GSEs finally face up to change, 10 years on from crisis
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GSEs finally face up to change, 10 years on from crisis

It has been more than a decade since the US government nationalized Fannie Mae and Freddie Mac, the government-sponsored enterprises at the heart of US housing finance. Private sector advocates have hotly contested their conservatorship — without results — but 2019 be the year that that changes.

While there have been few substantive initiatives to privatise the US housing government sponsored entities (GSEs), guidance from the US Treasury and the appointment of a new regulator in 2019 suggest that change is looming for the agencies that have assets roughly equal to 20% of US GDP. 

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“The consensus in Washington is that the current status of the GSEs is not sustainable. Even if legislative reform proves difficult, the US Treasury has made clear that it will pursue administrative reforms that will significantly scale back GSE market share,” says Raghu Kakumanu, senior vice president of public policy at Wells Fargo in Washington DC. 

Much attention has been paid to the appointment of a new director this year at the Federal Housing Finance Agency (FHFA), the regulator that looks after the activities of the GSEs. Mel Watt, a Barack Obama appointee, is expected to leave the post when his term expires in February. Fannie Mae and Freddie Mac have, or will have, new CEOs, which could finally bring transformation a decade after the financial crisis.

Once vetted by the US Senate, the new Donald Trump-appointed director is widely expected to promote policies that would see the GSEs step back from the secondary markets and better allow for private capital to re-enter mortgage finance.

That is especially true in the multifamily market, where regulatory caps on GSE multifamily financing have been largely evaded through exemptions. Those caps were put in place by Ed DeMarco, acting director of the FHFA from 2009-2014.

“The utility of the multifamily caps has been eroded thanks to so many exemptions,” says Isaac Boltansky, director of policy research at Compass Point in Washington, DC. “Each GSE is doing almost double what its cap mandates. You’ll almost certainly see a narrowing of these exemptions.” 

Edward Pinto, head of housing policy at the American Enterprise Institute, a Washington think-tank with ties to the Republican Party, says: “There should be certainly be a rollback in the multifamily sector. The GSEs claim that they’re active in making this market more affordable. But there’s no proof that they actually help to lower rents, full stop. That’s because their multifamily programmes are mainly cash-out refis. To me, it’s unclear why taxpayers should be guaranteeing this line of business business.” 

Loan limit reform?

The new director may also ramp up limits on the size of mortgages eligible for purchase by the GSEs and the price of guarantee fees that ensure investors will be repaid even if the mortgage holder defaults. “Encouraging private capital to come into US real estate will include reforms to loan limits and fees at the GSEs, says Boltansky. “There’s a fear of loan limits being reduced, although what we’re more likely to see is a higher loan-level price adjustment grid. That’s a less blunt instrument than adjusting loan limits themselves.”

But even if the GSEs’ footprint is reduced under new leadership, there is broad recognition that the business of Fannie and Freddie has expanded remarkably over the past five years even while the GSEs have remained under direct state control.

By pioneering programmes like credit-risk transfer, the GSEs have helped the private label RMBS market grow while transferring risk away from taxpayers. Issuance for credit risk transfer deals has ticked up by roughly $1bn to $7bn this year.

“Losses are still minor on CRT deals and the bonds are still trading at a premium, especially as they’re all floaters in a rising-rate environment,” says Tracy Chen, an asset manager and CRT investor at Brandywine Capita in Philadelphia. 

In 2018 there was a big development in the credit-risk transfer market as Reits were allowed to participate in a new form of CRT deal that marketed the debt as REMIC-eligible, as opposed to corporate debt issued through Fannie Mae. 

Likewise, the FHFA-driven Uniform Mortgage Backed Security (UMBS) initiative has helped to engineer a big change in housing policy. The UMBS involves the creation of a common securitization platform through which both Fannie and Freddie will deliver securities to investors on the TBA (to be announced) market. The FHFA has established guidelines on prepayment speeds and underwriting that will ensure the uniformity of all securities with the title of UMBS, regardless of which agency issues the bond.

The common platform is a possible framework for re-privatising the GSEs and opening up the RMBS market to private capital. If Fannie and Freddie could still be privatised and deliver UMBS by conforming to the FHFA’s standards, others might sign up and issue on the same platform. 

The first UMBS will be issued on June 3 2019.

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