good holiday present for those who haven’t yet.)

          Liked by 1 person

          1. My question was a rhetorical one. It is the only issue that Republicans and Democrats agree on. The few senators that have verbally challenged the net worth sweep in the past are silent now.
            I have been a shareholder since 2013. I have read pretty much every article written on the issue and I find myself totally disallusioned with the courts and the political system. How many more years will it take are judge Sweeney to actually hear this case?


    1. Hensarling’s first principle remains at odds with the direction Senate Banking Committee members appear to be taking, which includes embracing an explicit government guarantee. Let’s see if the SBC actually does produce a draft bill before year end.

      [5:45 update]: I just was sent a headline from the publication “Inside the GSEs” that says, “HFSC Chairman Hensarling Makes It Official–He’s Open to the Idea of the U.S. Backing Mortgages, But Still Wants to Kill Fannie and Freddie.”

      I am at a loss as to what “principle” can square those two positions, other than a desire to give the banks whatever they ask for.

      Liked by 2 people

      1. Very bad news for GSEs and their allies, if Hensarling (rumored to be lusting for David Stevens seven figure plus annual salary job) is willing to give Uncle Sam a US mortgage role, which is what the MBA wants for it members FHA-VA businesses.

        I guess this sudden conversion is part of Hensarling’s first audition to head the MBA?

        Given that most House Committee chairmen can drive legislation like a hot knife through butter, old Jed can get a bill out pretty quickly. Once again, it will rest with Senate D’s–using tougher Senate procedure–to slow any legislative train.

        IMO, Huge GOP political risk to kill the GSEs in a midterm election year, without a viable alternative, except “Let’s give everything to the nation’s big banks and back them with more federal subsidies,” as we do away with the CFPB and lighten the rules governing mortgage brokers.

        Of course, nobody seriously objected to GOP-endorsed travel bans, vilification of Mexico and Mexicans, and other Hispanics, and all looked Right when their tax bill came up, so we shouldn’t be surprised they’d garrote housing finance, too.

        But, the question looms large, if you do away with the CFPB and then Fannie and Freddie, what can slow down or stop bank driven systemic bedlam and chaos??

        Left to their own devices, Jed, history showed exactly what unfettered bank mortgage lending will produce and the result was catastrophic for consumers and three times the taxpayer bailout for the nation’s banks than was given the GSEs.

        Liked by 1 person

        1. this is a big mess. i could use a modifying expletive, but decline out of respect to tim.

          the GSEs are about to go into negative capital due to tax reform and there has been no discussion by treasury/fhfa as to response.

          senate banking committee is driven by two guys (corker(lame duck)/warner) who are preoccupied with other matters that may reduce the committee’s “bandwidth”. plus anything that committee reports out will need 60 senate votes, which seems unlikely.

          house financial services committee led by a lame duck who seems to accept expanding federal guaranty exposure if it also kills GSEs. isn’t that (at least) mildly inconsistent?

          you would have to think that mnuchin, after busting it on tax reform, will look up soon and wonder what’s going on in GSE reform-land?

          and then you have the courts…dont get me started.

          so against perhaps sane judgment, i look forward to rop/bhatti constitutional cases and the expectation that congress, currently riven with partisan animus and sexual accusation, will do nothing because that is exactly what congress is capable of, in this and perhaps all regards.


          Liked by 1 person

        2. This has been a very expensive polical science lesson for me. I used to believe that most politicians were good honest working people trying do what’s right for their constituents. I used to believe that the courts were just and fair. I truly and firmly believed these things.
          No longer. Most of the shareholders that write in on these blogs share their frustration, anger and disbelief at the injustice of the governments actions. For years I tried to make sense of this saga. It is now clear to me, once you stop thinking in terms of right and wrong and just follow the money, it all makes perfect sense.
          Hensarling, DeMarco and all the rest of the “ kill Fannie” fan club do not care what havoc and destruction they create in the housing market as long as they make a fortune along with their banking Pals. Why should they care? No really. When the housing market is in a shambles down the road, they will just create more lies. After all, anyone who disagrees with you is just pedaling fake news right?
          The courts have rejected the many cases brought before it even though there are thousands of pages of documents in which the key players in their own writing contradict what they told the American public and the courts. I find this to be an even greater outrage than the corrupt politicians.
          Sorry if I sound like I’m ranting but my head just about exploded when I read Harnslings comments today. WHERE IS NPR? WHERE IS 60 MINUTES? WHY ISN’T TIM HOWARD IN WASHINGTON IN THESE DISCUSSIONS?

