FHFA Answers Conflict of Interest Charges against Freddie Mac

The
Federal Housing Finance Agency (FHFA) issued a statement late Monday refuting a
story
from ProPublic and NPR
that a complicated investment strategy utilized by Freddie Mac had influenced
it to discourage refinancing of some of its mortgages.  FHFA confirmed that the investments using
Collateralized Mortgage Obligations (CMOs) exist but said they did not impact
refinancing decisions and that their use has ended. (the NPR Story)

Freddie Mac’s charter calls for
it to make home loans more accessible, both to purchase and refinance their
homes but the ProPublica story, written by Jesse
Eisinger (ProPublica) and Chris Arnold (NPR) charged that the CMO trades “give Freddie a powerful incentive to do
the opposite
, highlighting a conflict of interest at the heart of the company.
In addition to being an instrument of government policy dedicated to making
home loans more accessible, Freddie also has giant investment portfolios and
could lose substantial amounts of money if too many borrowers refinance.”

Here,
in a nutshell, is what the story (we are quoting from an “updated” version)
says Freddie has been doing.  

Freddie
creates a security (MBS) backed by mortgages it guarantees which was divided
into two parts.  The larger portion, backed
by principal, was fairly low risk, paid a low return and was sold to investors.  The smaller portion, backed by interest
payments on the mortgages, was riskier, and paid a higher return determined by
the interest rates on the underlying loans. 
This portion, called an inverse floater, was retained by Freddie Mac.

In
2010 and 2011 Freddie Mac’s purchase (retention) of these inverse floaters rose
dramatically, from a total of 12 purchased in 2008 and 2009 to 29.  Most of the mortgages backing these floaters had
interest rates of 6.5 to 7 percent.

In
structuring these transactions, Freddie Mac sells off most of the value of the
MBS but does not reduce its risk because it still guarantees the underlying
mortgages and must pay the entire value in the case of default.  The floaters, stripped of the real value of
the underlying principal, are also now harder and possibly more expensive to
sell, and as Freddie gets paid the difference between the interest rates on the
loans and the current interest rate, if rates rise, the value of the floaters
falls. 

While
Freddie, under its agreement with the Treasury Department, has reduced the size
of its portfolio by 6 percent between 2010 and 2011, “that $43 billion drop in
the portfolio overstates the risk reduction because the company retained risk
through the inverse floaters
.”

Since
the real value of the floater is the high rate of interest being paid by the
mortgagee, if large numbers pay off their loans the floater loses value.  Thus, the article charges, Freddie has tried
to deter prospective refinancers by tightening its underwriting guidelines and
raising prices.  It cites, as its sole
example of tightened standards that in October 2010 the company changed a rule
that had prohibited financing for persons who had engaged in some short sales
to prohibiting financing for persons who had engaged in any short sale, but it
also quotes critics who charge that the Home Affordable Refinance Program
(HARP) could be reaching “millions more people if Fannie (Mae) and Freddie
implemented the program more effectively.”

It
has discouraged refinancing by raising fees. 
During Thanksgiving week in 2010, the article contends, Freddie quietly
announced it was raising post-settlement delivery fees.  In November 2011, FHFA announced that the
GSEs were eliminating or reducing some fees but the Federal Reserve said that “more
might be done.”

If
Freddie Mac has limited refinancing, the article says, it also affected the whole
economy which might benefit from billions of dollars of discretionary income generated
through lower mortgage payments.  Refinancing
might also reduce foreclosures and limit the losses the GSEs suffer through defaults
of their guaranteed loans.

The
authors say there is no evidence that decisions about trades and decisions
about refinancing were coordinated.  “The
company is a key gatekeeper for home loans but says its traders are “walled
off” from the officials who have restricted homeowners from taking advantage of
historically low interest rates by imposing higher fees and new rules.”

ProPublica/NPR says that the
floater trades “raise questions about the FHFA’s oversight of Fannie and
Freddie” as a regulator but, as conservator it also acts as the board of
directors and shareholders and has emphasized that its main goal is to limit
taxpayer losses.  This has frustrated the
administration because FHFA has made preserving the companies’ assets a
priority over helping homeowners.  The
President tried to replace acting director Edward J. DeMarco, but Congress
refused to confirm his nominee. 

