The State of the Debate

Last week the Urban Institute hosted a three-day online “Housing Finance Reform Policy Debate,” in which I was one of the participants. The moderator, Ellen Seidman (non-resident fellow at the Urban Institute, and at one time a colleague of mine at Fannie Mae for a few years), set our topic as: “How the federal government should support housing—both homeownership and rental—for those the market will not.”

Providing adequate support for low- and moderate-income homebuyers has been one of the more difficult challenges for people seeking to replace the current system of secondary mortgage market finance based on Fannie and Freddie with a new set of institutions or some different mechanism. Accordingly, five of the nine debate participants had expertise in affordable housing, minority lending, or multifamily rental finance: Mike Calhoun of the Center for Responsible Lending, Barry Zigas of the Consumer Federation of America, Rob Randhava of The Leadership Conference on Human and Civil Rights, Lisa Rice of the National Fair Housing Alliance, and Shekar Narasimhan of Beekman Advisors. Also participating were three individuals I would label housing policy analysts—Laurie Goodman of the Urban Institute, Mark Zandi of Moodys.com, and myself—and one advocate of free-market housing policies, Ed Pinto of the American Enterprise Institute.

One of Ellen’s ground rules was that we try to keep our posts to around 200 words, and most of us were pretty good about that. By the end of the three days there really hadn’t been much “debate,” yet a good deal of valuable information was conveyed nonetheless. Also, I thought we reached something close to a consensus on each of the main issues we were asked to address: (a) there are clear roles for government in providing housing finance to underserved populations; (b) there is very little chance of reform legislation being passed in the foreseeable future, and (c) in the absence of legislation, the current game plan of Treasury, backed by what I call the Financial Establishment, of discretely hobbling Fannie and Freddie in an attempt to “crowd in” more private capital will continue, with the main doubt in people’s minds being whether these efforts will become more overt or extreme.

Those interested in reading all of the comments can find them here. In addition, the three questions Ellen posed to us (in italics), the responses I gave to each, and a brief summary of the other comments are offered below—along with a discussion of two recent attempts I made to get responses to my criticisms of credit risk transfers.

Question One: I’d like debaters to (i) define the federal government’s responsibility to support housing both in terms of the type of support and who should be supported; (ii) highlight the major flaws you see with the current system; and (iii) provide a succinct bottom line description of how you think the system (including if you wish FHA, VA, RHS and the Home Loan Banks) should be reformed to better meet the government’s responsibility as you’ve defined it.”

I responded by saying, “The federal government’s housing responsibilities should be to (a) devise and implement subsidy programs in support of underserved populations, and (b) foster the development of a housing finance system that will provide the lowest-cost mortgages to the widest range of borrower types, consistent with an agreed-upon standard of taxpayer protection.

The biggest flaws in the current system are that the centerpieces of the secondary mortgage market, Fannie and Freddie, have not yet been given updated, true risk-based capital standards, and that they remain in conservatorship without the ability to retain earnings or raise private capital. During and after the crisis these two companies had by far the lowest default rates of any source of mortgage credit. There is no policy reason to replace them with an untested alternative; they should be allowed to recapitalize to new risk-based standards, be given utility-like return limits and made subject to tighter regulation, and be released from conservatorship.

For subsidized housing programs, I propose a small (5-10 basis point) fee assessed on all new residential mortgages, not just those financed in the secondary market.”

With the exception of Ed Pinto—who believes that government efforts to support affordable housing do more harm than good—respondents generally agreed with my formulation of what the government’s responsibilities should be. Everyone also agreed that the current system was not doing a good job meeting the needs of the affordable housing community, particularly minorities and renters. Mike Calhoun best summed up the roles the government should play, noting, “Market participants that benefit from implicit federal government-backing must serve the public interest through enforceable obligations. Compliance with fair lending is required along with affirmative duties on regulators to further fair lending.”

Question Two: “For the second question, please discuss why and how you think the Senate draft does or does not align with the goals you’ve set out for access and affordability.  Please consider issues beyond dollars—both because we’re dealing with a system, not just a series of transactions, and because the Senate bill touches on these issues (whether by commission or omission).  What of housing goals, duty to serve, business judgment, fair lending, enforcement mechanisms?”

Here my response was, “My framework for government involvement in housing has two components: an effective direct subsidy program, and a mortgage credit guaranty system whose structure and operation facilitate cross-subsidies that hold down guaranty fees for affordable housing borrowers.

The Senate draft bill misses badly on both. Its proposed reform of the secondary market credit guaranty system is almost completely devoid of details, making it impossible to assess how guaranty fees would be affected under the bill. The draft is silent on credit guarantor capital requirements—the most important determinant of guaranty fees—and leaves nearly all of the difficult challenges of replacing the existing system based on Fannie and Freddie with a new multi-guarantor system to be figured out by the regulator after the bill has passed. That is extremely risky.

The Senate draft compounds this error by pretending that having an effective direct subsidy program is conditional upon secondary market reform. It is not. To the contrary, the “market access fee” proposed in the Senate bill would collect much more revenue, and provide support for many more affordable housing programs, if were levied on all newly originated mortgages, not just those financed by secondary market credit guarantors.”

