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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First Horizon’s Buybacks; Buyback Legal Chatter; Basel III and Construction Loans; Congress Snubs Small Business?

I have been subtly warning groups during speeches, and writing in this commentary, about the implications of Basel III. Most of the focus is on servicing & the value of it. But did you know that under the new Basel III rules, construction lending would likely go into the “high risk commercial real estate” category and require a 150% risk weighting? “Lenders would seek deals where a developer would contribute a substantial amount of cash equity; while banks would be less likely to let developers rely just on the equity from appraisals” per American Banker. And the government and the Fed are asking why banks aren’t lending? This is just another reason.

Last month we sold the house where my kids grew up, and I had a handyman remove the doorframe where we marked heights on birthdays. I am not mentioning this to turn the daily into a Hallmark card, but because it reminded me of one thing that the press seems to forget: a house is a home and not a share of stock. And when it comes to that, the popular press seems to forget that people need a place to live, that people want a good school district for their kids, a place to get to know the neighbors, a place to create an emotional attachment. I could go on and on, but there are very concrete reasons why people who are underwater on a house still make the payments, why many who supposedly saw the real estate decline didn’t sell their home, and why so many people don’t care about minute fluctuations in the price of housing based on the latest metric.

I’ll get off my soapbox, and get on with business: I think that the last time the S&P/Case-Shiller Home Price Index went up was during the Eisenhower Administration – until now. Seriously, for the first time in eight months the S&P/Case-Shiller Home Price Indices rose over levels of the previous month.  Data through April 2012 showed that on average home prices increased 1.3% during the month for both the 10- and 20-City Composites. Prices are still down 2.2% for the 10-City and 1.9% for the 20-City over figures for one year earlier but this is an improvement over the year-over-year losses of 2.9% 2.6% recorded in March. This report followed Monday’s news that New Home Sales jumped 7.6% in May to 369k and was up 19.8% from a year ago, and last week’s Existing Home Sales, Housing Starts and NAHB HMI which all contained some positive signs.

How’s this to grab one’s attention: “Congressional Subcommittee REFUSES Small Business Brokers and Appraisers a Seat at the Table.” The notice from the NAIHP goes on, “For the second time in a week, the Subcommittee on Insurance, Housing and Community Opportunity, Chaired by Rep. Judy Biggert (R-Illinois), refused small business housing professionals the right to be represented during Congressional testimony.” Here you go: http://www.naihp.org/.

Yes, there are plenty of rumors that the agencies are hotly pursuing buybacks to recoup taxpayer losses, and that the agencies are losing personnel except for QA & auditing. But that reasoning doesn’t help companies like First Horizon National Corp. It “cited new information it recently received from Fannie Mae as the basis for incurring the $272 million charge this second quarter. About $250 million will go to repurchase loans made with “inadequate or incorrect” documentation, and $22 million is being charged to address pending litigation.” I don’t make this stuff up.

Last week I received a legal question about buybacks. “I was asked by a former customer of a major investor’s correspondent lending group about how others are handling repurchase/make-whole requests on older vintage loans.  His experience has been that the investor will ask to be reimbursed for losses associated with loans that have been foreclosed and disposed of without being given an opportunity to refute the alleged rep and warrant deficiency.  He has had to hire a law firm to argue each of these requests and the major investor has backed off each time. Normally, when a correspondent is still active, there is obviously leverage against the correspondent under an implied or actual threat of being terminated as a customer if a make-whole is not made, and when an investor is no longer in the correspondent business, I’ve heard rumors of it being more inclined to back down but sometimes taking a former customer to court or ‘saber rattling’. Needless to say, it is expensive to have a lawyer prepare a rebuttal to a make-whole request, just to have the investor ultimately back-off – what to do?”