          Liked by 3 people

  17. Today’s House of Reps Hearing on CRT was a good one, key highlights:
    – There was a good fight between CRT insurers vs. MI’s as to who had a better product for GSEs
    – Dr. Susan M. Wachter was the only one who called out both the pros/cons of CRT. She summed it up that they should NOT be mandatory but should be based on actual economics/benefits to the GSEs (whereas all the greedy insurance panelists wanted all the CRT transactions they could get their hands on).

    Liked by 1 person

    1. I didn’t see the House CRT hearing, but if Dr. Wachter did say that CRTs should not be mandatory but done based on their economics, that’s terrific. She’s a neutral and credible expert on housing finance. Having her, and others with similar stature, say this is helpful. There really is no defensible argument for making CRTs mandatory– it removes the economic element from them, and transforms them from potential tools to reduce credit risk to vehicles that very likely would increase it.

      Liked by 1 person

  18. Hi Tim,

    Great post as usual. Just had a couple of questions to some of your answers in the comment section. You said:

    “I also think the Moelis plan can be improved– mostly in its approach to capital, but elsewhere as well.”

    Besides the capital approach, where else could it be improved upon?

    You also said:

    “Personally, I don’t think Treasury will couple the DTA write down (and likely draw, at least for Fannie) with an administrative reform package–it isn’t far enough along in the process to be able to roll one out yet”

    By process, do you mean the tax reform process or housing finance reform process?



    1. On the Moelis plan, two other areas in which I think it could be improved is in the way it envisions using credit risk-transfer (CRT) securities or mechanisms, and its proposal that the remaining dollar amount of support from the Preferred Stock Purchase Agreements (PSPAs) be turned into catastrophic support by the government in exchange for a fee.

      On the CRTs, Moelis discusses reducing Fannie and Freddie’s required capital percentages based on the amounts of CRTs they have or use. I think that needs further thought, because it has the potential to be destabilizing. It will be easy for Fannie and Freddie to run their CRT balances up—and get the capital credit for them—in good markets, but what almost certainly will happen in the late stages of a cycle is that the companies won’t be able to issue new CAS and STACR securities on terms that make economic sense, and on top that, when the economy slows and interest rates start falling, their existing CRTs will pay off at accelerated rates. When that happens, in order to remain adequately capitalized Fannie and Freddie will be forced to issue new equity to replace their liquidating CRTs (which previously had counted as capital) at precisely the wrong time.

      I also think that keeping the PSPAs alive in any form post-conservatorship is neither necessary nor desirable. I’ve said elsewhere that if FHFA follows HERA and updates Fannie and Freddie’s capital standards to withstand a defined level of economic stress—and Treasury publicly endorses those standards as meeting its safety and soundness objectives—the companies’ MBS would trade at yield spreads over Treasuries comparable to what they were pre-conservatorship. And if for some reason they didn’t, I believe that with a risk-based standard property and casualty companies would be both able and willing to provide private catastrophic reinsurance for Fannie and Freddie’s credit guarantees at a fairly small annual fee.

      And, yes, when I said Treasury wasn’t “far enough along in the process” I meant the mortgage reform process.


  19. Dear Mr. Howard:

    I so appreciate your writings on Fannie Mae, Freddie Mac, their conservatorships, and the ongoing mortgage finance reform efforts by government officials and industry operatives. Each time I come away from one of your articles, I have a better understanding of the competing forces involved in the future outcome of these two shareholder-owned enterprises.

    As you and the rest of us like-minded folks know by now, the conservatorships of Fannie Mae and Freddie Mac were a convenient fraud perpetrated by the Washington-Wall Street elite using the 2008 financial crisis as the perfect curtain for their Wizard-of-Oz illusion. Neither company was undercapitalized at the time their boards were coerced into agreeing to the conservatorships. And, when the companies were finally placed into conservatorship in September 2008, not one single criterion required under the Housing and Economic Recovery Act of 2008 (“HERA”) that authorized the appointment of a conservator, was met – NOT ONE!