Laurie Goodman and Mark Zandi had the most positive views of the Senate bill, with Goodman focusing on its proposed 10 basis point market access fund, which she said “makes the cross subsidization explicit” and “allows the subsidy to be much more clearly and effectively targeted to those who need it in ways they can use it.” Advocates for lower-income borrowers, on the other hand, criticized the facts that the new credit guarantors created by the bill would not be subject to any affordable housing mandates, and that their fees for guaranteeing such loans likely would be higher than they are currently. Lisa Rice noted, “the Senate bill eliminates important [fair housing] language” in existing legislation, and “also includes language regarding the right of newly formed entities to exercise their business judgment without threat of liability.” And Calhoun provided a useful link to a report published by the Center for Responsible Lending and the National Urban League that gives detailed arguments in support of his contention that the Senate bill “is not only a blow to affordable housing, it harms the overall housing market.”

Question Three: “For our final question, please consider what could and likely will happen over the next 3-5 years (go out to 10 if you dare), first, if there is no legislation and second, if legislation similar to the Senate draft bill is enacted.  In your responses, consider (i) what the Treasury and FHFA have the authority to do, alone or together; (ii) the likely impact of any decision and/or settlement of the shareholder litigation; and (iii) likely budgetary action by Congress relating to HUD and the FHA.”

I chose to respond to the question this way: “I don’t believe there is any way to predict what will happen if the Senate bill passes, since it’s virtually devoid of operational details. It is analogous to having a group of auto critics design a car as it’s being built on the assembly line; it’s anybody’s guess as to what it will look like when it rolls off, let alone whether it will run.

A non-legislative outcome is far more likely in any case, due to the complexity of the problem and the dysfunction in Congress. Even here, however, prediction is very difficult. It’s more a case of what’s most probable, and here is my assessment of that:

– Fannie and Freddie will remain in conservatorship until some triggering event—most likely an adverse ruling in one of the court cases challenging the net worth sweep—occurs to prod (or force) administrative action by Treasury.

– Treasury’s reform initiative will follow the model put forth by Moelis & Company last June. This is a “turnkey” solution, with support of the investment bankers who will need to raise the capital for it, and it also will yield upwards of $100 billion for Treasury through conversion of warrants for Fannie and Freddie common stock.

– Affordable housing groups will succeed in getting legislation, not tied to secondary mortgage market reform, that imposes a small fee on all new mortgage originations, with the proceeds used for targeted subsidy programs.”

No one who replied to this question said they thought there would be reform legislation this year—or indeed at any time during the 3- to 5-year horizon of the question. And in the absence of legislation, most commenters said they thought that Treasury and the FHFA would continue to manage Fannie and Freddie consistent with their ultimately being replaced by some other entities or financing mechanism. Several noted that Mel Watt’s term as FHFA director expires in January 2019, and Barry Zigas, Zandi and Goodman all thought a new director was likely to take steps that would be negative for affordable housing. As Zigas expressed it, “A new director probably would try to shrink the GSE footprint and ‘crowd in’ private investment by increasing guarantee fees and reducing loan limits, no matter how dubious that outcome is.” None of the participants representing affordable housing constituents took issue with this prediction (unfortunately).

In their comments about the likely futures of Fannie and Freddie, both Zandi and Goodman predicted continued expansion of the companies’ credit risk transfer programs. Zandi added, “The process will surely be tested by recession and financial market volatility, but it will successfully adapt to these challenges.” After reading this latter statement I decided to engage on it, and posted the following:

“I have been a critic of credit risk transfer (CRT) securities as a substitute for equity capital in a reformed secondary market credit guaranty system, because I strongly believe that programmatic CRT issuance will make guarantors less able to absorb the credit losses they retain.

My argument is a simple one. Investors price CRT securities with the objective of earning a competitive risk-adjusted return (that is, so that the interest income and principal repayments they receive will comfortably exceed expected credit loss transfers). If they believe there is a significant chance of losing money on a CRT investment, they either will raise their yield requirement or (more likely) decline to purchase new CRT issues. The inevitable result of this entirely predictable behavior by CRT buyers is that the issuer will end up paying more (and likely far more) in interest on the CRTs it issues than it receives in credit loss transfers, weakening its ability to bear losses itself during times of stress.

In the spirit of debate, I would like to ask supporters of programmatic CRT issuance: ‘Am I getting anything wrong in my analysis, and if not, what is the counter-argument for supporting a ‘reform’ element that is bad both for the stability of the housing finance system and for homebuyers, who will have to bear the cost of this program?’”

This was a very clear question, to which I hoped to get a very clear answer. I did not. I posed my question at around 11:30 on Friday morning, but not until five minutes before the 5:00 pm cut-off time did any response appear. Then Zandi posted, saying, “This paper presents the case for the capital market CRTs in the current and future housing finance system.” The linked paper was from last August; it was not remotely responsive to my question, and I had no time left to make that or any other point.

I might have been surprised by this, except something very similar had happened barely two weeks earlier, when I sent a detailed criticism to the authors of a paper titled “Credit Risk Transfer and De Facto GSE Reform,” published by the New York Federal Reserve. Rather than respond to my criticism, one of the authors (who I discovered was an executive at a real estate investment trust, Annaly Capital Management) instead sent back a note stating he “would choose not to further discuss this given our different points of view, which seem somewhat ideological, and hence we likely won’t bridge the gap.” (I discuss this episode in more detail in a comment here, in my blog.)