The
authors conclude by saying that FHFA knew about the inverse floater trades
before they were approached about the story but officials declined to comment on whether the
FHFA knew about them as Freddie was conducting them or whether the FHFA had
explicitly approved them.”

The
FHFA statement
said that Freddie Mac has historically used CMOs as a tool to
manage its retained portfolio and to address issues associated with security
performance.  The inverse floaters were
used to finance mortgages sold to Freddie through its cash window and to sell
mortgages out of its portfolio “in response to market demand and to shrink its
own portfolio.”  The inverse floater
essentially leaves Freddie with a portion of the risk exposure it would have
had if it had kept the entire mortgage on its balance sheet and also results in
a more complex financing structure that requires specialized risk management
processes.  (Full FHFA Statement)

The
agency said that for several reasons Freddie’s retention of inverse floaters ended in
2011 and only $5 billion is held in the company’s $650 billion retained
portfolio.  Later that year FHFA staff
identified concerns about the floaters and the company agreed that these
transactions would not resume pending completing of the agency examination.

These
investments FHFA said did not have any impact on the recent changes to
HARP.  In evaluating changes, FHFA
specifically directed both Freddie and Fannie not to consider changes in their
own investment income in the HARP evaluation process and now that the HARP
changes are in place the refinance process is between borrowers and loan
originators and servicers, not Freddie Mac.

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Housing Industry Reacts to State of the Union

Housing featured prominently in
President Obama’s State of the Union speech on Tuesday night.  The President made two specific proposals,
one to deal with the ghosts of housing past, the other to provide expanded
credit to homeowners.

In contrast to the settlement with banks
that Obama was widely rumored to announce
at the State of the Union, he instead directed Attorney General Eric Holder to
create a new office on Mortgage Origination and Securitization Abuses.  The President said, “The American people
deserve a robust and comprehensive investigation into the global financial meltdown
to ensure nothing like it ever happens again.”

According to the Huffington Post, the new
office will take a three-pronged approach to the issue, holding financial
institutions accountable for abuses, compensating victims, and providing relief
for homeowners, and will operate as part of the existing Financial Fraud
Enforcement Task Force.  On Wednesday several
news outlets were reporting that the unit will be chaired by State Attorney
General Eric Schneiderman, who has been regarded as among the toughest of state
law enforcement officers with Lanny Breuer, an assistant attorney general in
the Criminal Division of the Department of Justice (DOJ) as co-chair.  Others reported to be in the group are Robert
Khuzami, director of enforcement at the Securities and Exchange Commission,
U.S. Attorney for Colorado John Walsh and Tony West, assistant AG, DOJ. 

The President’s second and more
broad-reaching proposal was for a massive refinancing of mortgage loans that
would reach beyond the current government initiates such as the Home Affordable
Refinance Program (HARP).  While few
details are available, the President said that his proposed initiative would
cut red tape and could save homeowners about $3,000 a year on their mortgage
payments because of the current historically low rates.  Unlike HARP, the program would apply to all
borrowers whether or not their current mortgages are government-backed and
would be paid for by a small fee on the largest financial institutions. Obama
did not mention principal reduction in his proposal.

Bloomberg is reporting that the program is
Obama’s response to a call by Fed Chairman Ben Bernanke in a paper sent to Congress
earlier this month for the administration to offer more aid for housing.   While largely dealing with the need to
convert excess housing inventory to rental property, the paper also touched on
the benefits of easing refinancing beyond the HARP program.

Bloomberg also outlined some of the
tradeoffs of a super-refinancing program saying it may damage investors in
government-backed securities by more quickly paying off those with high coupons
and limited default risk while aiding holders of other home-loan securities and
banks.  Word that such a proposal might be
forthcoming in the President’s speech, Bloomberg said, “Roiled the market for
Fannie Mae and Freddie Mac securities according to a note to clients by Bank of
America Corp.”

The Associated Press quoted Stan
Humphries, chief economist at Zillow as saying the refinancing could allow 10
million more homeowners to refinance and, by preventing foreclosures and
freeing up money for Americans to spend, could give the economy a $40 to $75
billion jolt.  The Federal Reserve, the
AP said, was more cautious, estimating that 2.5 million additional homeowners
might be able to refinance.

