A Three-Year Retrospective

This past Saturday marked the third anniversary of the initial live post on Howard on Mortgage Finance. I began it in response to my perception that the dialogue on mortgage reform was being dominated by ideological and competitive critics of Fannie Mae and Freddie Mac who over the past two decades had created provably false stories about the companies’ business, risk-taking and role in the 2008 financial crisis, which through constant repetition in the media had become almost universally accepted as true. My goals for the blog were to serve as a source of objective and verifiable facts about the mortgage finance system in general and Fannie Mae and Freddie Mac in particular; to draw on my experience with and knowledge about these areas to provide informed analyses of current developments in single-family mortgage finance, and to use these facts and my analyses as the basis for offering opinions on mortgage-related issues.

I’ve now said (or written) most of what I had to say and wanted to say when I began the blog. Largely for this reason—and because the blog was not intended to be a running commentary on mortgage-related events (I try to do a version of that with responses to reader questions and observations in the “comments” section)—the frequency of my posts has declined each year. I did 18 posts in 2016, 10 in 2017, and 6 last year. I put up a post when I have something new or different to say; otherwise I don’t.

The large majority of my posts have dealt with how the government should resolve the conservatorships of Fannie and Freddie, now over ten years old. Within this overarching issue I have written extensively on a number of recurring topics: the course and status of the legal cases challenging the government’s actions during the conservatorships; my thoughts on the right objectives for mortgage reform and how best to achieve them; critiques of the repeated attempts by banks and their supporters to replace Fannie and Freddie in legislation with bank-centric alternatives, and in-depth examinations of two  related subjects—the appropriate capital standards for credit guarantors and the folly of substituting credit risk transfer transactions for upfront equity capital.

Much of what I’ve written on these topics was published some time ago, however, so I thought that in this post I would give readers a brief guide to where they could find the most complete or accessible expressions of my views, by category. I’ve done this below.

 The facts and the law in the legal cases. I’ve put up five posts whose focus was the court cases challenging the government’s treatment of Fannie and Freddie in conservatorship. Three of them addressed the fact pattern in these cases, which overwhelmingly favors the plaintiffs, while two discussed the implications of specific court decisions.

My first live post was Thoughts on Delaware Amicus Curiae Brief (February 2, 2016), whose most valuable part I think was the link to the amicus itself. Reading about all of Treasury’s actions from before the financial crisis to the net worth sweep, it’s impossible to escape the conclusion that its takeover of Fannie and Freddie was a preplanned nationalization. The Takeover and the Terms (February 23, 2016) is an early piece about the challenge to the conservatorships by Washington Federal, in which I imagine judge Sweeney reviewing the facts in the case and saying to Treasury, “You abused your regulatory power by taking Fannie and Freddie over without statutory authority and for your own policy purposes, then conspired with a conservator you controlled to run up their non-cash losses, forcing on them senior preferred stock they didn’t need and you wouldn’t let them repay, whose purpose was to transform massive, temporary and artificial book expenses you’d created for them into massive, perpetual and real cash revenues you’re taking for yourself.” (She may yet get a chance to say this.) A Pattern of Deception (July 31, 2017) was written after Sweeney released a number of documents showing that “to execute its plan [to take over Fannie and Freddie and replace them with a bank-centric alternative], Treasury has had to be untruthful about virtually everything having to do with [them]—their health going into the crisis, the reason for taking them over, the source of their losses in conservatorship, and why the net worth sweep was imposed.”

While the facts in the cases clearly favor the plaintiffs, the law has been another matter. In Getting From Here to There (May 2, 2016) I first give some historical perspective on Fannie and Freddie’s path to conservatorship, then discuss the appeal of Judge Lamberth’s decision in Perry Capital case. I thought plaintiffs would prevail in this appeal, but they did not. In The Path Forward (June 6, 2017) I address the implications of the adverse decisions in the Perry Capital appeal and several other cases for the reform process going forward—fairly accurately, as it’s turning out.  

The majority of my writings about the legal cases have come in response to comments made by readers, which in turn were triggered by news items or events in a particular case. A determined person interested in my view about some specific legal development can find whatever I may have said about it by (a) noting the date of the item or event, (b) looking on the right side of the blog for the “Archives” column, then clicking on the month (and year) of the event, (c) seeing which of my posts were live at or around that date, and finally (d) after clicking on the comments for that post, scrolling through them until you get to or somewhat after the date in question, and see what’s there. (The same approach will work for finding my views on non-legal events or news items.)

