Fannie Mae Preps Investors for Reform. Book of Business Reflects Tight Credit Conditions

By: Jann Swanson • Thu, Jul 29 2010, 12:31 PM

In the wake of the passage of Wall Street Reform, which many opponents have criticized Capitol Hill for failing to deal with the future of Fannie Mae and Freddie Mac, the Obama Administration is beginning to present the broad outlines of how the future of the GSEs will be determined.

In a letter released Tuesday, David H. Stevens, acting commisioner of the FHA, said that the question of reforming the GSEs is "not if, but when." The Obama administration, he said, has made it clear from the beginning that the current structure of the government's role in the housing finance market is unsustainable and unacceptable, but winding down Freddie and Fannie abruptly would destabilize an already fragile housing industry and put the loans already on the books of these institutions at even greater risk.

The acting director said that any housing finance reform needs to address some complex issues responsibly.

The U.S. mortgage market is the second largest securities market in the world, after U.S Treasuries.
Fannie and Freddie currently have more than $5 trillion in mortgage guarantees outstanding and hold $1.5 trillion in loans and securities.
The GSEs are only one part of a broader system that includes FHA, Ginnie Mae, the Federal Home Loan Banks, other government programs, as well as the private sector.
Current financial support provided by the government is not an endorsement of the GSE business models; the administration is aware of the need for comprehensive reform.

In related news, Michael J. Williams, President and Chief Executive Office of Fannie Mae, spoke yesterday to Women in Housing and Finance at a luncheon in Washington. Williams said his company knows that change is coming but he declined to speculate on the future of the GSEs, saying that Fannie is taking the necessary steps to prepare for all outcomes and putting the company on the right track.

In his prepared remarks, Williams addressed the changes Fannie Mae has made in the nearly two years since entering government conservatorship, focusing particularly on the GSE's book of business behind which, he said, is one of the basic lessons of the crisis. Fannie Mae has learned that it can't just put people into homes it must make sure they can stay there or everyone suffers - the borrower, the mortgage industry, the financial system, and the economy.

A recent survey of consumer attitudes about homeownership showed that a lot of people still aspire to own their own homes, but 60 percent thought it would be tougher to do so. They are right, he said, but for the right reasons. "We need to make sure people are ready and prepared for homeownership so that they can be successful homeowners. Across the board, we see a much deeper understanding of how credit, income, job security, and a down payment could stand in the way of buying a home."

The housing industry has also put itself in a stronger position, returning to common-sense lending and hoping it can stick to those standards once the market recovers. Building on these standards, Fannie Mae has begun to build a new book of business. Loan-to-value ratios are averaging nearly 70 percent; credit scores average about 760; over 90 percent of new borrowers have long-term, fixed-rate loans and "the number of sub-prime loans in our new book is zero." Taken all together, he said, we're building the strongest book of business we've seen in the last decade and, since Fannie Mae prices for risk, as loan quality goes up, guaranty fees go down. Loan guarantees are now actually lower than in 2008 and 2009.

At the same time, Williams says that Fannie has not forgotten its mission. Last year it helped provide financing to more than 1.7 million low-and moderate-income families, more than one million families living in underserved communities, and nearly 760,000 very low-income households. Affordable lending was roughly 50 percent of Fannie's business last year.

"Our stronger lending standards simply make sense," Williams said. "First, they're better for homeowners. Borrowers with these new loans are more likely to keep their homes as long as they want, With fixed rates for long terms, their loans give them shelter from years of interest rate swings Second, these stronger loans are better for the mortgage market." Because Fannie provides such a large share of the market, backing two out of every five new single-family mortgages securitized in America since the beginning of 2009, just by strengthening lending standards, "we've ensured that a large share of the market will be more safe and sound for many years to come."

Williams said that much of Fannies older book of business, those loans predating 2005 in particular, is solid but the loans taken out during what he called the boom and bust years are problematic. An estimated 5 million homeowners are at least three payments behind on these mortgages. He outlined Fannies involvement in loan mitigation programs including the Treasury department's Making Home Affordable program which it administers for the Treasury Department as well as a separate program run by Fannie which Williams called the "largest foreclosure operation in America," with over 2,200 employees working on containing losses and preventing foreclosures, and over the last two years have streamlined procedures for pre-foreclosure sales. The companyaready announced a new program called "Deed for Lease," where borrowers can rent back their homes while they seek other housing.

Strategic defaulters have been much in the news, Williams said, and Fannie Mae is seeking a policy that strikes a fair balance between encouraging people to get help and producing appropriate penalties for those who simply walk away from their obligations. To that end, it has increased the lock-out period; strategic defaulters will be unable to quality for a Fannie Mae eligible loan for seven years. Previously the period was five years. READ MORE

Turning to the housing market, Williams said that his company's role in that market has taken on added importance in the past two years. With private investors exiting the market when it collapsed, the government support of the GSE's ensured they could stabilize the market. Even though some private capital has come back, as long as the housing market is shaky mortgage funding will be at risk. Liquidity is the lifeblood of the housing market and Fannie has provided more than $1 trillion in liquidity to the market n the last two years and its market presence today is about double its presence in 2005 - at the height of the bubble - "when the market largely went around us."