Both Zandi’s and the Annaly Capital executive’s (non-) responses to my criticisms encapsulate where we now are in the mortgage reform process—and, according to the participants in the Urban Institute’s on-line debate, where we’re likely to remain for the foreseeable future. Led by Treasury, the Financial Establishment is able to have its way with Fannie and Freddie, sweeping all of their profits, dictating what policies they adopt, and persistently diverting their business, and revenues, to well-connected competitors. Valid criticisms of what Treasury and FHFA are doing, or fact-based refutations of their stated reasons for doing it, pose no real threat to them. Until some individual or group in this or a future administration steps up and shows leadership on reform issues, there will be little change for the good to the status quo, which has been created by and favors the Financial Establishment. We will continue to debate how best to serve low- and moderate-income homeowners and renters, and they will continue to be served poorly.

65 thoughts on “The State of the Debate

      1. This brief has to be the clearest, most concise chronology of events I have read yet. My thanks to Tim for all the work you did in reading through Bernanke, Paulson’s, and Geithners books and connecting their statements with actions happening at the same time. This should be a chapter in US History going forward. I can only imagine how the financial crisis would have played out had Paulson and Bernanke decided to go the route of collateralized loans (in the unlikely event they were ever needed) in lieu of conservatorship. They had to know going into a conservatorship of these companies that the effect on markets and lending would be catastrophic due to the fears it would create. I think you allude to that in your discussion regarding the semi-secret wall street meeting that they refuse to acknowledge in their books when they tipped their hand to wall street about plans for conservatorship. I think I heard an NPR interview with the three (Paulson, Bernanke and Geithner) where they essentially were reminiscing about how well they handled the events back then and Paulson essentially said that he felt like his actions were supposed to reassure the markets because it would show the lengths they would go to save the system and then he was surprised when the next day markets crashed with fears of “if Fannie and Freddie are that bad, how bad is Lehman?” An amateur would have known that conservatorship would have been bad for the market perception. As intelligent, educated, and experienced as Paulson is and was, I think it would be far fetched for him to say he was surprised by the reaction to conservatorship. Lehman may well have still gone under, but I think it was vastly accelerated by the conservatorship of Fannie and Freddie. I also think that much of the need for TARP could have been avoided if they had a much more measured approach to show support for the GSEs. Instead, they fired their bazooka at the GSEs at point blank range and made a big mess.

        Liked by 2 people

    1. @mark

      facts are important for most cases, perry certainly. not so much bhatti.

      the facts relevant to the primary legal issue regarding the bhatti appointments clause claim are not in dispute. the legal issue is whether acting director demarco’s tenure was no longer constitutionally valid at the time of the NWS. while there is appointments clause precedent relating to whether an officer is principal or inferior (such that an officer appointed validly if inferior is not validly appointed if found as a matter of law to be principal), there is no on point precedent for acting directors.

      Ps are fortunate that judge schlitz is hearing this claim. he is academically inclined and interested in constitutional issues. most federal district court judges are more comfortable administering federal rules of evidence in trials than analyzing constitutional claims.

      i would wish that judge schlitz bifurcates the legal issue from the remedy, ruling on whether demarco was validly acting as director at time of NWS and then holding a separate hearing on remedy if he finds in Ps favor. i also wished that Ps counsel (who were very good on briefs) had suggested this to judge schlitz during oral argument.

      rolg

      Liked by 1 person

      1. Couldn’t Tim’s amicus brief be used to dispute the defenses claims that the GSEs were “ under water” at the time of the takeover?

        “MR. KATERBERG: They were already far under water; I mean, we’re talking at the bottom of the ocean.
        THE COURT: Apparently, they don’t think so. Apparently, their briefs say they would have been just fine.
        MR. KATERBERG: And I understand that, but —
        THE COURT: They didn’t need your hundreds of billions of dollars.”

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        1. I want to make this the last comment on this topic.

          The Bhatti case turns on a point of law, but even here it’s fairly clear that Judge Schiltz has a pretty good understanding of the facts, since he says, “[plaintiffs’] briefs say they would have been just fine.’

          The reason I did both the Perry Capital and the Delaware amicus briefs was the give plaintiffs’ counsel in all of these cases a coherent and integrated view of the true facts of the case that I didn’t believe they had. And if you read all of the recent filings by plaintiffs–whether amended complaints or the new spate of suits in the Court of Federal Claims–they now all do a very good job spelling out those facts. The facts are known and being communicated; the problem is the judges in the cases seem to believe the facts don’t matter (at least so far). And nothing is going to stop FHFA and Treasury’s counsel from continuing to repeat the fiction that Fannie and Freddie “were already far under water; I mean, we’re talking at the bottom of the ocean.” That’s their story, and they’re going to stick to it.

          Liked by 2 people

    1. fascinating argument.

      without getting into a long exegesis, or a short comment on whether it went well (actually i think it went well enough), i want to say the following:

      it is rare that you hear a federal judge thinking out loud from the bench in so educated, frank and honest way. even the discussion about his argument with his law clerk about res judicata is eye-opening. judge schlitz is very smart and very cautious. he is particularly cautious about granting broad remedies.

      which leads to why i found a greater willingness on his part to countenance the appointments clause argument than the separation of powers argument…because he would only have to invalidate 2 years of demarco’s tenure under appointments clause claim, not all 5 years under the separation of powers claim. see in particular p. 79…you can almost see the thought balloon above his head that with the appointments clause claim, that the PSPA and the first two amendments stand, only the third amendment would be invalid, while under the separation of powers claim, the PSPA and all amendments are subject to invalidation (a place he clearly doesnt want to go in granting relief).

      his willingness to countenance the non-delegation argument was particularly interesting in light of his preface that this might be the once in a 100 year case. he read perry just the way Ps wanted him to read it, not supplying the agency with an intelligible principle, he just was wondering aloud whether the other elements of the doctrine (governmental/legislative action) applied.

      rolg

      Liked by 2 people

    2. 1) The judge was honest and straight forward.
      2) He should not worry about corrective action even before he makes a judgement. He will not write his reasoning that way. But what worries me is that he may write some weird reasoning to achieve same conclusion.
      3) He did not do enough preparation. He wasted a lot of time.
      4) He did ask some smart questions.