    Moreover, the companies were forced by government officials to record unsupportable loan loss reserves (which, as expected, never materialized) that required Fannie Mae and Freddie Mac to borrow large and contractually unrepayable sums of money from the U.S. Treasury. This ultimately required them to borrow additional and unnecessary funds just to pay the egregious 10%/annum interest payments required under the original Senior Preferred Stock Purchase Agreements (“SPSPA”). Incredibly, they had to pay interest on money borrowed to pay interest – until the third amendment to the SPSPA changed all that. Now they hand over nearly all their earnings to the government – UNABATED.

    According to everything I’ve read, the companies “borrowed” approximately $187.5 billion but have returned in excess of approximately $265 billion – a 77.5 billion-dollar undeserved windfall for the government, over and above the money received through the U.S. Treasury’s interest payment shenanigans.

    Now, almost ten years later, we have the Moelis plan. I must confess that I haven’t read the details of the plan, but I am aware from reading the opening bullet points and executive summary that it not only permits the U.S. Treasury to keep ALL its ill-gotten gains obtained through these illegal quarterly earnings transfers, but it goes on to unbelievably encourage (NOT DISCOURAGE) the U.S. Treasury from exercising its warrants in order to seize another $75 to $100 billion dollars of shareholder money. If the Moelis plan is operationalized and the government is allowed to walk away with and/or squander (and I’ll be kind because I know it’s a lot more) approximately $177.5 billion (excess repayments + warrants) of shareholder equity, without regard to the common and preferred shareholders (the TRUE owners of the two companies), then it’s going to be yet ANOTHER FIFTH AMENDMENT TAKING – and make no mistake. It. Will. Be. Challenged.

    But, setting aside the unconstitutional and grovel-like aspects of the Moelis plan for a moment (and I say “grovel-like” because this plan is the perfect and bigger-than-life example of the schoolboy having to hand over his lunch money to the bully, just so the bully will relinquish the schoolboy’s things) their blueprint calls for the two companies to build a combined core capital balance of approximately $155 billion, which will help to qualify the firms for release from conservatorship under HERA. For arguments sake, I’ll assume that figure is appropriate. But I see a better way of accomplishing this goal without infringing any further upon the constitutional rights of the shareholders – including (if not particularly) the current shareholders that purchased and, thus, assumed the rights, risks, and rewards of the common and preferred shares of Fannie Mae and Freddie Mac from willing and able sellers of the companies’ shares.

    First, forensic accountants need to unwind the history of the borrowings and payments made between the companies and the U.S. Treasury since September 2008, in order to eliminate the payments of interest that included borrowings based on past borrowings of interest (since in-kind payments were allowed) and not principal borrowings (even though those are based on fraudulent loan loss reserves). I suspect this will produce approximately $30 billion in overpayments to be returned to the companies. Second, FHFA needs to declare the U.S. Treasury repaid at $157.5 billion (or less, if the Honorable Director Watt is truly honorable) and, thus, the senior preferred stock fully redeemed. Third, the $77.5 billion of obvious overpayments is to be returned to the companies. And fourth, the warrants are to be extinguished, since they are no longer needed for repayment of the debt owed to the U.S. Treasury and, more importantly, the American taxpayer.

    If my math is correct, that leaves approximately $47.5 billion needed to complete the “capital build.” However, the companies need to include an additional $33.3 billion in the capital build figure to retire the preferred shares at full redemption value. That brings our remaining total needed for full recapitalization to $80.8 billion. So, how do we fill our 80.8 billion-dollar hole? Through retained earnings and the issuance of new preferred shares.

    According to the Moelis posse, the companies will earn approximately $15 billion per year. By the end of fiscal 2020, they will have retained approximately $60 billion. Also, Moelis & Friends estimate that the two firms can raise $25 billion through a public offering of non-cumulative preferred stock. So, where does that leave us? With a cool $4.2 billion of extra capital AND no need to issue any additional common shares beyond the original, undiluted amount displayed on their balance sheets.

