Prepared Remarks of Melvin L. Watt Director FHFA at the Goldman Sachs Housing Finance Conference
Remarks as Prepared for Delivery
Melvin L. Watt, Director
Federal Housing Finance Agency
Goldman Sachs Housing Finance Conference
New York, NY
March 5, 2015
It is a pleasure to be here with you this afternoon. Thank you for the opportunity to discuss the work underway at the Federal Housing Finance Agency (FHFA) to fulfill our statutory mandates, which include ensuring the safety and soundness of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks and ensuring liquidity in the housing finance markets.
It feels to me like I’ve been on the job as Director of the Federal Housing Finance Agency for a lot longer than one year. It probably feels that way to me because we’ve been really busy this past year, and I believe our work is moving things in the right direction. But, I also know we have a lot more to do. My remarks today focus on Fannie Mae and Freddie Mac (the Enterprises) and on some of the challenges in the housing finance market, how we’ve approached confronting some of those challenges in my first year on the job, and how we plan to approach them going forward.
The annual Conservatorship Scorecard is FHFA’s mechanism for laying out our priorities and expectations for the Enterprises and our means of providing transparency to the public about what we expect. While it took us a lot longer to release the 2014 Scorecard, FHFA released the 2015 Scorecard early in January of this year. The 2015 Scorecard continues to be structured around the same general goals we had in 2014: Maintain, Reduce, and Build.
Under our first major goal, Maintain, there are no surprises in 2015. On the single-family side, we simply want to continue two objectives:
- Maintaining, promoting and expanding access to credit in a safe and sound manner; and
- Continuing to improve the Enterprises’ loss mitigation and foreclosure prevention activities.
On the first objective, FHFA and the Enterprises made a lot of progress last year on improving access to credit. We did this by updating and clarifying the Representation and Warranty Framework used by the Enterprises to ensure that the loans they purchase meet their underwriting guidelines. We also updated the foreclosure timeline and compensatory fee methodology under which mortgage servicers are held accountable for meeting loss mitigation and foreclosure process standards. We believe that providing lenders greater certainty about when and under what circumstances they would be required to repurchase or take loans back onto their books and providing servicers updated guidelines about when they would be required to pay compensatory fees has moved the availability of mortgage credit in the right direction. We expect the Enterprises to continue these efforts in 2015.
We’ve also turned our attention to another important effort, updating and enhancing the Enterprises’ counterparty standards for mortgage servicers. Changes in the servicing industry have resulted in the growth of nonbank servicers and increased levels of mortgage servicing transfers. While FHFA and the Enterprises do not regulate servicers, it is extremely important for the Enterprises to clearly define and communicate their Seller/Servicer eligibility requirements.
To this end, FHFA recently released proposed minimum financial eligibility standards the Enterprises will require servicers to meet. The standards set minimum net worth requirements for all servicers who work with the Enterprises, as well as capital and liquidity requirements targeted specifically for nonbank servicers.
Strengthened Enterprise servicer counterparty standards will help improve access to credit by reducing market uncertainty about Enterprise expectations for mortgage servicer counterparties. Consistent with our normal process, FHFA is collecting extensive stakeholder feedback on the proposed guidelines, and we expect to be able to finalize these requirements in the second quarter of this year and have them become effective six months after they are finalized.
Under the Maintain portion of the Scorecard, we also want the Enterprises to continue to improve their loss mitigation and foreclosure prevention activities in 2015. Again, we made progress in 2014, and – in a number of ways – the housing and foreclosure crisis has evolved. However, meeting mortgage obligations and staying one-step ahead of foreclosure continues at crisis levels for many individuals and families across the country and in many neighborhoods. There are still many borrowers who have been delinquent on their loans for extended periods of time – sometimes more than two or three years. In fact, over half of all delinquent loans held or guaranteed by the Enterprises are at least one-year delinquent. As of the third quarter of last year, this subset of delinquent loans totaled almost 300,000 loans with an unpaid principal balance of approximately $54 billion.
Consequently, we have directed the Enterprises to make significant efforts in 2015 to reduce the number of severely delinquent loans they hold and to do so in a responsible way. The sale of non-performing loans (NPLs) is one of the key tools we believe the Enterprises can use to meet this Scorecard priority. By engaging in NPL sales, the Enterprises are able to transfer pools of severely delinquent loans to new buyers and servicers. When done in a responsible way, these new buyers and servicers will have the capacity, self-interest and track records to successfully provide foreclosure alternatives to borrowers who are seriously delinquent. While NPL sales will not prevent foreclosures in every instance, we do expect NPL sales to produce better outcomes for borrowers, on the whole, than the status quo.
In recent months, FHFA has been vigorously working to define and test requirements for future NPL sales that will set the right balance of supporting positive outcomes for borrowers and neighborhoods while also supporting positive financial outcomes for the Enterprises. Standards that encourage successful foreclosure alternatives – including loan modifications, short sales and deeds in lieu of foreclosure – will not only be better for borrowers but will also yield better economic outcomes for the Enterprises and for taxpayers compared to keeping seriously delinquent and non-performing loans on the Enterprises’ books.
Earlier this week, FHFA released new requirements for future NPL sales by Freddie Mac and Fannie Mae. These requirements build on FHFA’s review of two pilot NPL transactions conducted by Freddie Mac in recent months. These transactions involved approximately $1 billion in loans with average delinquency rates of more than two and a half years.
The new requirements will necessitate substantial outreach by the Enterprises to identify bidders who are willing and able to meet established modification and loss mitigation standards, which include evaluating borrowers who have pre-2009 loans for the alternatives to foreclosure offered through the U.S. Department of the Treasury’s Making Home Affordable program and having foreclosure as the last alternative in the loss mitigation waterfall. We are also requiring winning bidders to track and report what happens with borrowers so FHFA and the Enterprises can monitor and document the success of the program.