      THECOURT: Is there anything they could do that would be outside of their conservatorship powers given how broad they are?

      Some of the phrases that they keep saying in their briefs is that they keep pointing out that when the FHFA acts as a conservator,unlike conservators in any other context,they are allowed to consider their own interests and,hence,because they’re a government agency the government’s interest and,therefore,they are exercising government authority,not private authority. How do you respond to that?

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      1. @mark

        as to your 2, judges often think backwards, asking themselves whether the remedy that would be forthcoming based upon a certain finding on merits justifies that finding on the merits. part of the legitimacy of the judiciary is to be corrective in a case brought by an individual claimant without doing more harm for society generally than is necessary. i get that this looks like placing the cart in front of horse, but this is not the thinking out loud of a judge having no judicial fortitude, but rather one of a judge who carefully considering implications of any remedy he might grant.

        schlitz clearly showed you his concern with broad effects of the remedy he might grant to Ps. i am not saying he will uphold Ps appointments clause claim, since he is wondering whether an agency might have to shut down after the suggested 2 year bright line period for acting director has passed…but this is much less disruptive than voiding everything an unconstitutionally structured agency has done in its entire life, as per the remedy he might have to give in the separation of powers claim. there is a certain forewarning that an acting director would be operating under, in the appointments clause case, with potus and senate knowing that they have to get a constitutionally appointed director after 2 years, that is not present in the separation of powers claim, where the agency doesn’t know if its operation is valid until a post hoc judicial determination.

        the short description of what judge schlitz is legal process. trying to make sure that his decision fits into a sensible fabric of governance. which is why i sensed that the appointment clause claim was something that he was gravitating to.

        rolg

        Liked by 1 person

        1. I finally had a chance to finish the Bhatti transcript (while waiting to have my car’s winter wheels switched to summer wheels—much later than I normally do because this spring has been so cold), and I agree with Rule of Law Guy that it’s a fascinating insight into the thought process of a very smart and engaged judge who has put enough time into this case to understand its complexities and nuances.

          At the end, I felt it was highly unlikely that Judge Schiltz would rule in favor of the plaintiffs on the separation of powers argument, because even if he could get over two of his objections to it (he has legitimate questions as to whether a president has more control over an agency headed by a multiple-director board with staggered terms than an agency headed by a single director he or she may appoint but not remove, and he also is troubled by the practical implications of declaring five years’ worth of rulings by the FHFA director null and void), he still would “really [be] having trouble connecting your theory with your harm.” He summed his discomfort up this way: “Here it’s just irrational to think that if the President had more influence over DeMarco, DeMarco would not have entered into a contract that was, in your client’s view, unduly favorable to the President. It completely just doesn’t make sense.” If something “completely just doesn’t make sense,” it’s not likely to be a winner.

          I have a little more optimism for a favorable ruling on the appointments clause argument, but not much—let’s say a 10 percent chance. The hurdle here is the lack of any legal precedent for determining how long an interim appointment as head of an agency can continue before it becomes a de facto violation of the requirement that the head of this agency be confirmed by the Senate. Plaintiffs argue for a two-year limit, but admit that’s arbitrary, and applying an arbitrary cut-off date retroactively clearly bothers Judge Schiltz: “So even if I was bold enough to agree with you, and even if I was bold enough to adopt the two-year rule, it would seem grossly unfair to say to the people who has [sic] dealt with the agency and dealt with Mr. DeMarco beginning the two years and one day and the rest of his term that all those things that you thought you did, I’m wiping those all out because unbeknownst to you there‘s a two-year rule that no one’s ever heard of but I have imposed. And not only am I imposing it, I’m retroactively applying it and wiping out lots of decisions.”

          Where my 10 percent chance of a favorable ruling on this comes in is the possibility that Judge Schiltz may decide that this case is a good opportunity to put the ambiguity over the appointments clause—which he clearly agrees is a legitimate issue—before the Supreme Court for its clarification, which he could do by saying something to the effect of, “I don’t know how long is too long for the tenure of an interim director to violate the spirit of the appointments clause, but the three years between Mr. DeMarco’s appointment and his approval of the net worth sweep almost certainly exceeds that threshold, therefore I am finding for the plaintiffs in this case,” and leaving it to SCOTUS (where the case ultimately will wind up) both to make the final ruling and to set a time limit on the validity of interim appointments.

          As always, we shall see.