Key principles for mortgage reform. Most of my posts in some way relate to the mortgage reform dialogue, but three of them take a “big picture” look at the topic, from somewhat different perspectives. A Solution in Search of a Problem (September 7, 2016) contrasts the approach to reform taken by banks and their supporters—blatantly mis-diagnosing the problem, then proposing a self-serving remedy that “solves” the problem they invented—with the actual challenges now facing the mortgage finance system. Economics Trumping Politics (January 4, 2017) discusses why the misinformation-laden approach to mortgage reform adopted by banks may be a strength in a legislative process but is a liability in an administrative one. And in The Economics of Reform (November 30, 2017), I make the economic case for reforms that benefit consumers rather than banks by documenting the dramatic changes that have taken place in mortgage finance since Fannie and Freddie were put into conservatorship—much greater interest rate risk, far more use of government guarantees, and the greatly increased reliance on the Federal Reserve for funding 30-year fixed-rate mortgages—and noting that consumer-oriented mortgage reform would reverse these negative trends.   

 My ideas for mortgage reform. Three posts were devoted to my ideas or recommendations for reforming the mortgage finance system. The first was Fixing What Works (March 31, 2016), written in response to a request from the Urban Institute for its “Housing Policy Reform Incubator” project, in which a number of contributors were asked to write 2000-word essays about the future of housing finance reform. This was my submission, and there is little in it that I would change today. A Welcome Reset (December 12, 2016) was written shortly after Treasury Secretary-designate Steven Mnuchin told Fox Business that “we gotta get [Fannie and Freddie] out of government control…and we’ll get it done reasonably fast.” In this piece I offer administration negotiators three pieces of advice—”pick the best model, get the capital right, and be realistic about the role of government”—and elaborate on each point. Finally, I wrote A View on Affordable Housing (May 3, 2018) in response to a request from a Democratic member of the Senate Banking Committee to put in writing my recommendations for doing mortgage reform in a way that provides maximum benefits to the affordable housing community.

Bank-centric proposals for legislative reform. Since the first attempt at legislative mortgage reform—the Corker-Warner bill introduced in June 2013—there have been a number of proposals put out that would replace Fannie and Freddie with credit guaranty mechanisms that look and operate differently from the companies. I commented on four of these in three of my posts.

Getting Real About Reform (October 25, 2016) analyzes two proposals made earlier that year—“A More Promising Road to GSE Reform” from the Urban Institute and “Toward a New Secondary Mortgage Market” by Michael Bright and Ed DeMarco from the Milken Institute—that rely on risk sharing arrangements as a substitute for upfront equity capital; it concludes that they are unworkable “theoretical fantasies.” In Narrowing the Differences (April 25, 2017) I give the Mortgage Bankers Association credit for supporting the entity-based credit guaranty model of Fannie and Freddie, endorsing a risk-based approach to guarantor capital, and reversing their previous advocacy of mandatory credit risk transfers, but take issue with their insistence that legislation is required to achieve their “three major objectives” of reform (which I support). Waiting for Mr. Corker (February 5, 2018) critiques a draft of what then was called “Corker-Warner 2.0,” asking and answering the question: “how is it possible that a process begun almost a decade ago, which has had so many people working on it so intently for so long, could produce a result so empty and unimpressive?”  

The importance of capital. This is a topic I’ve addressed frequently, from two perspectives: the benefits of a properly designed and implemented risk-based capital standard to holding down guaranty fees and making them affordable and accessible to as broad a range of potential homebuyers as possible, and the negative consequences of requiring credit guarantors to hold excessive and unnecessary capital. Supporters of banks consistently have advocated that the credit guarantors of the future hold “bank-like” amounts of capital, using the arguments of a level playing field and taxpayer protection in support of their position. I’ve pointed out in numerous posts why bank-like capital is unwarranted for entities that take only mortgage credit risk, and also discussed how applying bank capital standards to single-family credit guarantors would force them to set guaranty fees at arbitrary and artificially high levels unrelated to the risk of the underlying loans, making them less competitive, raising mortgage rates, restricting access to affordable housing and driving more business to banks and Wall Street firms (which is what they want).

In The Right Choice on Capital (June 26, 2017) I explain in some detail why a true risk-based capital standard—and not a bank-like fixed capital ratio—is the only defensible choice for a single-family credit guarantor. This post was written with a specific audience in mind: the investment bankers, investors, and the professionals at Treasury and FHFA who would be involved in any effort to recapitalize Fannie and Freddie and release them from conservatorship. Comment on FHFA Capital Proposal (September 12, 2018) was aimed at essentially the same group of people. In June 2018 FHFA put out its proposal for a risk-based standard for Fannie and Freddie. I thought FHFA made a version of the mistake I warned against in The Right Choice on Capital by adding many elements of conservatism to push the companies’ total capital percentage unjustifiably close to bank levels, and in this post I discuss where and why FHFA’s initial effort needs to be changed before its capital regulation is made final.

