On Sunday, Senate lawmakers unveiled the 442-page plan that will eliminate the mortgage-finance giants; replacing them with a new system in which the government would continue to play a potentially significant role insuring U.S. home loans. The Johnson-Crapo bill would, as WSJ reports, construct an elaborate new platform by which a number of private-sector entities, together with a privately held but federally regulated utility, would replace key roles long played by Fannie and Freddie.
Fannie and Freddie don’t make loans, but instead buy them from lenders, package them into securities, and sell those bonds to investors. They guarantee to make investors whole if loans default, attracting a diverse range of investors to the U.S. mortgage market.
The Senate bill would repurpose the firms’ existing regulator as a new “Federal Mortgage Insurance Corp.” and charge the agency with approving new firms to pool loans into securities. Those firms could then purchase federal insurance to guarantee payments to investors in those bonds. The FMIC would insure mortgage bonds much the way the Federal Deposit Insurance Corp. provides bank-deposit insurance.
Mortgage guarantors would be required to maintain a 10% capital buffer against losses and to have that capital extinguished before the federal insurance would be triggered. Those private firms, which could include banks or insurance companies, would issue a single security through the government-regulated platform. Different components of Fannie and Freddie could be sold to seed both new guarantors and the mortgage-securitization platform.
Shares of the firms’ common stock dropped sharply last Tuesday, when lawmakers announced that they had reached agreement on broad outlines of the bill. Still, several large investors have said that they’re invested for the long haul, either because they believe Congress isn’t likely to reach agreement or because they believe courts will invalidate the government’s ability to seize all of the firms’ profits as dividend payments.
If courts rule that the government overstepped its authority in revamping the bailout terms, Fannie and Freddie would be allowed to retain any profits after paying a 10% dividend to the government—currently around $12 billion annually for Fannie and $7 billion for Freddie. A court win would increase prospects for shareholders to enjoy returns in any liquidation of Fannie and Freddie because the companies would again be able to retain profits.
For now, it seems, the market believes the bill (or some form of it) will be enacted…
Still confused? Here is Acting-Man’s Ramsey Su to explain it all (and destroy some hope)…
• Promote stable, liquid, and efficient mortgage markets for single-family and multifamily housing.
• Ensure that affordable, 30-year, fixed-rate, prepayable mortgages continue to be available, and that affordability remains an important consideration.
• Provide equal access for lenders of all sizes to the secondary market.
• Facilitate broad availability of mortgage credit for all eligible borrowers in all areas and for single family and multifamily housing types.
• Wind down and eliminate Fannie Mae and Freddie Mac.
• Promote a smooth and stable transition from the old system to the new system by providing specific benchmarks and timelines to guide Federal Mortgage Insurance Corporation (FMIC) and market participants.
• Transfer appropriate functions to the modernized, streamlined and accountable FMIC, modeled in part after the FDIC including its regulatory authority.
• Mandate 10 percent private capital, up front, and create a mortgage insurance fund for the system to protect taxpayers against future bailouts.
• Create a member-owned securitization platform that will issue a single, standardized FMIC-wrapped security, and permit private label securities to be issued in a manner that encourages standardization and improved market liquidity.
• Establish a mutual cooperative jointly owned by small lenders to ensure institutions of all sizes have direct access to the secondary market so community banks and credit unions are not at the mercy of their larger competitors when Fannie Mae and Freddie Mac are dissolved. The small lender mutual cooperative would provide a cash window for individual eligible loans, and small lenders could retain servicing rights.
• Provide clear rules of the road for servicers that choose to participate in the FMIC system.
• Maintain a vibrant multifamily market by building upon successful risk-sharing mechanisms and products and providing access to a broad range of markets.
• Require strong underwriting standards that mirror the definition of “qualified mortgage”, and set down payment requirement at 5 percent (with a short phase-in) except for first-time homebuyers at 3.5 percent.
• Facilitate the broad availability of credit for eligible single-family and multifamily borrowers, monitor consumer and market access to credit, and provide market based incentives and transparency to serve underserved areas.
• Eliminate affordable housing goals and establish transparent and accountable housing-related funds that would focus on ensuring there is sufficient decent housing available. The funds are NOT paid for with tax dollars, but through a small FMIC user fee (10 basis points) that only those who choose to use the system pay.
• Allow current conforming loan limits to be maintained so that mortgage credit continues to be available in high cost areas.
• Maintain broad liquidity in the To-Be-Announced (TBA) market and direct FMIC to take into account the impact of new products on the TBA market.
Addendum: The Bill Has Been Published