    Surprise, surprise, surprise. The preferred shareholders rightly receive full redemption value for their stock, and the common shareholders won’t have to share the future earnings of their two companies with any new owners. It’s rather amazing what can be accomplished when one points out that the king is not wearing any clothes.

    A few additional thoughts. No plan will succeed to garner the support of private equity, like me, if the government continues to behave in such a flagrantly, mean-spirited manner as it has over the last ten years towards the loyal and steadfast shareholders of America’s mortgage finance giants, Fannie Mae and Freddie Mac. Moreover, the government is NOT in the business of business because of its overwhelming advantage (e.g., endless resources, perpetual existence, etc.) in the marketplace, and they have NO business trying to make a profit for the taxpayers. They need only recoup the costs of their public-interest efforts on behalf of the American taxpayers (of which I am one) – PERIOD!

    Thank you for allowing me the opportunity to contribute to the discussion on The Economics of Reform, and thank you for everything you’re doing to save those companies.

    Best regards,

    Bryndon Fisher

    Liked by 6 people

    1. Bryndon—

      Thank you for sharing your thoughts and analysis on these issues. You’ve covered a lot of ground with them, so I’ll try to be as brief as I can while responding to your main points.

      First of all, I share your perspective (and disgust) about what has been done to Fannie and Freddie since mid-2008; the facts are now available to anyone who wishes to acknowledge them (although far too few fall into that category). The Treasury forcefully—and in my view illegally, though that has yet to be proven—seized two private companies for its own policy purposes and to its sole financial benefit, and in steps has expropriated all of their assets. That’s an outrage.

      The question is: what, if anything, can be done to right these wrongs?

      Treasury’s actions damaged not just common and preferred shareholders of Fannie and Freddie, but also the low- moderate- and middle-income homebuyers the companies were chartered to serve. I am a shareholder of Fannie myself, but I personally place a higher priority on the broader goal of finding a way to get it and Freddie out of conservatorship and set them up again as private companies that work as efficiently as possible to provide affordable financing to a wide range of borrowers than simply to get the most value for their common and preferred shares. The two goals generally are compatible, but in some cases they may not be. One area in which they probably aren’t is in the risks one might be willing to take to improve the chances of achieving an uncertain result.

      Which brings me to the Moelis plan. As I discuss in the current post, ending the conservatorships of Fannie and Freddie (and if we don’t at some point get a victory in one of the legal cases, they could be left there indefinitely) can be done either through legislation or executive action by the administration. I think the bank lobby in Congress is strong enough that anything that is done there will be good for banks and bad for homebuyers. So that leaves me with administrative reform as the only option. Why would Treasury—which has opposed Fannie and Freddie for decades (and through many administrations of both parties)—and President Trump support letting the companies out of conservatorship? One reason, and one reason only: they could make upwards of $100 billion by converting and selling the warrants.

      I don’t like the warrants either. They were given by Treasury to itself, after Treasury bullied the directors of Fannie and Freddie into accepting a conservatorship which Treasury and FHFA immediately turned into an effective nationalization. But what are the chances of successfully challenging them? Only the Washington Federal lawsuit now does so, and it’s stuck in a holding pattern behind Fairholme et al in the Federal Court of Claims, and also is being pursued by a law firm that typically settles cases rather than litigates them to the end. I suspect that the statute of limitations precludes a new challenge to the warrants, but even if there was some way around that we haven’t exactly done well with the net worth sweep cases, which should be slam-dunks. There, plaintiffs are right on the law and right on the facts, but the courts keep stretching for reasons to interpret the law in the government’s favor.

      So my view is that if we have to take risks—and I think we clearly do—it’s better to take them in an area where the win will be for the mortgage finance system itself, rather than just existing shareholders. I recognize that all (and more likely most) readers of this blog don’t share that priority, which is why I want to be explicit about it. I also think the Moelis plan can be improved—mostly in its approach to capital, but elsewhere as well. At this point, though, I don’t see any realistic alternative to it as a means of restoring a functioning conventional credit guaranty capability to the secondary market. I’m open to suggestions, but until I see an alternative to the Moelis plan that I think has a better chance of success in the world as it exists today, that’s the horse I’ll ride.