Securitized credit risk transfers. The proposed mandatory use of securitized credit risk transfers (CRTs) by credit guarantors is another topic I’ve addressed often; I’ve done seven posts discussing CRTs, and made comments on them in many others. This frequency was driven by the fact that I was learning about Fannie’s Connecticut Avenue Securities and Freddie’s Structured Agency Credit Risk programs as I was writing about them, and also by my great concern that so many of the early reform proposals relied heavily on mandatory CRT issuance as a substitute for equity capital in a way that I knew was dangerous and ultimately unworkable. Fortunately, the more recent bank-supported reform proposals do not give CRTs such a prominent role, so I’ve had less reason to keep writing about them. Readers can get a good general summary of my views on CRTs from Risk Transfer and Reform (September 27, 2017), while the more technically inclined also may be interested in the data and analysis in Risk Transfers in the Real World (March 20, 2017).

*                                                *                                                   *

Howard on Mortgage Finance enters its fourth year with the same issues being discussed as when the blog began, but in my view with more clarity on the path to their resolution, due to two recent developments. The first was the mid-term elections last November, which moved the House under Democratic control, and the second was the decision by the Fifth Circuit Court of Appeals to hear the Collins case en banc. Divided control of Congress all but rules out legislative reform before the next presidential election, while the judges’ reaction to the oral argument in Collins all but assures that the legality of the net worth sweep will be decided by the Supreme Court, where the plain text of HERA and the undeniable fact pattern in the case will carry much more weight than they did in the lower courts.

These developments intersect in a way that is positive for a constructive conclusion to Fannie and Freddie’s ten-year old conservatorships. As I’ve discussed often in my posts, the strategy of the banks and their supporters to replace a secondary market mechanism built around Fannie and Freddie that works for consumers with one that works for themselves was dependent on banks convincing Congress of their false definition of the problem and the merits of their proposed solution to it. This deception is much less likely to work in an administrative reform process. The anti-Fannie and Freddie crowd knows that, which is why they now are kicking up so much dust trying to stall the process recently announced (perhaps prematurely) by acting FHFA director Otting. Opponents of the companies also know that the increased likelihood of the net worth sweep being reversed has put pressure on the administration to move more quickly.

In administrative reform, as at the Supreme Court, the facts will matter. I see the reform process over the next two years as being fundamentally a political exercise, with economic and legal constraints. The political challenge will be to come up with terms and conditions for the eventual release from conservatorship of Fannie and Freddie that are acceptable to whatever set of constituencies the administration believes it has to please (I wish I knew which those were) but that also work economically. In contrast to Congress, the senior staff at the Mnuchin Treasury and the investors who filed the lawsuits against the net worth sweep—and whose hand in my view has been strengthened by the oral argument in Collins—are highly unlikely to sign on to a proposal to recapitalize and release Fannie and Freddie that won’t work. This fact-based “real world” discipline will rule out many of the simple compromises now being written about, such as requiring Fannie and Freddie to hold 4 percent capital while subjecting them to utility-like return limits and restricting the scope of their business to significantly “reduce their footprint.” A company so constrained would have little if any chance of attracting the necessary new capital required for its release, and Treasury, its investment bankers and current investors understand that.

As the process of formulating a reform proposal that works politically, economically and legally plays out over the course of this year and perhaps the next, I will continue to put up blog posts when I have something new or different to say, and to respond to questions and observations from readers in the comments section. But followers of the blog also may benefit from rereading many of the posts identified here, because the facts, analyses and dynamics discussed in them won’t change, and will remain relevant.

182 thoughts on “A Three-Year Retrospective

  1. Hi Tim,

    now that President Trump has asked for a Plan on housing reform, I would be interested to hear your take on one specific demand: The separation of plans of what can be done administratively from what can be done only legislatively.
    I would love to hear your thoughts on that issue: What steps exactly are realistically possible administratively?
    Given a divided congress, I assume this is the only realistic set of actions we are going to see, so I am curious to know how far it can go.

    Liked by 2 people

  2. {From Hannah Lang, American Banker:”Calabria’s ambitious FHFA agenda (it’s not just housing finance reform),” April 25, 2019 ]

    Less than two weeks on the job, Mark Calabria has set a bold agenda for himself as the new director of the Federal Housing Finance Agency.

    It’s not just helping to chart a future for Fannie Mae and Freddie Mac — a Herculean task that has stumped policymakers for more than a decade. Calabria also plans to do a deep dive into problems with mortgage servicing, repair issues with the “qualified mortgage” patch set to expire in 2021, and ensure a better cooperative culture between the government-sponsored enterprises and their regulator.

    If there is an overarching theme to his goals, it is to ensure the mortgage market does not return to the pre-financial crisis days.