I turned this over to attorney Brian Levy, who wrote, “Your question about investor willingness to sue originators over repurchase claims is difficult to answer with specificity.  My clients have been able to settle and/or avoid litigation in every engagement that I have undertaken in this area. That does not mean, however, that the threat of investor repurchase litigation over individual loans is not real or that litigation is not occurring, but it has been my experience that these disputes can be resolved (or dismissed) through extensive and detailed settlement negotiations and information exchange.  Litigation over individual repurchase claims may be fairly unusual now, but so were repurchase claims entirely prior to 2007-2008. Due to the unique nature of each originator’s position and the facts around applicable repurchase claim(s), however, it would be reckless to assume one will not be sued on specific claims based on what is generally occurring in the industry or based on what may have been past investor appetite for litigation (although these are important elements to consider in one’s strategy).”

Brian goes on. “For example, much depends on the facts and circumstances of the loan(s) in question, whether there are any other relationships between the parties that can be leveraged (loans in the pipeline, warehouse lines etc.) the overall quality, stability and reputation of the originator and, significantly, the parties’ tolerance for risk, availability or need for reserves and the desire for finality.  Moreover, investor and originator appetite for lawsuits may change over time as strategies can change in organizations and as the few cases that have been filed begin to yield decisions that are more or less favorable to one side or another. Even the tenor of discussions or lack of attention to the matter can impact a party’s willingness to file a lawsuit. All of these issues should be explored with legal counsel as part of an originator’s comprehensive repurchase management strategy.” (If you’d like to reach Brian Levy with Katten & Temple, LLP, write to him at blevy@kattentemple.com.)

Here are some somewhat recent conference & investor updates, providing a flavor for the environment. They just don’t stop. As always, it is best to read the actual bulletin.

Down in California, it is time again for the CMBA’s Western Secondary conference. (I’ve been wandering around that San Francisco conference since 1986 – if those halls could talk…) The CMBA has presentations on “QM, QRM, the CFPB, Agency Direct Delivery – Reviving the Lost Art of Servicing Retained Execution, Compliance issues Facing State Licensed Mortgage Banks Today and How Regulatory Change will Impact Your Business and the Secondary Market, Manufacturing Quality – Steps to Produce a Quality Loan (Operation Focus),” and several other topics. Check it out.

In light of the increasing number of non-conforming transactions where the departure residence is retained by the borrower and is in a negative equity position, Wells Fargo issued a reminder that underwriters must weigh any and all risk factors evident in the loan file.  Each case should be weighed individually, as there are only so many situations underwriting guidelines can predict.  The Wells Seller Guide now states that, in a case where the departure residence won’t be sold at the time of closing and is in a negative equity position, paying down the lien or using additional reserves to cover the negative equity may be required to reduce overall risk.

Wells has issued another reminder that a signed Borrower Appraisal Acknowledgement is required for all loans.  The Acknowledgment, whether it’s the Wells-issued form or a custom document, must include the property address, complete lender name, borrower name, borrower signature, and borrower signature date.  If the form has checkboxes where the borrower can make a choice, these boxes must be ticked.

Due to changes to FHA Single Family Annual Mortgage Insurance and Up-Front Mortgage Insurance Premiums announced by HUD back in March, one of which requires lenders to determine the endorsement/insured date of the FHA loan as part of a Streamline Refinance transaction, Refinance Authorization results will need to be submitted to Wells with the closed loan package.  These results are necessary to ensure that the accurate MIP was applied.  This applies to all FHA Streamline Refinances with case numbers assigned on or after June 11, 2012, while loans purchased through Pass-Thru Express are excepted.

Wells’ government pricing adjusters are set to change on July 2nd.  For VA loans with scores between 620 and 639, the adjuster will go from -0.750 to -1.500.  The adjuster for loans with scores between 640 and 679, currently at -0.250, will change to -0.500.  This affects Best Effort registrations, Best Effort locks, Mandatory Commitments, Assignments of Trade, and Loan Specified Bulk Commitments.