The refinancing initiative would require
approval by Congress, however the day after the speech the focus was on other issues
such as tax reform and we could not find any reaction from members of Congress
specific to the refinancing issue.  Even the
Mortgage Bankers Association (MBA) issued a statement from its president David
H. Stevens which did not mention the refinancing program, obliquely addressing
instead the creation of the mortgage fraud office.    

“Like the
President, we believe it is time to move forward with rebuilding this nation’s
housing market and that lenders and borrowers alike contributed to the housing
crisis we are currently in.  Let there also be no mistake, those who
committed illegal acts ought to face the consequences, if they haven’t already.”

Stevens
then called for a clear national housing policy “that establishes certainty for
lenders and borrowers alike.”  This,
according to MBA, requires finalizing the Risk Retention/Qualified Residential
Mortgage (QRM) rule “in a way that ensures access to credit for all qualified
borrowers,” establishing working national servicing standards, developing a
legal safe-harbor for Dodd-Frank QRM/Ability to Repay requirements, and “Move(ing)
quickly to determine the proper role of the federal government in the mortgage market
in order to ensure sufficient mortgage liquidity through all markets, good and
bad.

Creation
of the fraud office generated substantial comment, much of which was
unfavorable.  A lot of the criticism
focused on the lack of prosecutions that have emerged from the existing fraud
task force and there was a strong suspicion voiced by the liberal blogosphere
that the new office was merely a cover for pushing the DOJ/50-state attorneys
general settlement with major banks.  However,
one analysis, written by Shahien Nasiripour in U.S. Politics and Policies pointed out the wider powers of
enforcement available to attorneys general in some states such as New York’s
Martin Act and how the states and federal government might use the new office
to pool their powers and responsibilities to the benefit of each.  

The new
office will not lure California Attorney General Kamala Harris back into the
fold.  Harris and Schneiderman both
withdrew from the national foreclosure settlement last year, feeling that it
did not represent the interest of their respective states.  Despite the appointment of Schneiderman to
head the new office, Harris announced on Wednesday that she would not be
rejoining her fellow AGs
in their negotiations saying that the latest
settlement proposal was inadequate for California.  A spokesman for her office said, “Our
state has been clear about what any multistate settlement must contain:
transparency, relief going to the most distressed homeowners, and meaningful
enforcement that ensures accountability. At this point, this deal does not
suffice for California.”

Here’s the video of the speech beginning at the point discussing housing related issues…

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MBS Price Considerations Surrounding G-Fee Increase; PNC’s Results Reflect Servicing Lawsuit Settlement?

 

Basketball
fans know that all-stars Patrick Ewing, Charles Barkley, Dominique Wilkins,
Elgin Baylor, Reggie Miller, Pete Maravich, Karl Malone, and John Stockton share
something – none of them ever won an NBA championship. Like basketball, football
is a team sport. OJ Simpson knows a thing or two about team sports – and now he
knows about the foreclosure process, in which it is rumored that Chase reps
could not locate him in spite of his well-publicized prison stay: http://sports.yahoo.com/nfl/news?slug=ap-ojsimpson-foreclosure.

 

On the
more constructive side of things, Franklin
American Mortgage Company is currently searching for a VP of Wholesale
Operations
for a Regional Operations Center located in Concord, California. As
most know, FAMC is one of the top 5 independent wholesale lenders in the country. The
VP is responsible for overseeing day-to-day wholesale business operations for
A-paper originations, including Jumbo, FHA and VA, process flow management,
individual and regional production goals, corporate and state/federal
regulatory compliance, employee and state HR requirements, loan quality,
customer service and policy/procedure implementation and accountability. Prior
wholesale operations management experience is highly preferred.  Please
submit resumes to Bobby Frank at b.frank@franklinamerican.com.

 

Head-shaking
continues regarding economic stimulus and recovery, the agency plans, and g-fee
increases. A while back Steve T. with Primary
Residential
in Utah wrote and noted, “Let’s say we both put $20 into a box. I sell you the box for $30.
We both make $10. Repeat for infinite cash flow: economic problems solved
.
Last year ‘in a bid to stem taxpayer losses for bad loans guaranteed by federal
housing agencies Fannie Mae and Freddy Mac, Senator Bob Corker (R-Tenn.)
proposed that borrowers be required to make a 5% down payment in order to
qualify. His proposal was rejected 57-42 on a party-line vote because, as
Senator Chris Dodd (D-Conn) explained, passage of such a requirement would
restrict home ownership to only those who can afford it.’ What are we missing
here?”