    “Anything that’s simply a return to sort of pre-2008, I would say is unacceptable,” Calabria said during a wide-ranging sit-down interview.

    Mark Calabria, chief economist for Vice President Mike Pence
    “What I see coming out of this is a roadmap with mileposts and at the end of the day, it’s really predominately in the hands of the GSEs whether they meet those mileposts,” said Mark Calabria, the new director of the Federal Housing FInance Agency.

    Housing finance reform
    The biggest challenge, of course, is housing finance reform. Calabria is clear he intends to help force the end of the conservatorship of the GSEs, one way or another.

    At the moment, he is waiting to see the results of a recent presidential directive to the Treasury Department and Department of Housing and Urban Development to deliver comprehensive plans for administrative and legislative reform. Calabria is hopeful to start implementing changes as early as this year.

    If Treasury and HUD’s final reports on housing finance reform are completed as expected this summer, FHFA would be set to begin discussing changes to the preferred stock purchase agreements in September or October, Calabria said. In 2012, FHFA and Treasury altered the senior agreements to require Fannie and Freddie to deliver nearly all of their profits to the Treasury Department in an effort to repay taxpayers, leaving the GSEs with an incredibly small capital cushion of $3 billion each.

    “To me, the GSEs may be able to retain earnings, may be able to build capital, but I think it will absolutely require a conversation and an agreement between FHFA and Treasury on what are other avenues for raising capital,” Calabria said.

    “My hope is that by us trying to build some momentum, that that helps enforce a sense of urgency for Congress to act.”
    Changes to those agreements would accompany a “roadmap” for Fannie and Freddie to exit conservatorship, said Calabria, with no specific end dates in mind, but rather a checklist of progress.

    “What I see coming out of this is a roadmap with mileposts and at the end of the day, it’s really predominately in the hands of the GSEs whether they meet those mileposts,” he said.

    Calabria does recognize, however, that FHFA and Treasury alone can only do so much. He has already pledged to work with Congress on changes to the mortgage finance system. He isn’t planning to produce his own plan, however, but rather disrupt the complacency around the status quo.

    Though Congress has made attempts to craft housing finance reform, no plan has come close to final passage. Many lawmakers pay lip service to wanting change, but appear willing to live with the current system. Calabria wants to change that.

    Part of his role will be “being a vocal advocate for congressional action,” he said.

    “The debate on the Hill is kind of fuzzy in terms of what the downsides are, so how do I help illustrate the downsides and how do we do some and more internal stress testing?” he added. “It’s important to recognize that just because some laws are passed and a lot of regulations were put in place by a whole suite of entities doesn’t mean that we’re in a lot stronger place.”

    It’s also clear that Calabria hopes that by moving forward administratively, Congress will be prodded to action.

    “My hope is that by us trying to build some momentum, that that helps enforce a sense of urgency for Congress to act,” said Calabria. “To me right now, as long as it’s kind of on autopilot, that lessens the pressure on Congress to act.”

    As a result, he intends to move forward expeditiously with administrative reforms, though he makes it clear such moves will leave plenty of room for Congress.

    “We can create with Treasury a path out of conservatorship,” he said. “That will take a substantial amount of time if in putting that roadmap out, if Congress comes in and says, ‘You know, we think your road map goes the wrong direction.’ That will give them an opportunity and again plenty of time.”

    Ultimately, it should be up to Congress to determine what a future housing finance system would look like beyond the existing model, said Calabria, whether it be a multiple guarantor system, which Senate Banking Committee Chairman Mike Crapo, R-Idaho, has proposed, or a utility model. But Calabria’s preference is for more competition in the market.

    “I’d ultimately like to see charters open up to anybody who can apply for them, but fundamentally, that’s a decision for Congress,” he said.

    Mortgage servicing and QM patch
    But GSE reform is not everything on Calabria’s plate. He also said he wants to do a “deep dive” on servicing.

    “It’s fair to say that during the last downturn in the housing market, servicing was not where everybody wanted it to be,” he said. “Given what I saw last time, I feel like I want to be comfortable that that’s there, and if it’s not there, whatever I can fix, I can.”

    Calabria also plans to work with the Consumer Financial Protection Bureau on the “qualified mortgage” patch. A home loan is eligible to be a qualified mortgage if it meets certain standards set by the CFPB, but the agency granted an exception for loans that are eligible for purchase by Fannie Mae and Freddie Mac. As a result, some loans that wouldn’t normally meet the QM criteria, including loans with higher debt-to-income ratios, have been able to be counted as such.

    “If we had to extend the QM patch, I would consider that to be a failure on the part of Washington regulators.”
    The different sets of rules for different entities has led to a “tremendous amount of uncertainty in some of the underwriting,” Calabria said.

    Calabria said there should be one set of rules in place before the patch expires in 2021.