          Liked by 2 people

          1. tim

            i agree with you on the separation of powers claim, but i am more bullish than you on the appointments clause claim.

            without going into a lengthy post, the appointments clause claim usually arises in the context of a claim that someone is acting as a principal officer (substantial authority/exercises policy discretion) who must be “potus/head of dept/courts of law” appointed, not an inferior officer (not exercising policy discretion/civil service). the new scotus case on this is Lucia v SEC. See http://www.scotusblog.com/2018/04/argument-preview-justices-turn-to-constitutional-limits-on-appointment-of-administrative-law-judges/

            my point is that this is not some new-fangled/out of left field constitutional claim. while the context of the appointments clause as applied to acting directors may be new, the appointments clause claim is actually have its day in the sun currently.

            rolg

            Liked by 1 person

          2. sorry: principal officer must be potus nominated/senate confirmed; inferior officer may be “potus/head of dept/courts of law” appointed.

            Liked by 1 person

  1. Dear Tim and or ROLG
    Could Judge Lamberth set aside and vacate the NWS? The question is because I read that when the Court of Appeals remanded the case as breach of contract , the only remedy would be monetary. However reading the amended complaint filed by Fairholme’s lawyer Charles Cooper I see that the prayer of relief includes vacating the NWS.
    Can you clarify the point, please?

    Liked by 1 person

    1. The remedies for the breach of contact claims ARE monetary. But the Fairholme Amended Complaint takes another run at Judge Lamberth’s initial ruling that a challenge to the net worth sweep is barred by section 4617(f) of the Housing and Economic Recovery Act (HERA), and also challenges the legality of the sweep under Delaware and Virginia state law.

      When I first read the Fairholme filing (made on February 1), I was surprised to see that it raised the issue of the net worth sweep being precluded by Delaware and Virginia state law; I didn’t think Cooper & Kirk could introduce that argument in the amended complaint, since it hadn’t been made in any of the earlier briefs. But here is where I can fall back on my oft-repeated “I’m not a lawyer” caveat; if Cooper put it in his filing, it must be permissible.

      I do think I know what’s going on with the challenge to Lamberth’s September 30, 2014 ruling that FHFA acted within its statutory authority when it agreed to the net worth sweep. When he made that ruling, Lamberth acknowledged that section 4617(f) of HERA permitted judicial review of HERA’s actions “if the agency ‘has acted or proposes to act beyond, or contrary to, its statutorily prescribed, constitutionally powers or functions.’” But Lamberth did not make a serious effort to assess whether FHFA’s actions in fact WERE consistent with its statutory duties as conservator, perhaps because he did not insist on a full administrative record before making his ruling—he instead accepted FHFA’s “document compilation” and Treasury’s submission as being factual.

      In the three and a half years since the Lamberth decision, however, discovery in judge Sweeney’s Court of Federal Claims (CFC) has shown that the administrative record produced for Lamberth by FHFA and Treasury was incomplete, misleading and in many cases simply untrue. In his amended complaint Cooper makes a very clear case—using documents produced in the CFC discovery—that the net worth sweep was the opposite of a “conserving” action; it was a deliberate, pre-planned attempt by Treasury to prevent Fannie and Freddie from ever emerging from conservatorship by taking all of their net income in perpetuity, with Treasury admitting to this in the now-released documents.

      Judge Lamberth may still find some reason to rule against the plaintiffs’ contention that the net worth sweep was “beyond [FHFA’s] statutorily prescribed…functions,” but it’s definitely worth taking another shot at it. And if the plaintiffs do win, the net worth sweep would be set aside.

      Liked by 1 person

      1. tim

        your honorary law degree is being well used.

        just two quick thoughts:

        (i) the class Ps (i think) hammered home that since the NWS is an amendment to the certificate of designations for the senior pref, and it violated rights of junior prefs, delaware corp law requires a junior pref class vote in order for the NWS to take effect (which of course was not done). this is a good claim (and i am not sure it was argued before), though lamberth is both not a delaware corp law expert and doesnt care about upholding the integrity of the delaware corp law, as delaware judges are.

        (ii) on 4/12 i expect a transcript of the bhatti oral argument to be made publicly available. reading this “might” afford us an insight as to how the judge might rule on the two constitutional claims argued by Ps.

        rolg

        Liked by 2 people

  2. Tim –

    Ginnie Mae now has investors lined up for their CRTs. Now there is a landscape where the GSE’s are competing with a Government Enterprise Corporation (where economics may or may not matter as much).

    Assuming the structure is the same (or the pricing controls for any differences) this would create additional competition in this market which would require the GSEs to price these more uneconomically than before, correct?

    Via IMF:

    “For Ginnie Mae, a ‘Line out the Door’ of Potential Risk-Sharing Partners”

    Counterparties are inundating Ginnie Mae, expressing their strong desire to partner with the government guarantor on potential risk-sharing transactions, Acting President Michael Bright told Inside Mortgage Finance this week.

    “There is a line out the door of private companies willing to provide and take on credit risk and work with us on transactions where private capital would assume some of the risk,” Bright said.

    The acting president said Ginnie is looking at a number of ways to facilitate risk-sharing between FHA and a third party that would provide a partial guarantee against potential losses on a Ginnie security backed by FHA-insured loans. Specifically, private capital would assume a first-loss position on FHA-insured loans underlying a Ginnie mortgage-backed security.

    Bright first floated the risk-sharing idea at the Structured Finance Industry Group conference in Las Vegas in February.

    Liked by 1 person

    1. I’ve not read anything specific about the sorts of credit risk transfer (CRT) transactions Ginnie Mae is contemplating, but I suspect it’s most likely looking at mortgage insurance-type structures–that is, front-end MI (comparable to what Fannie and Freddie are required to do, by charter, on loans that have less than a 20 percent down payment) and/or back-end pool insurance. I would be surprised if Ginnie is considering CRT securities such as Fannie’s CAS or Freddie’s STACRs.

