Freddie Mac’s CRT takes centre stage
Over the last eight years and $80bn in transactions, Freddie Mac’s Credit Risk Transfer (CRT) programme has gone from strength to strength. Now, having proved its mettle through the Covid-19 crisis, the issuer is looking ahead to product innovation and the prospect of major regulatory change.
Since its inception in 2013, CRT has grown into a highly desirable asset class and become one of Freddie Mac’s key tools in protecting US taxpayers from risk. But although it was created in response to the 2008 crash, the programme had never weathered global financial turmoil - until the Covid pandemic struck.
“This was really the first time that the CRT programmes and their securities were tested, along with Freddie Mac’s ability to manage an unforeseen crisis,” said Mike Reynolds, vice president of credit risk transfer.
The ensuing liquidity crisis struck all asset classes, but despite plunging prices and forced margin calls the secondary CRT market never shut. Using a mixture of new and existing loss-mitigation, forbearance and deferred payment programmes, Freddie supported borrowers and demonstrated vital expertise and flexibility in how to manage risk. The result was that by June 2020, the issuer was reigniting the primary market with fresh deals and welcoming new participants.
“It reinforced the high level of confidence investors have in our competence as an active credit risk manager,” says Reynolds.
This was really the first time that the CRT programmes and their securities were tested, along with Freddie Mac’s ability to manage an unforeseen crisis
Freddie cemented its place as a market champion despite facing another headwind – this time on the regulatory front. The Federal Housing Finance Agency (FHFA) – Freddie Mac’s regulator and conservator – introduced new capitalisation rules in 2020 that took effect in February 2021. When it came to CRT, these rules required additional capital to the extent that the issuer was forced to re-evaluate its whole programme.
“In the end we determined it still made sense to issue CRT although probably at lower levels – not transferring the same volume of risk that was coming in the door,” says Reynolds. But then in September of 2021 the FHFA issued amendments that, if finalised, will significantly improve the economics of CRT issuance. The amendments include increasing capital relief for CRT, lowering credit risk capital requirements on pandemic-affected single-family mortgage borrowers and essentially better-aligning Freddie Mac’s capital requirements with those of other market participants.
This would be a welcome boost at a time when the issuer is working on adapting CRT to new challenges like climate change and sustainability. “We’re looking at what we could be doing to align CRT with different investor mandates,” says Reynolds. “Whether that’s supporting energy financing, climate resiliency or anything else across the ESG space. We are reaching out to investors to see what changes we can make.”
When it comes to coping with risk the issuer has scale on its side. Freddie’s programmes are designed to pool 100,000 or more mortgages together on a national scale. As a result, when disasters strike the net impact on a mortgage pool is very small. Even large-scale events result in losses of only a couple of basis points.
This focus on addressing emerging risks occurs against a backdrop of constant innovation across its CRT platforms. In September, the issuer announced an inaugural tender of seasoned Structured Agency Credit Risk notes - helping it manage its portfolio and stabilise the secondary market. Recent structural innovations include early call options and a 20-year final legal maturity. Freddie Mac has also made enhancements in response to lessons learned from the 2008 crash and the pandemic.
“We find the best way to minimize losses is to offer modifications to the borrower,” says Reynolds. “It reduces foreclosures, which is good for the borrower, the neighbourhood, us and our investors.” The deferred payment programme that the issuer used to help borrowers during the pandemic, he adds, will now be counted as a modification event going forward.
In the short term, Freddie still has high guaranteed volumes of CRT transactions through its MBS programme. Rising interest rates could curb issuance, but over the longer term the economic fundamentals in US residential property are exceptionally strong.
Millennials are the country’s largest generation and coupled with historically low rates of home ownership, the demand dynamics for mortgages looks to be healthy for some time to come. Indeed, with an ever-growing investor base and consistent oversubscription, Freddie’s CRT programme will continue to channel global funds into a thriving market.
“We’re at over 290 unique participants in the programme and a really broad distribution,” says Reynolds. “We absolutely want to be pulling more capital into this highly attractive space.”