    “My hope would be… that we get to a spot where we have a QM that works for everybody,” he said.

    But Calabria drew a red line at suggestions by some that the patch merely be extended.

    “If we had to extend the QM patch, I would consider that to be a failure on the part of Washington regulators,” said Calabria.

    Protecting small lenders
    At his April 15 swearing-in ceremony, Calabria emphasized that his primary goal was to cement the “tremendous progress” FHFA has made since its inception in 2008.

    One of those areas is preserving the access for small lenders to Fannie and Freddie. Prior to the crisis, small banks frequently complained about the volume discounts Fannie and Freddie would offer to large banks, including Bank of America Corp. and Countrywide. As a result, large banks frequently paid lower guarantee and other fees.

    But the conservatorship put an end to that practice, and Calabria has no intention of bringing it back in a post-conservatorship world.

    “Personally, I think the fundamental reason for Fannie Freddie and the Federal Home Loan Banks is for small institutions to have access,” he said. “What can we hardwire in so that we don’t see a return to the days where Countrywide pays 12 basis points and your small lender pays 20?”

    His long-term goals also include solidifying the respectful and cooperative relationships the GSEs have with FHFA, which were lacking in the pre-crisis period with FHFA’s predecessor.

    “Some of it was the regulator didn’t have the tools they needed, the regulator wasn’t respected, not just by the entities but also by Congress,” he said.

    That has changed since the crisis, but he wants to make sure it doesn’t relapse when the GSEs are private again.

    Digital banking
    November 30, 2018
    “I know it’s a lot harder to lock culture in place than it is anything else but I think it’s a critical part of what I’m going to be trying to achieve,” he said.

    And although there are still some calls to wind down Fannie and Freddie completely or fold the mortgage giants into a replacement, Calabria, for one, believes Fannie and Freddie aren’t disappearing anytime soon.

    “I certainly fully expect at the end of five years there still to be a company named Fannie Mae and a company named Freddie Mac,” he said.

    Liked by 1 person

    1. My policy on this blog is not to accept comments that include full reporting of material from another source, but this article by Hannah Lang of the American Banker apparently cannot be linked, and it contains a comprehensive set of statements by FHFA director Calabria that I felt readers would find informative. Among these are Calabria’s view (and hope) that the mortgage reforms requested by the president last month could trigger Congress to act should it conclude that the administrative reforms Treasury has been asked to propose “[go] in the wrong direction,” and also his flat statement at the end of the article that, “I certainly fully expect at the end of five years there still to be a company named Fannie Mae and a company named Freddie Mac.”

      Liked by 1 person

      1. This is the positive side of Lamberth’s original ruling, where he made the case that the plaintiffs’ argument is with Congress, not FHFA or Treasury. Calabria is putting the extra-HERA actions back where they belong.

        Liked by 1 person

    2. Calabria: “…I think it will absolutely require a conversation and an agreement between FHFA and Treasury on what are other avenues for raising capital,” Calabria said.”

      no kidding. the more I read Calabria’s interviews, the more I believe he has no clue as to what is involved in the path to releasing the GSEs from conservatorship (ie raising $150B). I have come to the conclusion that this is good, that because he is clueless, Treasury and Mnuchin will drive the whole process. that FHFA will have nothing to add (and with Calabria’s constant refrain about introducing competition, much to detract unfortunately). I will have to put aside my extreme distaste for academics who become bureaucrats with no real-life experience (one would think the regulator for $5T of mortgage finance assets had some real business experience in the mortgage finance industry), and put away the fine china lest I begin smashing objects within reach.


      Liked by 1 person

  3. Section 1117 amendment is regarding a treasury asset purchase program, Where Treasury can buy assets from the GSE balance sheet,nothing to do with Warrants.


    1. That is incorrect. The entire PSPA and warrant are based on treasury temporary authority from 1117, which is now part of the Fannie Mae charter. Page 1 of the PSPA states this. The PSPA and the warrant together are considered the entire agreement, so that amendment applies to both.


      1. I don’t have a subscription to the Wall Street Journal, but someone who does sent me the article.

        This is shaping up to be a fascinating exercise, which I’ll probably do a post about.

        The March 27 White House memo directed Treasury to come up with a plan to get Fannie and Freddie out of conservatorship “as soon as practicable” (according to this article Mark Calabria thinks that will be “around June”). Prior to that, many people are going to want to go public with their ideas on what should be in that plan. Calabria’s statements in the WSJ article show how challenging it’s going to be for Treasury to balance all of the input it will get from important constituencies and stakeholders and come up with something workable.