      Without knowing the types of CRT transactions Ginnie is thinking about, or having any information on their structures or pricing, I can’t comment on their economics.

      Liked by 1 person

        1. The devil will be in the detail. “Private-capital risk sharing” will have a cost; what that cost is (if in fact it is disclosed), how it compares, quantitatively, to the “greatly reduced mortgage insurance premiums” charged on re-insured FHA loans, and how the envisioned risk-sharing mechanism or transaction is designed or structured all will have an impact on the program’s economics. Until Bright moves beyond the stage of generality, those critical elements won’t be available for analysis.

          Liked by 1 person

          1. tim

            this is a movie i have seen before. structured derivatives rather than good old equity. i spent plenty of time repping wall street on novel financing/tax ideas, and they were generally “good for wall street, maybe good for clients”.

            given the enhanced regulatory environment post-dodd frank, i guess it is not surprising that the “too smart by half” ideas are moving from private firms to government-controlled firms.

            gravy chain is the little train that can.

            rolg

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    1. The pro-bank faction has been very successful in labeling anything that looks like recapitalization and release of the captured and de-capitalized Fannie and Freddie as a victory for greedy hedge fund managers, who have an even less favorable image in the eyes of the general public than do bankers. The media has completely bought into this depiction (which I suspect also may be influencing judges in some of the court cases). This letter from the president of the Jamestown State Bank is a reminder that the story is considerably more complicated.

      Partly because banks’ holdings of Fannie and Freddie preferred stock were exempt from “percentage of capital” limits, regional banks traditionally had been significant buyers and holders of these securities. Treasury knew this when it decided to take the companies over and put them into conservatorship, but did it anyway, deeming the capital losses at and failures of regional bank holders of Fannie and Freddie preferred to be an acceptable price to pay for achieving its policy goal of gaining control of the companies. Many regional banks that managed to survive the write-downs of their Fannie and Freddie preferred securities subsequently sold them at depressed prices, often with hedge funds as the buyers.

      It is probably true that today more Fannie and Freddie preferred is in the hands of hedge funds and other professional investors than remains on the books of regional banks, but that doesn’t change the fact that the primary victims of first the conservatorship and then the net worth sweep were regional banks like Jamestown State Bank.

      And there is a further note of cynicism in this story, which I first mentioned a couple of years ago in a post titled “The Takeover and the Terms:” Treasury itself is directly responsible for a substantial percentage of regional bank losses on Fannie and Freddie preferred. As I wrote then, “Paulson notes in his book, On the Brink, that he wanted some ‘good news’ to give to the market prior to announcing Bear Stearns’ acquisition by JP Morgan in March 2008, so he overrode the objections of OFHEO Director Lockhart and reduced Fannie’s and Freddie’s surplus capital percentages (giving them more lending capacity) in exchange for nonbinding promises by the companies to add capital. Fannie did raise $7.4 billion in two separate issues of preferred stock in May. Then, four months later, in anticipation of coming bad news from Lehman Brothers, Paulson took Fannie and Freddie over, citing their LACK of capital—which exceeded regulatory standards and hadn’t been a concern for Paulson when he’d intervened to reduce their surplus capital percentages in March. Among those wiped out by this second action were purchasers of the preferred stock Fannie issued in May, at Paulson’s urging.”

      There definitely are “bad guys” in the Fannie and Freddie preferred stock story, but they’re not the hedge funds.

      Liked by 8 people

      1. So this begs another question, how much of the GSE preferreds were the in-the-know banks holding and did they sell it before or after everyone else’s heads hit the floor?

        Liked by 2 people

        1. The most prominent “in-the-know” bank that sold its Fannie and Freddie preferred stock holdings was of course Wachovia, which liquidated its entire position on July 21, 2008, less than two weeks after its new chairman, Bob Steel, took over as CEO, following his 20 months of service as Undersecretary of the Treasury for Domestic Finance under Hank Paulson. Whether coincidentally or not, July 21, 2008 also was the date of the secret meeting Paulson had with a group of hedge fund managers at Eton Park Capital, at which, according to Bloomberg, Paulson said Treasury was “considering a plan to put the Companies into conservatorship, which would effectively wipe out their common and preferred shareholders.” A week after Fannie and Freddie were forced into conservatorship, a spokesman for Wachovia said, “Mr. Steel had nothing to do with the decision to liquidate these securities and he had nothing to do with the timing or manner in which that decision was executed by Wachovia.” There was little subsequent media followup, and no known regulatory followup, on the story.

          Liked by 6 people

          1. Tim,

            Those are some pretty incriminating facts. I’m sure you’re correct. Do you know whether plaintiffs are in possession and making use of them?

            Liked by 1 person

          2. Ron, as you have said those are incriminating facts. But the question is really what law did they break( insider trading?) or are they above the law?

            Like

          3. Little subsequent media followup seems to be par for the course.

            Another question. Do you have any insights as to the amount of MBS securities the GSEs purchased (post takeover in 2008/09/10) from the banks to effectively bail them out when they were getting hit with huge mark to market losses?

            Like

      2. “Fannie did raise $7.4 billion in two separate issues of preferred stock in May. Then, four months later, in anticipation of coming bad news from Lehman Brothers, Paulson took Fannie and Freddie over, citing their LACK of capital—which exceeded regulatory standards and hadn’t been a concern for Paulson when he’d intervened to reduce their surplus capital percentages in March.”