Our second 2015 Scorecard objective is to continue to Reduce risks to the taxpayers by increasing the role of private capital in the mortgage market. 2014 was a breakthrough year for the Enterprises’ single-family credit risk transfer program. What began as a handful of transactions during the second half of 2013 has evolved into programs of regular debt issuances that have gained broad market acceptance. These programs are known as STACR for Freddie Mac and CAS for Fannie Mae. The ability and willingness of the Enterprises to provide historical loan performance data has greatly enhanced the ability of the market to achieve pricing that both serves the interests of investors and allows the Enterprises to meet their financial objectives.
FHFA tripled the credit risk transfer requirement in the 2014 Scorecard compared to 2013, requiring each Enterprise to transfer a portion of credit risk on single-family mortgages with an unpaid principal balance of $90 billion compared to the $30 billion requirement in 2013. Both Fannie Mae and Freddie Mac significantly surpassed last year’s benchmark by executing credit risk transfer transactions on mortgages with a combined UPB of over $300 billion.
The Enterprises also made significant progress last year in refining their risk transfer transactions. In May 2014, Fannie Mae completed the first transaction providing credit protection on mortgages with loan-to-value ratios from 80 percent to 97 percent, and Freddie Mac completed its first transaction with LTVs between 80 to 95 percent in August 2014. Prior to that, both Enterprises had conducted transactions only for loans with LTVs between 60 to 80 percent.
In 2014, the Enterprises also offered transactions that targeted private capital in the insurance and reinsurance markets. Freddie Mac completed three reinsurance deals, and Fannie Mae completed one.
Building on this success, FHFA again increased the credit risk transfer requirement in the Enterprises’ 2015 Scorecard. Subject to market conditions, we expect Fannie Mae to complete transactions on single-family mortgages with an overall UPB of $150 billion, and Freddie Mac to complete transactions with an overall UPB of $120 billion. The 2015 Scorecard also imposes some different obligations in the risk transfer space:
- First, we also want the Enterprises to continue to refine and innovate in their existing credit risk transfer structures. For example, Freddie Mac completed a STACR transaction earlier this year that transferred the first loss piece of credit risk to investors. This differs from other structured debt issuances where the Enterprises have held on to the first loss while transferring intermediate layers of credit risk to investors.
- Second, we want the Enterprises to continue to develop methods of conducting credit risk transfers that involve working with different kinds of market participants. We think there is significant value in exploring different approaches and investors, because it could provide the Enterprises with a greater ability to transfer credit risk during changing market conditions.
- Finally, we also want the Enterprises to increase their attention to diversity and inclusion in risk transfer transactions by engaging with minority-, women-, and disabled-owned businesses.
You can see that there should be multiple opportunities for private sector involvement in the risk transfer space in 2015. So, I hope I can count on many of you and the companies and investors you represent to take advantage of these opportunities to put more private capital to work. We welcome your input on how we can continue to make this happen and be mutually beneficial to you, the Enterprises and taxpayers.
Finally, let me spend the balance of my time talking about the Build component of the Enterprises’ 2015 Scorecard in which our objective is to continue to make progress on building a new securitization infrastructure for the Enterprises that is adaptable for use by other secondary market participants in the future. This means continuing our progress on the Common Securitization Platform (CSP) and on moving toward a Single Security. Both of these multi-year initiatives are highly interrelated. While we are making significant strides on both the CSP and the Single Security, I’d like to focus my comments today on the Single Security.
Last year was the first time that FHFA included the development of a Single Security as part of our conservatorship priorities for the Enterprises. Our objective in adding this multi-year project to the agenda is to improve overall liquidity in the market, which will not only be beneficial to the Enterprises and other market participants, but will also benefit borrowers. It would also benefit taxpayers by reducing Freddie Mac’s costs that result from the trading disparity between Freddie and Fannie’s securities.
During the past year, FHFA and the Enterprises have been engaged in a transparent process about a Single Security structure. To get feedback from stakeholders, FHFA released a Request for Input in August of 2014 in which we proposed certain features, disclosures, and processes to define how a Single Security could operate and how the transition to this new structure could take place. Since August, FHFA has been reviewing the responses we received and continuing conversations with stakeholders – including investors, trade associations, lenders, and regulators – about FHFA’s proposal and related issues.
As we move the process forward in 2015, a high priority will be to provide increasing levels of detail about the Single Security. In the feedback we received in response to our Request for Input and in our conversations with stakeholders, we heard the strong message that additional information and greater clarity is needed about security features and disclosure standards, about transitioning legacy securities to the Single Security, about the counterparty status of commingled re-securitizations, and about a range of other potential issues.
We heard these concerns, and we will provide more details in an update report that we expect to release in the second quarter of 2015. While the Single Security remains a multi-year initiative, we believe this update report will be a significant milestone in defining the structure and processes necessary to successfully transition to a Single Security in the future.
FHFA has also required the Enterprises to develop preliminary plans about how to implement the Single Security in the market. We expect this to be a particular focus for the Enterprises during the second half of the year. Just as we have approached the rest of our efforts on the Single Security, these implementation plans will not be developed in a vacuum. Instead, FHFA and the Enterprises will gather feedback and input from market participants as these plans develop and evolve.
What I have tried to do today is to provide some highlights just about the priorities included in the 2015 Scorecard. Of course, this just “scratches the surface” of the work we are doing at FHFA as regulator and conservator of Fannie Mae and Freddie Mac and as regulator of the 12 (soon to be 11) Federal Home Loan Banks. I’d be happy to take questions or comments about the things I have spoken about or about the other work we are doing. Thank you for the invitation to be with you today, and I look forward to your questions.