HAMP Changes: Treasury Increases Incentives for Principal Reduction

The Federal Housing Finance Agency announced on Friday that it was extending
the Home Affordable Modification Program (HAMP) for another year – through December
13, 2013 – and that Freddie Mac and Fannie Mae would continue as financial
agents for Treasury in implementing the changes it then announced.  The press release also said the two GSEs
would “extend their use of HAMP Tier 1 as the first modification option through
2013” and that they were already in alignment with HAMP Tier 2 and no further
changes were necessary.

However, the Treasury Department, which jointly
administers HAMP, simultaneously announced what appear to be some significant
changes in the program.  Perhaps Timothy G. Massad, Assistant Treasury Secretary
for Financial Stability, was merely providing the English translation of
the FHFA press release or perhaps there is a division in the ranks.  In either case, here is the information he
provided in his blog posting.
 

The Treasury Department intends to triple the incentives offered to
investors holding distressed loans to encourage them to participate in reducing
the principal for those loans.  Under the
new guidelines, Treasury will pay from 18 to 63 cents on the dollar to
investors, depending on the degree of change in the loan-to-value ratio of the
individual loans.

While principal reduction has always been
available for modifying proprietary loans under the HAMP program (it even has
its own acronym, PRA) it has not been widely used.  Of over 900,000 permanent modifications
completed since the program began, only 38,300 are classified as utilizing principal
reduction

As we have previously reported,
FHFA has resisted all suggestions that the GSEs also include principal reduction
in their tools for dealing with distressed loans where borrowers are upside
down in their mortgages.  According to
Massad, Treasury has notified FHFA that it will pay principal reduction incentives
to Fannie Mae or Freddie Mac as well if they allow servicers to forgive principal
in conjunction with a HAMP modification. 

In its press release FHFA said of the
Treasury proposal

“FHFA has
been asked to consider the newly available HAMP incentives for principal
reduction. FHFA recently released analysis concluding that principal
forgiveness did not provide benefits that were greater than principal
forbearance as a loss mitigation tool. FHFA’s assessment of the investor
incentives now being offered will follow its previous analysis, including
consideration of the eligible universe, operational costs to implement such
changes, and potential borrower incentive effects.”

Again,
according to Treasury, HAMP will be expanding its eligibility to reach a
broader pool of borrowers.  An additional
evaluation process is being implemented that will allow servicers to recognize that
some borrowers who can afford their first mortgage payments still struggle because
of other debt.  Some analyses of HAMP
have found that many borrowers could not qualify for a modification solely because
their housing expenses were already below the 31 percent ceiling allowed by
HAMP guidelines.  This ceiling will now
be flexible enough to include secondary debt such as medical expenses or second
liens in the evaluation ratio. 

Eligibility
will also be expanded to include properties that are tenant-occupied as well as
vacant properties that the owner intends to rent.  According to Massad, this will serve to
further stabilize communities with high levels of vacant and foreclosed
properties as well as expanding the rental pool as has been suggested by the
Federal Reserve and others.

…(read more)

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Study: No Additional Restrictions on QRM Needed

The proposed down payment standards
for new mortgages might push 60 percent of potential borrowers into high-cost
loans or out of the housing market altogether according to a paper released
today by the Center for Responsible Lending.  The paper,
Balancing Risk and Access:  Underwriting
Standards for Qualified Residential Mortgages
, is the result of a study to
weigh the effects of proposed underwriting guidelines for qualified residential
mortgages (QRM)
, mortgages that are exempt from the risk retention requirements
laid out in the Dodd-Frank Wall Street Reform Act.

The Center, a nonprofit, nonpartisan
research and policy organization with a stated mission of “protecting
homeownership and family wealth by working to eliminate abusive financial
practices” has, along with other consumer and industry groups, raised concerns
about a potential disproportionate impact of restrictive QRM guidelines on
low-income, low-wealth, minority and other households traditionally underserved
by the mainstream mortgage market.  The
study examines the way different QRM guidelines may affect access to mortgage
credit and loan performance and estimates the additional impacts on defaults
resulting from guidelines above and beyond QM product requirements.

The researchers, Roberto G. Quercia,
University of North Carolina Center for Community Capital, Lei Ding, Wayne
State University, and Carolina Reid, Center for Responsible Lending used
datasets from Lender Processing Services (collected from servicers) and
Blackbox (data from loans in private label securities collected from investor
pools.)  They identified from among 19
million loans originated between 2000 and 2008 the 10.9 million that would meet
the current QRM guidelines, i.e. loans with full documentation that have no
negative amortization, interest only, balloon, or prepayment penalties.  Adjustable rate mortgages must have fixed
terms of at least five years and no loans over 30 years duration. 

The default rate for the universe of
loans was 11 percent, for prime conventional loans, 7.7 percent, and for loans
(regardless of type) that would have met the QM product feature limits, 5.8
percent.  In other words, the research “suggests
that the QM loan term restrictions on their own would curtail the risky lending
that occurred during the subprime boom and lead to substantially lower
foreclosure rates without overly restricting access to credit.”