      Liked by 4 people

      1. Tim, few questions as a follow up to Bryndon’s

        (a) Can the warrants issue be included in Supreme Court case once they decide to hear?

        (b) The DTA loss will hit Jan 1, 2018 (20% tax rate). Is that right? Would just the news of it not roil the markets? Is that not a chance for administrative action when congress takes a break this month? Mnuchin keeps saying that he knows this business better than any lawmakers.

        (c) The piece you just wrote: can it be circulated to Senators and Congressman? It is important for them to know how banks are influencing the housing for their own gain at the expense of homeowners with false propaganda. I think you should contact Gretchen Morgenson for an interview or for her to write a piece based on your findings. Thank you for what you are doing as indefinite conservatorship is not a solution and neither is anything in Corker-Warner bill.

        (d) I wonder if your wisdom reaches to the right people than just the retail investors? It is important that this hard work is known well.

        Liked by 1 person

        1. Quick responses to your questions:

          (a) With my usual “not-a-lawyer” caveat, I believe the warrants cannot and will not be addressed if the Supreme Court agrees to hear the Perry Capital appeal, since the warrants were not challenged in the lower court case.

          (b) We still don’t have a reconciled and signed tax bill yet. I believe an earlier version of the Senate bill delayed the effective date of the corporate tax cut until January 1, 2019, and if that remains in the bill the Senate just passed (I haven’t seen it yet) and survives reconciliation with the House, Fannie and Freddie would have a year to work their DTAs lower and to build capital through retained earnings, if FHFA lets them. Otherwise, the companies would have to write down their DTAs on the day the final bill is signed by the president. Personally, I don’t think Treasury will couple the DTA write down (and likely draw, at least for Fannie) with an administrative reform package–it isn’t far enough along in the process to be able to roll one out yet. Hopefully, though, Treasury will help calm the markets by reminding us that this draw is a byproduct of the net worth sweep (Treasury effectively will be repaying some of the capital it’s swept from the companies since 2013), rather than join the chorus of Fannie and Freddie’s critics yelling, “Bailout!” But we’ll see.

          (c) People should certainly feel free to circulate this post to their Senators and Congressmen/women. Re Gretchen, as you may know she’s moved from the New York Times to the Wall Street Journal. I’m afraid that anything significant she writes about Fannie and Freddie would have to be approved by her editors, who haven’t allowed a positive article about the companies for as far back as I can remember.

          (d) I’ve got a pretty good roster of readers, so I’m confident my posts are seen and read by a lot of opinion leaders. What they do with/about them, though, is up to them.

          Liked by 4 people

      2. Tim, as always, many thanks for your blog. We all appreciate it very much!

        This Moelis plan: everyone talks about it as if it were some sort of gospel, brought to us from angels above. It is simply one plan. One plan created by one investor holding one type of the outstanding securities. It gets us out of C-ship and recaps the companies, yes, but upon first reading it I looked critically at it for two main reasons:

        1. It assumes warrants are fully exercised and
        2. it assumes massive capital being raised fairly quickly resulting in large dilution to existing shareholders.

        I am completely against the warrants because they were issued not as a security/collateral/guarantee for the “bailout” money. They were issued solely as a way to kill the companies and drive the share price down to oblivion. Treasury is paid back and more – absolutely no reason for them to receive them. Having said that, I could live with them being partially exercised so UST has an argument to allow a recap. Amend the amount and strike price so capital flows to FnF where it is needed and UST receives a “golden” or better put, “bloody” hand shake of say 30bn for their efforts. Jeez, thats good business for them anyway.

        Agreeing that and relisting FnF to NYSE and off the OTC would immediately have an upward effect on share price enabling capital increases at much higher valuations resulting in much less dilution.

        And, lastly, FnF should be given several years to raise this capital. The only reason they dont have any is because UST has stolen it all for the past ten years. UST can keep the excess they stole and use it as an explicit back-stop for FnF in return for giving them five years to retain capital. Heck, they can still call it C-ship for all I care but the market will know:

        that UST can no longer sweep 100% of earnings
        that 79.999% of their capital (and any future capital issued) can not be grabbed by the UST.
        that these companies are not disappearing, they are thriving and developing
        that the share price is fairly traded without manipulation on a real exchange

        All those together get the companies back in the market, all shareholders are made whole, future share issues can be carried out to properly capitalize them.