        Worth repeating for those who might’ve missed it.

        Liked by 1 person

  3. Tim,

    Have you seen this article? Its a 10 year recap interview with Paulson, Geithner, and Bernanke. Its a little long but there are some good parts. They are still laughing about the punitive terms placed on Fannie and Freddie, along with working together to trick “the hill” into “nationalizing” FnF through conservatorship. I guess I should laugh too, its been one heck of a joke.

    Its amazing to me that these guys talk so much, while the DOJ argues the exact opposite in court.

    One thing I thought was odd, is they mentioned FnF were an “issue” back in 2006. If I remember correctly, in 2006, fnf were at a low point of the market share and PLS were at an all time high. The only reason I could think is: the private market was saturated, FnF didn’t want to buy low quality loans, all the sudden there was no cash to lend and liquidity started to dry up. That makes it easy to be angry with FnF, like a child blaming their parents for their own bad behavior. Too bad for us, congress fell for it, and gave them a bazooka to fix their problems.

    https://features.marketplace.org/bernanke-paulson-geithner/

    Liked by 2 people

    1. I’ve now had a chance to read this interview, and it does contain some interesting (and in some cases revealing) material. The reference to 2006, though, isn’t connected to PLS or anything specific Fannie or Freddie were doing. Paulson is misremembering what was going on then when he says, “And we started working on reforming Fannie Mae and Freddie Mac in the fall of 2006. We had plans to go to Congress and get authorities when we could, but we knew that the worst thing we could do would be to go to Congress and scream, ‘We have a national emergency, and if we don’t get these, the whole system was going to collapse, this could be a catastrophe,’ and then not get them.” Treasury had been trying in earnest, without success, to “reform” (i.e., get control of) Fannie and Freddie since 2003, and 2006 was just another run at that. In 2006, nobody in the administration had any inkling of what eventually would happen from the fall of 2007 through the winter of 2008.

      But there is another statement Paulson made in the interview that struck me, when he was talking about the run on Lehman Brothers that happened right after he bullied Fannie and Freddie into conservatorship (and I use the word “bullied” advisedly—Paulson admits he did that in his book, “On the Brink”). He said, “I mean, what a strong statement, coming in, nationalizing Fannie and Freddie, mortgages are ground zero of, you know, the crisis, government stands behind it, help all the financial institutions. The market instead looked at it and said, ‘Holy cow, if Fannie or Freddie has got all those bad mortgages, just think how bad Lehman might be.’ And so it, that’s just what happens with these things sometimes, the things you’re doing that you think are going to knock it out, you just even accelerate it.”

      What Paulson either doesn’t recognize, has in retrospect convinced himself isn’t true, or deliberately is not being candid about—and I don’t know which of the three it is—is that his (and other officials in the Bush administration’s) decision to use the financial crisis as cover for accomplishing their long-held objective of getting Fannie and Freddie out of the private sector and under government control made the 2008 crisis much worse than it would have been otherwise. Fannie and Freddie DIDN’T have “all those bad mortgages,” and a lot of people at Treasury knew it.

      At the time Fannie and Freddie were forced into conservatorship, it had been almost four years since I had spoken or corresponded with any of the investors or security analysts I’d known well when I was Fannie’s CFO (my lawyers in the “accounting scandal” litigation had advised me not to). After the conservatorship, however, I got emails from a number of them. They all were outraged at the takeovers, because—as people very familiar with the companies’ financial conditions and prospects—they knew they hadn’t been in any imminent danger, and didn’t need to be “rescued”. I clearly remember one senior executive of a large mutual fund telling me he had just spoken with Freddie’s CFO, who told him that Treasury’s public story about Morgan Stanley having done a study of Fannie and Freddie’s loan portfolios and finding huge problems in them was a lie. He said to the mutual fund executive, “We just gave them our data, and they haven’t even sent it to Bangalore [Morgan Stanley apparently outsourced some of their analytics] yet.”

      Paulson saying, “that’s just what happens with these things sometimes” is at best disingenuous. HE and his staff at Treasury were the ones who made the conscious decision to publicly exaggerate the mortgage losses at the two companies who had the highest quality books of any sources of mortgage finance at the time, as justification for the takeovers that achieved an ideological and competitive policy objective. It should have come as no surprise to them or anyone else who knew what was going on that investors in an already skittish market would have been be thrown into an uncontrollable panic by that action.

      Even in a self-congratulatory ten-year retrospective, with selective memory at work, that unacknowledged fact cannot be whitewashed.

      Liked by 6 people

      1. How much of the desire to eliminate or nationalize Fannie and Freddie is endemic to Treasury as an institution? I wonder what Mnuchin has inherited, and if part of him dragging his feet is as much to maintain solidarity within his own department as mollifying Republicans in Congress that Trump needs on his side before the midterms possibly wipe out their control.

        Do we have any idea how powerful the anti-GSE contingent is in Trump’s inner circle after all this turnover? It seems that some powerful people got the ball rolling to kill the GSEs in the Bush administration, and somehow the Obama administration made it even worse. The only differences I have seen in the Trump administration is the elimination of the language in his presidential budget to continue winding them down.