The next step was to apply some of
the suggested additional criteria for QRM to the loans; a minimum down payment
of 20 percent, a range of higher FICO scores, and lower debt to income (DTI)
ratios.  The goal was to determine the
benefit of each as measured by an improvement in default rates without an undo reduction
in borrowers able to qualify for an affordable loan.

When various permutations of
loan-to-value (LTV), FICO scores, and DTI ratios were applied to the loans lower
default rates were achieved.  These
improvements, however, were accompanied by the exclusion of a larger share of
loans.  As Figure 4 shows, some of the restrictions
resulted in the exclusion of as many as 70 percent of loans.   

To quantify this, the authors
developed two additional measures.  The
first, a benefit ratio, compares the percent reduction in the number of
defaults to the percent reduction in the number of borrowers who would have
access to QRM loans with the proposed guidelines.  For example, an underwriting restriction that
resulted in a 50 percent reduction in foreclosures while excluding only 10
percent of borrowers would have a higher benefit ratio than one with the same
reduction in foreclosures that excluded 20 percent of borrowers.


One finding was that LTVs of 80 or
90 percent resulted in particularly poor outcomes while an LTV of 97 percent
had added benefits of reduced defaults relative to borrower access.  This suggests that even a very modest down payment
may play an important role in protecting against default while excluding a
smaller share of borrowers than would a higher down payment requirement.

Since underwriting is unlikely to
impose restrictions in isolation, the study analyzed a combination of possible
QRM restrictions.  They found that the
strictest guidelines produced the worst outcomes and that none of the patterns
of proposed restrictions performed as well as the QM restrictions on their own.

The second measure, an exclusion
ratio, looks at the number of performing loans a certain threshold would
exclude to prevent one default.  In this
measure, the number of excluded loans can be viewed as a proxy for the number
of “creditworthy” borrowers who would be excluded from the QRM market.

Imposing 80 percent LTV requirements
on the universe of QM loans would exclude 10 loans from the QRM market to
prevent one additional default.  Adding
to this a FICO above 690 and 30 percent DTI ratio would exclude 12 creditworthy
borrowers to prevent one default.

The current QRM criteria are more
restrictive for rate-term and cash-out refinancing than for purchase
loans.  The study found that the QM
product restrictions are the most effective in balancing the demand between reducing
defaults and ensuring access to credit.

The study also found that imposing
additional LTV, DTI, and FICO underwriting requirements
on QM loans had
disproportionate effects on low-income borrowers and borrowers of color.  Just over 75 percent of African-American
borrowers and 70 percent of Latino borrowers would not qualify for a 20 percent
down QRM mortgage and significant racial and ethnic disparities are evident for
FICO requirements as well.  At FICO
scores above 690, 42 percent of African-Americans and 32 percent of Latino
borrowers would be excluded against 22 percent of white and 25 percent of Asian
households.  At the most restrictive
combined thresholds (80 percent LTV, FICO above 690, DTI of 30 percent) approximately
85 percent of creditworthy borrowers would not qualify with African American
and Latino disqualifications each above 90 percent.

The Center says in conclusion that
its research provides “compelling evidence that the QM product loan guidelines
on their own would curtail the risky lending that occurred during the subprime
boom and lead to substantially lower foreclosure rates, while not overly
restricting access to credit.”

…(read more)

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Office-Building Recaps Surged in 2011

Some of the nation’s biggest real-estate investors took stakes in major office properties in 2011, a year that registered a record amount of recapitalizations for that sector, according to Real Capital Analytics.

“There were a lot of white knights coming to help recapitalize” buildings that had mortgage loans coming due last year, said Dan Fasulo, managing director at real-estate data firm Real Capital. Recapitalizations in 2011 were at the highest level since RCA started tracking them in 2001.

Such deals usually involve an investor buying a big stake in a property by injecting additional equity or taking over a loan and restructuring borrowing terms. The sheer volume of $13.3 billion in office recapitalizations last year underscored the massive amounts of debt office landlords had accumulated on their buildings during the boom times. This recapitalization volume also surpassed the last peak of $11 billion in 2007.

The number of recapitalizations is “the function of the market fixing itself,” Mr. Fasulo said. To be sure, each property owner’s decision to recapitalize could be driven by a number of factors outside of maturing loans.

The largest recapitalization in 2011 was Paramount Group and Beacon Capital’s purchase of a 49% stake in a New York building, 1633 Broadway, from a Morgan Stanley joint venture. The deal valued the building at $1.62 billion and the interest at $793.8 million. The next largest recapitalization was by Vornado Realty Trust’s acquisition of a 49.5% stake, valued at $646 million, for 666 Fifth Ave in New York. (Eight of the 10 largest deals were in New York; the other two were in Houston.) Paramount and Vornado officials were not available for comment Wednesday.

Real-estate companies, especially publicly traded real-estate investment trusts, have been raising massive amounts of capital over the past year via equity raises and debt issuance in order to pounce on these kinds of acquisitions, which are expected to continue to rise this year.