        The quotes and attributions in this article make me wonder if Calabria realizes what he and Treasury Secretary Mnuchin are being asked to do. Calabria first says he wants to end Fannie and Freddie’s conservatorship and return the “stronger, healthier companies” to private hands. But at the same time he says he thinks part of his job is to “urge Congress to act” because “I think we should go to a different model.” The WSJ reporters expanded on what he meant, saying, “He hopes to eventually tear up the firms’ federal charters and put them on a level playing field with would-be competitors.”

        I could see an informed and inquisitive reporter (of which there aren’t too many out there) following up by saying, “So, let me see if I understand what you’re saying, Mr. Calabria. You and Secretary Mnuchin are going to try to raise $100 billion or so from investors to recapitalize Fannie and Freddie and then, once they’re freed from conservatorship, you’re going to turn around and try to eliminate the charters that give the companies their market value. Don’t you think, if investors really believe that’s your plan, they might be reluctant to pony up the capital you’re hoping to raise, particularly in light of the way FHFA and Treasury have treated Fannie and Freddie’s existing shareholders over the last dozen years?”

        Secretary Mnuchin would do well to get his team together—both his financial advisors and those within the administration who have a stake or say in the recap—to not only discuss ideas on how to balance all the competing objectives they’ve been given for removing Fannie and Freddie from conservatorship, but also to emphasize the importance of messaging (or ideally, no interim public statements at all by key officials until they’ve agreed on what everyone should be saying).

        Liked by 4 people

        1. Tim, thank you so much for your insight. Can you elaborate on some of the additional points such as:

          1. Working with Congress to end conservatorship, is this the usual party line or does he really think that this Congress or the next will be able to pass something to end a divided and controversial issue such as F&F conservatorship?

          2. In the article, he basically says he will not end the sweep. First of all, isn’t Calabria the one who stated the current sweep is unlawful? How does this statement not contradict himself and put him the same category as Watt? Secondly, how does this statement inject confidence to the potential investors? Can you share with us your opinion on this particular statement? Is Mnuchin behind this?

          My opinion is that the Administration won’t go alone on this. Out of the 3 branches of the government, if they are the only branch that acted, this will simply put too much pressure on these guys and will alienate themselves from some of the current allies. Since Congress is hopeless, we desperately need the court to give us a favorable ruling. Or else my fear is this conservatorship will never end.


          1. On (1), I think Calabria is just expressing the same view he’s held for years, without connecting it to the political realities that have impeded replacing Fannie and Freddie over the last ten-plus years. He needs to realize that doing that as Director of FHFA has broader implications than doing it as Pence’s chief economist or as an advisor at the Cato Institute. On (2), he didn’t say he wouldn’t end the sweep, only that he wouldn’t do so unilaterally. The WSJ article reported Calabria as saying, “the change [ending the sweep] could be considered as part of a separate package of changes negotiated with Treasury…” I think that’s the right way to do it.

            On your opinion of Treasury and FHFA “not going it alone,” the White House memo was pretty clear on that being what they intend. Whether they can do it successfully is another matter. Self-contradictory comments by Calabria (or others in a position to influence the outcome) don’t help.


          2. Tim

            Calabria has no clue what it is like to raise big time (or for that matter, small time) money on Wall Street. Housing policy “experts” like Parrott, Demarco, Pinto etc are even more clueless.

            On the other hand, Mnuchin does get it. this is a melodrama that usually gets played out in private, where the cherished hopes and dreams of private company ceos are dashed on the shores of investment banking reality. with the GSEs the ugly truth will be more visible…that truth is that you cant raise money shooting yourself in the foot, let alone a more life-threatening appendage.

            talk is cheap, and talk about raising >$100 billion of money while seriously tinkering with the GSEs business model is stupid. Calabria will learn his lesson publicly and the more he talks the more he will be embarrassed.

            Liked by 3 people

          3. From the WSJ:

            “I see my goal as setting a path to end the conservatorship… they have to be stronger, healthier companies” compared to before the crisis.

            “My objective is to get us to a spot where we don’t have to worry about the system blowing itself up…”

            What’s telling is Calabria knows the system didn’t blow up – because he knows the strength of the GSEs pre “crises”’as well as Paulson’s shenanigans and the rationale behind them. He knows why the narrative kept getting promulgated through the Obama years, and he knows the sweep is unethical and contrary to HERA. When I add it all up, it appears to me he’s an opportunist for his personal ideology. He’s willing to sacrifice truth and principle for personal convictions, but he won’t be able to bring his utopia to pass for concrete, financial market reasons. Sad that he is being interviewed without having been schooled by Mnuchin on the basics.