        So Moelis is our only alternative? Fine, but lets change it.


        1. I do not disagree with your criticisms of the Moelis plan. It allows Treasury to profit hugely and improperly from two actions that were unfair (and I believe illegal) and are indefensible: the granting to itself of warrants for 79.9 percent of Fannie and Freddie’s common stock, and the payment of some $70 billion in dividends on $187 billion in senior preferred stock the companies did not need and did not ask for, but were forced to take by FHFA’s non-cash accounting entries, then were not allowed to repay by Treasury when their effects reversed. In the Moelis plan, common shareholders of the companies bear the full cost of these outrages, while holders of preferred stock could be made whole.

          I certainly understand that. In my earlier writings I’d argued for either cancellation of the warrants or a significantly higher strike price for them, and also for an unwinding of the (unjustified) senior preferred stock draws in a way that greatly reduced the quarterly dividend payments credited to them.

          But then I get to the question: how would these actually be made to happen? As I note in this post, you really have only two ways to get Fannie and Freddie out of conservatorship: legislation by Congress, or executive action by the administration. Since my primary goal for reform is to fix the system in a way that is best for the economy and homebuyers, I personally would not recommend going down the legislative road in the hopes that we could convince Congress to abandon the banks and get behind homebuyers, because I think the odds of success on that are too low. It’s possible that existing common shareholders of Fannie and Freddie could get a better deal with legislative reform that makes the companies vassals of the banks, but that is not something I would support.

          I do support the Moelis plan—with all its faults and its grossly unfair treatment of common shareholders (of whom I am one, although I also own Fannie preferred)—because for now it’s the only plan on the table that has a chance of leading to the macro outcome I favor. The challenge is that Moelis has to have Treasury’s support to succeed, and I can’t see Treasury leaving money on the table if it elects to go that route. And the Moelis plan does have a potential silver lining. With the warrants, Treasury has an incentive to maximize the long-term value of the companies, which also benefits existing common holders. This incentive should, and I hope will, lead Treasury to support measures like ensuring that the companies are not overcapitalized in a way that reduces their efficiency (and thus their business volumes), and also to manage warrant conversion—including perhaps through a higher strike price—in a way that makes all holders’ stock price as high as possible.

          I’ve seen or read a number of proposals for recapitalizing Fannie and Freddie that are better than Moelis for common shareholders, and the companies. But that’s not enough. To succeed, a particular proposal needs advocates, either in Congress or the administration, who are in a position to get it implemented. The latter is a very tough row to hoe, and without it a good proposal will remain no more than that.

          Liked by 2 people

          1. Thanks Tim,

            Do you have any indication as to how the Moelis plan is progressing? It’s been a while since it has been released. Is it being put in front of the right people (most importantly UST) and being evaluated against other reform plans or has the plan not gained any traction to date?


          2. I deliberately do not ask senior people at the investment funds who have filed lawsuits–or who are backing a specific proposal like the Moelis Plan–what they are doing to further their interests, for the simple reason that if they have something they think they should tell me about that, they will. Most often, one does better working behind the scenes than by having one’s playbook broadcast to prospective opponents. I respect the key players’ judgment and discretion, and don’t to pry secrets out of them. And I also trust their instincts and skills in knowing how best to achieve their objectives.

            Liked by 2 people

  20. You can almost hear Michael Bright (Milken plan author)–possibly becoming the new Ginnie honcho–spinning his lies about why the recent and dramatic Ginnie-driven federal indebtedness–and the additional amount he would add if Ginnie takes more of the Fannie Freddie business–is “good for the nation, the economy, and the GOP.”

    Bright is evidence David Fiderer’s “Big Lie” machine has been oiling up and will go full bore if the mortgage finance changes are made.

    Don’t underestimate sending Tim’s blog to your Senators and Members, challenging them to read it and respond to you.