 

And Lindsay
Hill with Compass Analytics noted,
“The congressionally-mandated g-fee increases, established in part to pay
for extensions of the payroll tax cut and unemployment benefits, has created
somewhat of a disconnect between MBS prices and lender rate sheet prices. It creates an interesting dynamic when the
government is purchasing mortgage-backed securities to keep rates low and help
fuel a recovery in housing, and yet the same government is increasing rates on
the g-fee side, increases that will trickle directly down to the borrowers that
are hoped will lead a housing recovery
.”

 

The g-fee “shall
be determined by the FHFA Director to reflect the risk of loss, as well the
cost of capital allocated to similar assets held by other fully private
regulated financial institutions, but such amount shall not be less than an
average increase of 10 basis points for each origination year above the average
fees imposed in 2011 for such guarantees. The GSEs will be prohibited from
offsetting the cost of the fee to originators, borrowers and investors by
decreasing other charges, fee, or premiums, in any other manner. The director
of the FHFA will determine appropriate g-fee to reflect the risk of loss, as well
the cost of capital allocated to similar assets held by other fully private
regulated financial institutions. FHFA can allow the increase in the g-fee
charged by the GSEs to be phased-in gradually over a 2-year period from the
enactment of the bill. The increase should be such that it provides uniform
pricing among lenders, and takes into consideration the risk levels and
conditions in the financial market.”

 

Some Wall
Street MBS analysts believe that it is likely that the g-fee needs to increase
by another 15-45bp over the next two years (on top of the 10bp increase) if the
FHFA changes g-fee level such that it reflects the risk of loss as well as the
cost of capital allocated to similar assets by other fully private regulated
financial institutions as required by H.R. 3630. The analysts note that conventional securities could be worth .375-.625
more because of g-fee increase’s impact on current production, and older
securities could be worth 1.5-2.0 points more since it will be more expensive
to refinance, so fewer will do it, meaning that the securities are on the books
longer.

 

Yesterday
the commentary mentioned some trouble that a lender was having ascertaining the
FHA loans that had gone delinquent and that were impacting its compare ratio. I
received a few notes on it. Ray W. wrote, “Rob, Potomac Partners in DC is
a consulting group lead by Brian Chappelle (bjc@p2partners.com)
and can likely give guidance to your reader.”

Darryl R.
from Illinois wrote, “Maybe if FHA would allow individuals who are currently
at .50 on their monthly MI to refinance at .50 and also those at .80 to
refinance at .80 and those at 1.15 to refi at 1.15 they wouldn’t see as many
delinquencies.  Does it take a brain surgeon to figure out that this makes
sense? They put the 5% rule in place (which I do think is a good thing) but
that should be enough.  If people who put down 20% are underwater today,
what do they think about people who put down either 3 or 3.5%?  But
remember the Dodd-Frank fiasco was put in place to help the people.  HUD
is doing practically nothing to help people refinance and stay in their homes.
The biggest thing that I don’t understand is when the government prolongs the
entire program but doesn’t move the date for individuals to be eligible –
haven’t house values continued to decline since 2009?”

 

And while
we’re on suggestions, here’s an idea for
a new conventional program.
Fannie and Freddie offer a 15-year fixed
refinance based on today’s value with the loan amount equal to appraised value.
The balance of the deficiency is due at the end of the 15 year term. Equity is
built faster.  In five years the borrower is ‘back to even’ if values
stabilize. They could sell in five years and the deficiency would be paid in
full. You could throw a term life policy on the borrower for the deficiency
amount with the lender as the beneficiary just in case the borrower dies. The
proposed payment to borrowers sitting at 5% with a reduced loan balance would
be close to what they are paying now if the rate on the 15 year fixed is around
3%. The lenders get paid in full and our industry moves back to stabilization
with borrowers building equity. A 125% 30 year loan for an underwater borrower
does not solve anything for the housing industry: what is better for the
housing industry – pools of 30-year fixed $500k loans on $400k properties at 4%
or pools of $400k loans at 3% on $400k properties for 15 years with $100k
balloons? You can’t do a massive loan reduction because of fairness to those
that have paid as agreed, but you can create a loan program that reduces the
loan balance quicker.” For comments write to Mark Weber at mweber89@cox.net.