In general, private investors have been less successful at raising debt and equity over the past six months amid concerns that Europe’s debt crisis could filter down to hurt U.S. credit markets by raising the cost of capital.

Casino Debtholders Fight On

A fight has broken out over a deeply discounted planned sale of $150 million in debt backed by a Las Vegas area resort and casino.

OIG Finds FHLBanks Corrected Foreign Credit Exposure, more Supervision Needed

The Office of the Inspector General
(OIG) of the Federal Housing Finance Agency (FHFA) issued a report this morning
that was mildly critical of the FHFA’s oversight of Federal Home Loan Banks (FHLBanks)
granting of unsecured credit to European banks.   OIG said that extensions of unsecured credit
in general increased by the FHLBanks during the 2010-2011 period, even as the
risks for doing so were intensifying.

FHFA regulates the FHLBanks and has
critical responsibilities to ensure that they operate in a safe and sound
manner.  FHFA’s OIG initiated an
evaluation to assess the regulator’s oversight of the Banks unsecured credit
risk management practices.

Unsecured credit extensions to European
institutions
and others grew from $66 billion at the end of 2008 to more than
$120 billion by early 2011 before declining to $57 billion by the end of that
year as the European sovereign debt crisis intensified.  During this period extensions of unsecured
credit to domestic borrowers remained relatively static but extensions to
foreign financial institutions fluctuated in a pattern that mirrored the
FHLBanks’ total unsecured lending.  That
is, it more than doubled from about $48 billion at the end of 2008 to $101
billion as of April 2011 before falling by 59 percent to slightly more than $41
billion by the end of 2011.

FHFA OIG also found that certain
FHLBanks had large exposures to particular financial institutions and the
increasing credit and other risks associated with such lending.   For example, one FHLBank extended more than
$1 billion to a European bank despite the fact that the bank’s credit rating
was downgraded and it later suffered a multibillion dollar loss.

During the time period in question OIG
found there was an inverse relationship between the trends in lending to
foreign financial institutions and the Banks advances to their own members.  Since mid-2011 the extensions to foreign
institutions have declined sharply but the advances have continued their
longstanding decline.  OIG said it
appears that some FHLBanks extended the unsecured credit to foreign
institutions to offset the decline in advance demand and that they curtailed
those unsecured extensions as they began to fully appreciate the associated
risks.

At the peak of the unsecured lending,
about 70 percent of the FHLBank System’s $101 billion in unsecured credit to
foreign borrowers was made to European financial institutions and 44 percent
were to institutions within the Eurozone. 
About 8 percent of unsecured debt ($6 billion) was to institutions in
Spain, considered by S&P to be even riskier than the Eurozone as a whole.

Some banks within the FHL System had
extremely high levels of unsecured credit extended to foreign borrowers.  The Seattle Bank’s exposure to foreign
borrowers as a percentage of its regulatory capital was more than 340 percent
in March 2011; Boston was at 300 percent, and Topeka 360 percent.  All three had declined substantially by the
end of 2011 but Seattle and Topeka remained above 100 percent.

OIG said that the vast majority of the
Banks’ extensions of unsecured credit appeared to be within current regulatory
limits (although OIG said these limits may be outdated and overly permissive),
some banks did exceed the limits and OIG found the three banks (which for some
reason it treated anonymously) definitely did so and blamed that on a lack of
adequate controls of systems to ensure compliance.

OIG reviewed a variety of FHFA internal
documents during the 2010-2011 period during which it found the Agency had
expressed growing concern about the Banks’ unsecured exposures to foreign
financial institutions.  But, even though
FHFA identified the unsecured credit extensions as an increasing risk in early
2010, it did not prioritize it in its examination process due to its focus on
greater financial risks then facing the FHLBank system especially their private
label mortgage-backed securities portfolios. 
In 2011, however, FHFA initiated a range of oversight measures focusing
on and prioritizing the credit extensions in the supervisory process and
increasing the frequency with which the Banks had to report on that part of
their portfolios.

OIG believes that FHFA’s recent initiatives
contributed to the significant decline in the amount of unsecured credit being
extended by the end of 2011.

The final findings issued by OIG in its
report are:

  1. Although
    FHFA did not initially prioritize FHLBank unsecured credit risks, it has
    recently developed an increasingly proactive approach to oversight in this
    area.
  2. FHFA
    did not actively pursue evidence of potential FHLBank violations of the limits
    on unsecured exposures contained in its regulations.
  3. FHFA’s
    current regulations governing unsecured lending may be outdated and overly
    permissive.

To correct
these deficiencies, OIG recommends that the Agency:

  • Follow up on any potential evidence of violations of
    the existing regulatory limits and take action as warranted;
  • Determine the extent to which inadequate systems and
    controls may compromise the Banks’ capacity to comply with regulatory limits;
  • Strengthen the regulatory framework by establishing
    maximum exposure limits; lowering existing individual counterparty limits; and
    ensuring that the unsecured exposure limits are consistent with the System’s
    housing mission.

…(read more)

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