How sensitive are our markets to European news? Sure, instead of buying our 10-yr yielding 1.65% you could buy a Spanish 10-yr yielding 6.74%. But there is instability, evidenced by this note from an MBS trader yesterday: “News of Merkel stating Europe would not have shared liability for debt ‘as long as she lives’ caused Treasuries to immediately surge higher, only to be met by better real money selling of 7s.  While the selling did help to stall the rally, the true relief didn’t come until Reuters posted a correction to its initial release, re-quoting Merkel as having said Europe would not have ‘total shared’ liability for debt as long as she lives.  The amendment took Treasuries off the highs ahead of the 2yr auction…”

Say all you want about the market, bond prices and yields are not doing a whole heckuva lot. Tuesday the 10-yr closed at 1.63%, very close to where it’s been all week, although there was some intra-day volatility blamed on Europe. (European problems will be with us for years, and paying attention to intra-day swings can become wearisome after years…) For agency mortgage-backed securities, volume has been around “average” all week, with the usual buyers (the Fed, hedge funds, money managers, overseas parties) absorbing it. Up one day, down another – yesterday was down/worse by about .250, which was about the same as the 10-yr T-note. We could have been helped by the Conference Board’s Consumer Confidence index which dropped for a fourth straight month, to 62 from a revised 64.4 in the prior month, but nope.

No one is getting any younger… (Part 1 of 2)
I very quietly confided to my best friend that I was having an affair. She turned to me and asked, “Are you having it catered?” And that, my friend, is the definition of ‘OLD’!

Just before the funeral services, the undertaker came up to the very elderly widow and asked, “How old was your husband?”
“98,” she replied. “Two years older than me.”
“So you’re 96,” the undertaker commented.
She responded, “Hardly worth going home, is it?”

Reporters interviewing a 104-year-old woman:
“And what do you think is the best thing about being 104?” the reporter asked.
She simply replied, “No peer pressure.”

I feel like my body has gotten totally out of shape, so I got my doctor’s permission to join a fitness club and start exercising.  I decided to take an aerobics class for seniors. I bent, twisted, gyrated, jumped up and down, and perspired for an hour. But, by the time I got my leotards on, the class was over.

…(read more)

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Regulators Tell GSEs to Assist Military with Short Sales

Both Freddie Mac and Fannie Mae will be offering additional
consideration to military personnel who may be facing problems with their
mortgage
due to service related orders. 
The two GSEs were directed to address
mortgage servicer practices that pose risks to home owning service members and
to ensure compliance with applicable consumer laws and regulations. The “guidance” came from regulators the
Federal Reserve, Consumer Financial Protection Bureau, Federal Deposit
Insurance Corporation and other regulators.

The guidance pertains to risks faced by homeowners
who have received Permanent Change of Station (PCS) orders, that is have been
ordered by the military to relocate to a new duty station or base.  Such orders are received by about one-third
of active-duty service members each year.

PCS orders are non-negotiable and carry short, strict
timelines.  Homeowners with such orders,
however, are still obligated to honor their financial obligations including
their mortgages.  In the current
environment, with so many homes underwater, these service members may be unable
to sell their homes and obtain sufficient funds to pay off the mortgage debt
and may have to continue mortgage payments while making rent or other housing
payments in their new location.

Under the new guidelines, receipt of a PCS will be
treated as a hardship
for the purpose of qualifying for a short-sale even if the
homeowner is current on the existing mortgage. 
Military with PCS who complete a short sale will be exempt from
deficiency judgments from Fannie Mae and Freddie Mac and relieved of any
request or requirement to contribute cash to the sales proceeds or to sign a
promissory note for any outstanding balance as long as the property was
purchased on or before June 30, 2012.

In addition to holding PCS order, the homeowner must
have a mortgage owned or guaranteed by Fannie Mae or Freddie Mac to be eligible
for the program.  The status of the
mortgage can be current or delinquent.  Freddie
Mac and Fannie Mae were instructed by regulators last year to treat PCS orders
as a hardship for purposes of modifications and forbearance.

Paul
Mullings, Freddie Mac’s Interim Head of Single Family Business and
Information Technology said, “Freddie
Mac is proud to support this important new effort to help servicemen and women
when national duty requires them to sell their homes in an uncertain
market.  We look forward to working with our servicers on this new short
sale policy.  Together we can help ease the challenge of relocation for
military families when Permanent Change of Station orders are
received.” 