 

The
housing market continues to muddle along. U.S. home prices fell 0.4% in
November from October, the fourth-straight monthly decline according to FNC’s
residential price index. The index is 4.6% lower than a year earlier, though
FNC said year-over-year declines have stabilized in recent months. By the way, the co-founders of FNC (a real estate
technology firm focused on appraisals and servicing) host a “radio” show on
Monday’s
– check it out at http://www.fncmorningview.com.

 

PNC Financial knows something about housing. It is
the nation’s sixth largest bank, and announced that net income fell to $451
million in the 4th quarter, down from $798 million a year ago. It set
aside $240 million (contributing to a 40% drop in quarterly profits) because it
and other big banks may be near a settlement of government allegations of
mortgage and foreclosure abuse – “robo-signing.” (U.S. Bancorp, #5,
did something similar, reporting a $130 million “expense accrual related to
mortgage servicing matters.”)

 

 

The latest
SEC lawsuit involves Florida’s BankAtlantic
Bancorp
and its CEO Alan Levan. They allegedly misled investors on
defaulting loans in its real estate development portfolio, and hid the
“deteriorating state” of portions of its land acquisition and
development business in 2007. The company and Levan then tried to minimize
losses on the books, the SEC said, by committing accounting fraud and improperly
recorded loans it tried to sell from the portfolio.

 

Complaints
about interest rates continue to be non-existent, and yesterday was no
exception. Yesterday, however, mortgage banker selling picked up, nearly
doubling from recent levels. At the same time, unfortunately, investors in MBS’s
grew cautious given the refi numbers from the MBA’s weekly survey: who wants to
pay a premium above par for a loan if it is going to refinance relatively soon?
The 10-yr T-note closed at a yield of 1.90% (easy to remember) and MBS prices
were worse by about .125. For good news, the National Association of Home
Builders Housing Market Index which increased four points in January to 25 –
its highest level since June 2007 and its fourth monthly improvement in a row.

 

Today,
given that things are pretty quiet in Europe, the focus is more on U.S news. We
had weekly Jobless Claims which dropped 50k (after the big rise last week) to
352k – the lowest in almost four years. The 4-week moving average is -3,500.
This certainly indicates some strength in the jobs market, even if one
questions the precise numbers. The Consumer Price Index was unchanged and +.1%
on the core rate – inflation is not an issue. Housing Starts came in slightly lower
than expected, -4.1%, and Permits were -.1%. We’ll also have the Philly Fed
Survey for January, and at 8AM the Treasury announces details of next week’s
auctions of 2-, 5- and 7-year notes – estimated unchanged at $99 billion. So
far, given the strong jobs number this
morning, rates are slightly higher: the 10-yr is up to 1.94% and MBS prices are
worse about .250.

 

A man and woman were having a quiet, romantic dinner in a fine restaurant. They
were gazing lovingly at each other and holding hands.
Their waitress, taking another order at a table a few steps away, suddenly
noticed the man slowly sliding down his chair and under the table, but the
woman acted unconcerned.
The waitress watched as the man slid all the way down his chair and out of
sight under the table.
Still, the woman appeared calm and unruffled, apparently unaware her dining
companion had disappeared.
The waitress went over to the table and said to the woman, “Pardon me,
ma’am, but I think your husband just slid under the table.”
The woman calmly looked up at her and said, “No, he didn’t. He just walked
in the door.”

If you’re interested, visit my twice-a-month blog at the STRATMOR Group web
site located at www.stratmorgroup.com . The current blog discusses residential
lending and mortgage programs around the world. If you have both the time and
inclination, make a comment on what I have written, or on other comments
so that folks can learn what’s going on out there from the other readers.

 

 

 

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Old Rating Agency Model Becoming Extinct? Independent Mortgage Banks Able to do HARP 2.0 Loans?

The world
has been watching the ship incident in the Mediterranean, and the fact that the
captain was seen on an island during the event. His quote, “I slipped and
fell into the life boat” was the headline of the story I saw yesterday. (I
actually thought about using that as the joke today.) It makes one wonder if
“accountability” is a dying concept.