        2. Sounds reasonable to me…Mnuchin would most definitely choose a Candidate with absolutely 0 knowledge of his stance or loyalty while he was working along side of Vice President Pence. There is NO chance that a conversation or understanding of where the intentions/plans of the Treasury could be discusses prior to his nomination. Nope, none at all…Calabria was brought in with full knowledge that he will be a maverick, a cowboy, a principled man that will ONLY bring his libertarian mindset to the solve this issue. That’s how Watt was nominated, he wasn’t appointed by an administration that had no idea where he stood not one clue.


      2. Sorry that’s misleading…he did not say he “will not end Net Worth Sweep” he said he has “no immediate plans” to do so. More importantly the message has never changed even with the sub par journalism we witnessed today…The message we heard from Mnuchin on day 1, through both his appointees, Otting then Calabria…is the intention to End Conservatorship. Which I’m pretty sure CANNOT happen without ending the NWS. The message never changed, this article was convoluted and misleading nothing more…Before I sign off THANK YOU Tim for always answering our questions and being a beacon when even the torchbearers douse their flames.


    1. “Such a move would allow the firms to keep profits and begin to build up capital, eventually operating without taxpayer support. The change could be considered as part of a separate package of changes negotiated with Treasury, he said, adding he doesn’t wish to amend the existing arrangement more than once. Allowing the pair to retain their profits is widely seen as an initial step toward ending the conservatorship.”


      I realize it isn’t likely that the Treasury is setting aside quarterly sweeps in an interest bearing escrow account, but each time I read that statement, I do wonder whether the Treasury has a plan to return profits in excess of the infusion (plus usury), according to one of the two(?) considered ways of recasting the loans. As stated, they only want to amend the terms once.

      Aside from the possibility of a favorable 5th Circuit ruling in this regard, I’ve thought this for a long time for one primary reason. It’s glaringly arbitrary to call the loan paid in full on any given quarter without an accounting of the payments. Arbitrary because, that would mean that the more dysfunctional the government, the greater its windfall. The more it delays reform, the more revenue it takes in for other programs, which is the very thing Mnuchin criticized Obama for doing. If all accounting gets ignored, then pure “happenstance” dictates the profit for the Treasury? I just don’t see Mnuchin as being that unconcerned with details and loose ends.

      Also, if the Treasury plans to exercise the warrants, wouldn’t it be a much more palatable for all stakeholders (and defensible in court) if they didn’t take 80% of the common in an additional to 60 billion(?) in sweep over-and-above principal and interest?

      Lastly, by using the overage for recapitalization, there’d be less dilution of commons and also a quicker path to RV for preferred, which is the best way to settle law suits while avoiding new ones. The sweetener for the Treasury is it serves to protect their money grab of the commons.

      I’d appreciate your thoughts on mine.


      1. If Treasury (with FHFA’s concurrence) were to cancel the net worth sweep prior to a ruling by the Fifth Circuit en banc, I believe it would do so by characterizing all sweep payments in excess of the 10 per cent annual dividend as reductions in principal of Fannie and Freddie’s outstanding senior preferred stock, as plaintiffs have requested. Treasury would not cancel the sweep without a settlement of the lawsuits, and I believe plaintiffs would accept those terms (since that’s what they would get if they win Collins) in a settlement. I don’t see Treasury having an incentive to do anything on the warrants other than to exercise them at the stipulated strike price (one one-thousandth of a cent per share), then sell them in amounts and a timing that maximize their dollar proceeds. And while Fannie and Freddie may not get any “overage” from a less-than-full exercise of the warrants, if the sweep is canceled following the method noted above, as of today Fannie would get $10.3 billion in credits against future federal income taxes for the excess sweep payments they’ve made to Treasury after having fully paid down their senior preferred, and Freddie would get $10.6 billion. These credits will allow both companies to recapitalize faster, through retaining all of their pre-tax earnings as capital until the credits have been exhausted.


          1. Before, so that potential buyers of the new equity will have a better basis for evaluating the value of the shares. But I don’t think Treasury would sell any of its shares acquired from exercise of the warrants until after the capital raise has been completed.

            Liked by 1 person

          2. In my view the warrants are the main obstacle to raising capital. They increase the outstanding share count and reduce EPS numbers which in turn reduce share price.This will eventually lead to a reverse split and my experience with reverse split (AIG) is not great. In AIG investors who bought before the reverse split still have not recouped their cost.

            Liked by 1 person

          3. I agree that exercising the warrants will make the recapitalization of Fannie and Freddie (much) more challenging, but I’ve seen no indication from any quarter that Treasury is considering either exercising fewer than the full amount of the warrants it granted itself in 2008, or exercising them at a higher strike price.


          4. I’m not seeing how exercising the warrants first affects the viability of the capital raise. Why would the new investors care whether Treasury owns 79.9%, 0%, or anything in between, of whatever they do not demand for themselves in return for providing the recap money?