The Federal Housing Finance Agency
said it would provide final guidance by September 30 and the short-sale reforms
would be effective 60 days later.

…(read more)

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Tight Supply Drives Existing Home Prices Higher

Sales
of existing homes
fell in May, but that decline may have been due to a lack of
available homes rather than a lack of demand. 
According to the National Association of Realtors® (NAR), total existing
home sales including single family homes, townhomes, condominiums, and
cooperative apartments, declined 1.5 percent to a seasonally adjusted annual
rate of 4.55 million in May from 4.62 million in April.   Sales
were up 9.6 percent from the 4.15 million sales pace in May 2011.  The national median existing-home price3 for all housing types rose 7.9 percent to $182,600
in May from a year ago, the third consecutive month of year over year price
gains.

The
total inventory of homes for sale at the end of May was down 0.4 percent to
2.49 million existing homes, a 6.6 month supply at the current sales pace.  One year ago there was a 9.1 month supply and
at a cyclical peak in July 2010 the inventory stood at a 12.1 month supply.

Existing Home Sales

Click Here to View the Existing Homes Sales Chart

Lawrence Yun,
NAR chief economist, said inventory shortages in certain areas have been
building all year.  “The slight pullback
in monthly home sales is more likely due to supply constraints rather than
softening demand.  The normal seasonal
upturn in inventory did not occur this spring,” he said.  “Even with the monthly decline, home sales
have moved markedly higher with 11 consecutive months of gains over the same
month a year earlier.”

Yun said properties in the
lower price ranges are in short supply in much of the country outside of the
Northeast.  Real estate agents in western
states have been calling for an expedited process to get additional foreclosed
properties on the market to alleviate shortages and much of Florida is in a
similar situation.

Sales of single family homes
were down 1.0 percent to a seasonally adjusted rate of 4.05 million from 4.09
million in April.  This is 10.4 percent
above the 3.67 rate of sales one year earlier. 
Condo and co-op sales were down 5.7 percent to a rate of 500,000 from
530,000 a month earlier but are 4.2 percent higher than a year earlier.

The median price for a single-family
home was $182,900, an increase of 7.7 percent from May 2011 while the median
condo price saw an annual increase of 8.8 percent to a median of $180,000.  “Some of the price gain results from a
shrinking share of distressed homes in the sales mix,” Yun explained.

Foreclosures accounted for 15 percent of
sales in May and short sales for 10 percent. 
This 25 percent share is down from 28 percent in April and 31 percent in
May 2011.  Foreclosures sold for an
average discount of 19 percent below market value in May, while short sales
were discounted 14 percent.

First-time buyers accounted for 34
percent of purchases, down from 35 percent in April and 26 percent in May 2011.
 Investors purchased 17 percent of homes,
down from 20 percent in April and 19 percent a year earlier.  All-cash sales represented 28 percent of
transactions compared to 29 percent and 30 percent in the earlier periods.

NAR President Moe Veissi said there are reports
of multiple offers and quick sales in areas with a tight supply of housing and
of competition between first-time buyers and cash investors.  He advised buyers to continue to perform due diligence
and make offers with appropriate contingencies as they would in a more balanced
market.

Regionally, existing-home sales in the Northeast fell
4.8 percent to an annual level of 590,000 in May but are 7.3 percent higher
than May 2011.  The median price in the
Northeast was $250,700, up 3.8 percent from a year ago.

Midwest sales rose 1.0 percent to a pace of 1.04 million,
9.5 percent above a year ago.  The median
price in the Midwest was $147,700, up 6.4 percent from May 2011.

Sales in the South were down 0.6 percent to an annual level
of 1.78 million but are 9.2 percent
higher May 2011. 
The median price in the South was $159,700, up 7.8 percent from a year
ago.

Existing-home sales in the West declined 3.4 percent to
an annual pace of 1.14 million in May but are 3.6 percent above a year ago.  The median price in the West was $233,900, up
13.4 percent from May 2011.  “The sharp
price increase in the West results largely from more sales at the upper end of
the market,” Yun explained.

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