Moving on,
retail mortgage banker Spectra Home
Loans is expanding and is seeking qualified branch managers and LO’s throughout
both the Mid-Atlantic seaboard and California. “Spectra offers a wide
variety of loan products, and is ‘on the fast track’ to becoming a Fannie,
Freddie and Ginnie direct seller/servicer. Founded by industry veterans on the
premise of being a leader in the mortgage banking industry, Jim Cassidy, former
National Production Manager of SunTrust Mortgage, is now President and Chief
Financial Officer of Spectra Home Loans.” Please contact Ted Smith at tsmith@spectraloans.com for
opportunities throughout California or Jay DeCarlo at jdecarlo@spectraloans.com for
opportunities in the Mid-Atlantic region, or visit its website at www.spectraloans.com, and click on “Join
Spectra Today” at the top for more information.

Although
the industry is waiting for more details on HARP 2.0, there is some serious
thinking going on about how the program will work. More specifically, warehouse
lending. Jim Cameron from the STRATMOR Group wrote, “We are hearing that there is questionable enthusiasm for HARP
2.0 amongst the warehouse lenders
.  There are a few exceptions, but at
this time most lenders will only finance up to 100% of the value of the
property. As everyone knows, if a non-depository mortgage banker cannot borrow
from their warehouse lines to fund these loans, the program will have mostly
confined to depository institutions. This won’t help independent mortgage
bankers unless alternative funding sources are arranged. And while a Fannie
direct seller can sell to the ASAP window, this may cause execution to be less
than optimal.  If HARP 2.0 volume is
significant, most independents would not have enough liquidity to self-fund
even with a relatively quick funding by the investor
.  The good news
is that where there is a will, there is a way.  If the market opportunity
is big enough, warehouse lenders will figure out a way to price the risk.”
This makes a lot of sense.

(By the way, STRATMOR is offering HARP 2.0 sessions around the country. 
While the Las Vegas and Chicago sessions have sold out, there are still
available seats for the Washington, D.C. meeting scheduled for next Thursday,
January 26, and there is talk of adding a session. If you’d like more
information, contact Jim at Jim.cameron@Stratmorgroup.com.)

Earlier this week the commentary discussed the Maiden Lane sale and its
expected impact on subprime MBS pricing. “The Federal Reserve Bank of New York announced
that it has sold $7.014 billion in face amount of assets from its Maiden Lane
II LLC (ML II) portfolio through a competitive process to Credit Suisse Securities (USA) LLC.” So it is done, without much
fanfare.

What have
received fanfare over the last week are the bank earnings reports, and
especially for this commentary how they report mortgage banking activities. Bank of America reported net income that
met expectations – consumer real estate had a loss of $1.46 billion, mortgage related
litigation expenses reached $1.5 billion (in the 4th quarter!), but loan
loss provisions fell 43%. BB&T
reported profit of 55 cents per share vs. 30 cents for the prior year on a
slight increase in revenue – credit conditions strengthened and reserves fell
58.9%, and noninterest expense climbed 13.9% (mostly due to 114% increase in write-downs
and losses on foreclosed real estate). (By the way, Wells Fargo has branches in
the most states, 40, followed by BofA in 36 states, U.S. Bank in 25 states, and
JP Morgan Chase in 24 states – impacting
retail origination potential
.)

The recent
headlines blared, “Foreclosure filings and repossessions fell to their lowest
level since 2007 last year.” RealtyTrac noted that, “Total filings of default
notices, scheduled auctions and bank repossessions were down 33% for the year
to 2.7 million. Last year one in every 69 homes had at least one foreclosure
filing during the year, much better than 2010’s one in every 45 homes. Folks in
the biz, however, know that much of the
drop in filings was due to processing delays caused by fall-out from the
“robo-signing” scandal
that broke in late 2010 which created a
backlog as banks spent more time making sure paperwork was legal and proper. In
fact the average time it took to process a foreclosure climbed to 348 days
during the fourth quarter, up from 305 days a year earlier.