    Liked by 1 person

    1. apparently, bright, acting head of GNMA, testified at a hearing recently that the GNMA guaranty differs from the GSE guaranty because unlike the GSEs, GNMA doesn’t have a commercial relationship with originating lenders.

      anyone know what he means by this? (of course the GSEs are market participants and not regulators, but they are subject to FHFA reguation…but bright cant be making his pitch based upon this, can he?)

      from IMF today: “While working at the Milken Institute last year, Michael Bright and his co-author Ed DeMarco wrote a white paper pitching the idea of Ginnie Mae being the linchpin to a new government MBS market. On Wednesday, in Congressional testimony, Bright – now the acting president of Ginnie – floated the concept once again.
      In prepared remarks before the House Housing and Insurance subcommittee, Bright noted: “If a government backstop, or wrap, of MBS were to be considered by Congress as an important part of housing-finance reform, the expertise and experience of Ginnie Mae as an administrator of just such a backstop can likely be helpful.”
      The former PennyMac executive also contrasted the operating differences between Fannie Mae/Freddie Mac and Ginnie: “Unlike the GSEs, who have a commercial relationship with the housing finance industry, the administrator of any government wrap will, in all likelihood, look a bit more like a regulatory relationship than a purely commercial one. In short, a government wrap will likely look similar to the model we use at Ginnie…”


      Liked by 1 person

      1. I don’t know what Bright means by this. I also don’t know how he envisions a Ginnie “wrap” of a Fannie or Freddie MBS (if the companies survive in his proposal) working. Will Ginnie guarantee individual security pools? If so, at what threshold would it make a payout? Would it only be if and when either Fannie or Freddie become insolvent, and can’t make good on their corporate guaranty? If that’s how it works, then you’d be using the government to back outstanding securities, but there would be no surviving credit guarantors to make new ones for Ginnie to wrap. And with no ongoing conventional credit guaranty function in the middle of a crisis, home prices undoubtedly would spiral lower, making an already bad situation worse.

        If members of the Senate Banking Committee are indeed circulating a mortgage reform proposal among themselves–as Inside Mortgage Finance reported a week or so ago–perhaps it will have enough details to enable us to evaluate it. All of the reform proposals from think tanks seem to leave the “pesky details” for someone else to figure out.

        Liked by 2 people

        1. thanks tim. for what it’s worth, IMF appears to me to be a backdoor PR program for MBA and Milken Institute. i have to believe that IMF published above quote from bright after submission to IMF by bright, with instructions to print this. i imagine the provenance of the “draft bill” circulating IMF new item, without particulars as to details, was similar.

          you have to admire his use of the word wrap, rather than guarantee. maybe GSE reform should change its guaranty into a wrap and have done with it, all in congress will feel better.



        2. Sometimes a “cigar is just a cigar” and, having worked up there for Bob Corker, Bright knows just how “unBright” (ugh!!) most of the Senators are on mortgage finance issues.

          So, don’t be astounded if in his testimony or Q&A he distorted, fudged, spun, flummoxed, or just resorted to whoppers.


    2. Politics got the GSE’s in their present condition, for better or worse, and only politics will correct this going forward to my untrained eyes


  21. Curious that if Tax Bill passes and ultimately deplenishes GSE capital, do you think that may nudge POTUS into an administrative solution? No way on earth POTUS would free GSE prior, enraging Corker and his much needed vote no doubt, but afterwards, why not? You did respond to that suggestion umpteen times but hey, times they are changing, fast. Given POTUS history combined with human nature, I would be floored to gobsmacked if the guy didn’t swipe his pen at GSE. A real estate guy, no less. Saving the American dream/safest way to wealth creation which is home ownership? Meantime, Happy Holidays Tim, readers et al.


  22. tim

    as always, fact-based and analytically persuasive.

    indeed, i think if you ask any congressperson (or mnuchin for that matter) why the taxpayer is on the hook at a “first-loss” position for 17% of the outstanding US mortgages (GNMA), i imagine you will receive a querulous look. if you further ask them why it makes sense for the taxpayer to increase its loss exposure by structuring an additional federal guaranty in connection with GSE reform, then the only answer that they could rationally provide is the one you set forth in the post…because it is good for the banks.

    if mnuchin understands all this (as i imagine he does), then one wonders how all this squares with his first principle of GSE reform, making sure the taxpayer is never again exposed to writing a treasury check.

    all best


    Liked by 2 people

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