        Liked by 1 person

        1. Treasury as an institution was anti-Fannie Mae when I joined the company in 1982, and probably well before, and it hasn’t changed. I tried to explain what I thought was the reason for this stance in my book: “The Federal Reserve and Treasury were mistrustful of a profit-making entity with the implied backing of the government but not controlled by it, and they felt Fannie Mae’s government sponsorship gave it the ability to expand its business at will (to the disadvantage of the competitive position of the banks they regulated) as well as an incentive to take excessive risk.”

          Conservatives in general tend not to be supportive of Fannie and Freddie, and the recent change in the head of the National Economic Council from Gary Cohn to Larry Kudlow isn’t going to help that. Still, there are two things Fannie and Freddie have going for them in a Trump administration: TINA (the acronym for “there is no alternative” to them) and the prospect of a $100 billion reward for keeping them alive and cashing in on their warrants.

          Liked by 2 people

          1. What’s the difference between the GSE’s implicit guarantee and the Bank’s implicit guarantee – were not both the banks and the GSEs bailed out by the same gov’t? Did the bank’s shareholders get treated the same?

            To me, it’s just the banks hate that another entity had an advantage over them and are moving in for the kill now… And generations of goldmanites are to thank for it.

            I will never understand this idea of ‘private capital’ being the answer. There is no private capital. They were all bailed out. How am I wrong?

            Like

      2. Tim, I think you could easily write another book based on this interview (possibly titled “Deception “). I think it would be a number one best seller.

        Liked by 1 person

  4. Good evening.
    Do you think that modifying the Dodd Frank law is very important for Mnuchin before his heading to the reform of Fannie Mae and Freddie Mac?

    Like

  5. Tim, would you mind sharing your opinion on why Mnuchin, being a change agent in comparison to previous Treasury Secretaries, is not providing leadership on GSE reform? It is supposed to be his area of expertise after all and it would be a shame if he fell victim to groupthink bias. Does it make sense to wait for Corker and Hensarling to retire before activating Moelis or something similar?

    Liked by 1 person

    1. I haven’t seen anything in Mnuchin’s tenure as Treasury Secretary so far that would lead me to label him a “change agent.” To the contrary, since his pledge on Fox Business on November 30, 2016 to “get [Fannie and Freddie] out of government control…reasonably fast,” he’s repeatedly walked that pledge back. Some (including me at one point) thought he might act after it became clear mortgage reform wouldn’t be enacted in this Congress, but now that legislative reform is generally viewed as being as dead as Jimmy Hoffa, Mnuchin has pushed his timetable out again, saying to Bloomberg on March 8, “I’m not sure that’s something we’ll get done this summer before the election.”

      It’s possible that Mnuchin wants to see what the new legislative lineup looks like before revealing his thoughts on administrative reform. But it’s also possible that he won’t move until either Congress acts (which I seriously doubt it ever will) or Treasury loses on one of the court cases.The more time passes with no affirmative guidance from Mnuchin and nothing stirring at Treasury, the more these latter two possibilities come to look like probabilities.

      Liked by 1 person

      1. tim

        mnuchin may not have done much on housing finance reform so far, but he is still working in the administration and hasnt been the butt of contentious potus twitters, so that makes him a rare success story in this administration. from his point of view, he is playing his cards just right.

        time has been mnuchin’s friend so far, and if he has a democratic congress in 2019, then maybe he will decide that will be the time for him to become more proactive on housing finance. midterms have historically countered the new potus these same voters just put in place. he also may think that an adverse court decision at long last will provide cover.

        rolg

        Like

          1. the historical midterm election anti-potus effect reminds me of the old howard nemerov quote: “the reason why we put presidents’ heads on stamps is because we first like to lick their backside before we thump them on the head”.

            Liked by 1 person

          2. just announced, large tariffs and investment restrictions on china, which treasury and commerce will implement; another reason why mnuchin may not get to housing finance reform in short order

            Liked by 1 person

          3. Mnuchin has most influence on nomination of new FHFA director. That person will be a very good indicator of Mnuchin’s intention.

            Like

  6. Tim, it feels like you and Bill Maloni are the only public voices of reason in this debate.

    If it wasn’t for FHFA and Treasury’s illegal shutdown of the GSE’s right to lobby for their shareholders, the GSE’s could defend themselves.

    The TBTF banks were allowed to keep their lobbying rights and have their voices heard during Dodd Frank. GSE’s were the only institution to lose their first amendment rights.

    Do you believe the taking of the GSE’s lobbying rights were illegal? And are you aware of any shareholder lawsuit that addresses this question?

    Like

  7. Tim

    I also noticed that you were the only one that answered Ellen’s question about shareholder litigation. I wonder why since that is one of the elephants in the room and there was no follow up.

    Again, never was so much owed by so many to so few. Thank you on behalf of the little guy!!

    Liked by 4 people

  8. Tim … or should I say David … is there anyone else of your stature helping to fight Goliath? Your efforts are incredibly appreciated – and if there is any way you think us rabble rousers could help, please let us know. Endless thanks.

    Liked by 6 people

    1. You say David, I say Don, as this entire exercise has a Quixotic feeling about it. Not sure how discussing company fundamentals will fundamentally affect company. After all, they managed to repay a half trillion dollars making the GSE’s fundamentally sound, imo. This is neither accidental nor coincidental as keeping conversation on reform is result of successful misdirection campaign. Are GSE’s windmills or backbone of US Real Estate industry? Like chasing a couple of ghosts that happen to have trillions in assets and billions in profits. Law enforcement would usually follow the money but in this case they realized they would only be chasing their own tail, so they stopped.

      Like

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