When it
comes to foreclosures and the housing market’s recovery, everyone has a
different answer, and no one seems sure of where things are headed. Part of the
confusion is due to the wildly divergent foreclosure timeline across the
country, and their impact on regional markets and recoveries. According to Lender Processing Services
(LPS), the national average ‘time to foreclosure’ is currently 674 days, up
from 253 just a few years ago
. However, that number belies the sharp contrast
between states that process foreclosures through the judicial system, and those
that don’t. Want a quick, but potentially volatile recovery? States utilizing the non-judicial format
(most of the western states) are able to process much quicker (less than 200
days in Arizona, Oregon, Washington), but have seen deeper drops in home values
over the past year due to the increased supply.
For instance, Nevada saw a
near-20% drop in home values this past year. On the other hand, Florida, which
takes an average of 1,027 days to foreclose (remember: that’s an average of 3
years) experienced just a 2.8% dip in values in 2011. However, their recovery,
as will other states under a judicial system, will most likely take much longer
to materialize as homes will be kept off the market while undergoing the
foreclosure process. The bottom line number to keep an eye on is “foreclosure
inventory” – the rate in non-judicial states was more than 6%, while the
judicial states saw a rate of less than 3%.

For jobs
in the mortgage arena, Hammerhouse LLC released the results from its Second
Annual Survey of Originator Opinions
.  This 14 question survey was
completed by a statistically significant sample of approximately 400 active
mortgage loan originators and asked originators for their opinions on critical
issues facing the mortgage industry and impacting their job performance.

There is
plenty of blame to go around in the credit crisis in mortgage origination, much
of it resting with the rating agencies
. They belong to NRSRO (Nationally
Recognized Statistical Rating Organization), an organization going back over a
hundred years to Mr. Moody and Mr. Poor were some of the first to provide
detailed analysis of the risks associated with individual railroad companies
and their bond obligations. In 1936, the newly created SEC introduced a set of
laws prohibiting banks from investing “speculative grade securities as
determined by recognized rating manuals”. State insurance regulators then
followed suit. The NRSROs instantly become a critical part of the risk
management process for the post-depression era financial system. By the 1970s
the proprietary information created by the NRSROs was being compromised,
largely due to the advent of cheap photocopiers, so they made a very
significant change in the business model – a move away from investor fees
towards issuer fees. Investors were still the end user, but the issuers paid the bills. This change
in the payment structure redefined the entire business model and of course the
incentive structure, so although investors hoped the rating agencies gave out unbiased
information for investors, the fact that the issuers were/are paying the bills
creates issues. But looking ahead, one of the impacts of Dodd Frank’s immense
girth is that the rating agencies will lose their coveted US Federal blessing:
the latest Federal press release on the new US capital standards can be seen at
http://www.federalreserve.gov/newsevents/press/bcreg/20111207a.htm.

What
exactly happens next for US bank capital regulations, and eventually insurance
company and pension funds, remains highly uncertain – but there is virtually no chance the NRSROs will have
any meaningful role
. And over in Europe the story is exactly the same. The
ECB has all but abandoned NRSRO credit ratings for collateral eligibility.
Naturally these changes have not been lost on the NRSROs and they are trying to
salvage a broken business model. They are trying to make a big splash by
returning to a more conservative and unbiased business model, and create
publicity by downgrading U.S. banks, and nations around the world – but it is
rare that anyone should be surprised by a rating move, as the agencies are
using information that other analysts already are aware of. One quote I saw
said, “It’s a way to try to be relevant as the regulators of the world put them
out of business.”

Turning to
interest rates, they have been creeping higher this week. Yesterday we saw a
few intraday rate sheet price changes. Although the Fed continues to buy about
$1.2 billion a day of MBS’s, originator selling has picked up – I guess lock
desks are busy. Yesterday’s strong Jobless Claims started things off (reminding
us that a growing economy tends to push rates higher),single-family housing
starts are picking up, homebuilder sentiment is improving, and by the end of
the day 10-yr T-notes were worse by almost .75 in price (1.97%) and current
coupon mortgage security prices were worse .250.

It was
quiet overnight in Asia and Europe, and the only news out today in the U.S. is
Existing Home Sales (Dec) at 9AM CST, and which is projected higher to 4.65
million from 4.42 million. Rates have
edged higher, and the 10-yr is at 1.99% and MBS prices are a shade worse.

I just got off the phone with a friend living in North Dakota near the Canadian
border.

She said
that since early this morning the snow has been nearly waist high and is still
falling. The temperature is dropping way below zero and the north wind is
increasing to near gale force. Her husband has done nothing but look through
the kitchen window and just stare.

She says
that if it gets much worse, she may have to let him in.

…(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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