          5. Whether Treasury exercises none, some or all of its warrants, and the price it pays for them, will determine (a) how many shares of Fannie or Freddie stock are outstanding prior to the capital raise, and (b) how large the capital raise will have to be (if Treasury elects to pay more than 1/1000 of a cent for each share, whatever extra amount it pays would go to the companies as capital, reducing the amount they have to raise). Both the amount of shares already outstanding and the dollar amount of the capital raise will affect the price investors will be willing to pay for the new shares of equity. For that reason, prior to the equity raise Treasury will either exercise all of its warrants, or make a binding commitment as to how many it will exercise and what price it will pay for them, to give new investors certainty on these two critical inputs for the pricing of the new shares being raised.

            Liked by 1 person

        1. Tim

          A necessary part of any IPO is a battle between existing shareholders and new investors, in essence a zero sum pricing game for the largest piece of the pie possible at the time of the IPO. the GSE recap will resemble an IPO in this regard.

          while the existing shareholders includes common and junior preferred (assuming for a moment that the plan will seek to force junior pref holders to convert, perhaps by coercion by means of exit consents), existing holders also include, as the largest holder, Treasury. moreover Treasury is a nonconventional holder, in the sense that it has an incentive structure that is not solely characterized by maximizing return, but also includes the policy goal of trying to get the GSEs out of conservatorship. while fhfa as conservator represents existing shareholders, current shareholders have a seat at the table given the litigation which must be settled by the current shareholders. so many players with mixed incentives seeking to execute a difficult capital raise under public (and partisan) scrutiny.

          this is a complex, combustible mix, made only more difficult by the magnitude of the capital sought to be raised.

          Calabria has evidenced (to my eyes) no appreciation for the difficulty and complexity of the capital raising job he has signed onto, and the more he talks the harder this capital raise will be to execute.

          herewith a prayer that calabria gets to work and grants no more speaking opportunities.


          Liked by 1 person

          1. People have speculated to me privately that Calabria, egged on by Larry Kudlow, is making these statements with the goal of torpedoing the recap. I don’t believe that’s true. I believe he genuinely thinks he’s being “neutral,” and therefore helpful. He should, though, just be quiet.


          2. right. my guess is that he wants to be the smartest guy in the room, and there must have been a room at Cato where he was, but he needs to realize that like Dorothy, he’s not in Kansas (or at Cato) anymore


        2. Thank you, Tim. That’s not a bad worst case scenario. I trust they’ll maximize warrants in a manner similar to Moelis, though I’m still not sure that all the warrants will be exercised. Maybe that’s just naive wishful thinking. 🙂


          1. @ron

            because treasury has a mixed incentive structure (1. wants a successful capital raise as a matter of public policy so GSEs can exit conservatorship, and 2. raise money for Treasury coffers), and because the likelihood of a successful capital raise increases to extent less than all of the warrants are exercised, I imagine there will be a discussion at Treasury as to whether to limit its full exercise of warrants. (Treasury’s investment banker will also have an incentive to have a successful capital raise for reputational purposes). that would be an interesting fly-on-the-wall moment when that discussion occurs.


            Liked by 1 person

  4. Tim

    this may be too far into the legal weeds, but there is a distinction made in this blog piece between “wooden” textualism and “conventional methods” textualism in connection with statutory interpretation in a recent SCOTUS case: https://www.lawliberty.org/2019/04/19/justice-kagan-recognizes-legal-meaning-as-the-proper-object-of-interpretation/. wooden textualism is exactly what Judge Lamberth did in Perry construing the single word “may’ as the supreme textual linchpin of HERA, rather than analyze how these same statutory words and scheme were interpreted by courts and practiced by the FDIC in prior FDIC cases. Likewise with Judge Millet on appeal, with judge Ginsburg following on for reasons known only to him. but it is precisely prior interpretive understandings of what conservators are charged with doing, under identical statutory language, that was focused upon by the 5th circuit en banc in Collins oral argument, most notably judge jones. this is a good interpretative lens to see why the 5th circuit en banc is likely in my view to come out differently than other circuits.


    Liked by 3 people

    1. I agree, although I wouldn’t even grant Judge Lamberth’s and Judge Millett’s interpretation of the use of the word “may” in HERA the legitimacy of the term “wooden textualism.” To me it was indefensible, since the alternative formulation that FHFA “SHALL conserve the companies’ assets” could not have been used for the simple reason that there can be no assurance that the efforts of a conservator won’t fail and need to be followed by receivership. There also is the obvious inconsistency between the existence of a host of specified duties of a conservator in HERA and the fact that reading the word “may” as being discretionary makes this comprehensive list of duties irrelevant. For these and other reasons, I would be very surprised if the Fifth Circuit en banc does not rule in favor of the plaintiffs on the illegality of the net worth sweep.

      Liked by 5 people

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