Building a New Infrastructure for the Secondary Mortgage Market
The Federal Housing Finance Agency—the regulator that oversees mortgage giants Fannie Mae and Freddie Mac—recently requested comments on its plan to create a single platform through which Fannie, Freddie, and potentially private actors would issue pools of mortgage-backed securities. (The majority of mortgages in America, once issued, are sold to investors in the form of securities—the market in which this is done is known as the “secondary mortgage market.” The existence of this secondary market enables many Americans to have access to mortgage credit at reasonable rates.)
Currently, Fannie and Freddie use different systems to perform the tasks necessary to securitize mortgages, such as aggregating mortgages into pools and validating data. The agency’s proposal not only aims to align Fannie and Freddie’s practices, but also to create an infrastructure for securitizing mortgages that can be compatible with a number of potential future states for the housing finance system. In response, the Center for American Progress and its Mortgage Finance Working Group submitted comments on December 3, which were co-signed by several organizations. Below is a summary of those comments.
In January 2011 the Mortgage Finance Working Group released its proposal to reform the secondary mortgage market entitled “A Responsible Market for Housing Finance.” Our plan builds off of five guiding principles for any effort to responsibly wind down Fannie Mae and Freddie Mac and bring private capital back into the mortgage market:
- Liquidity. Provide participants in the capital markets with the confidence to deliver a reliable supply of capital in order to ensure access to mortgage credit, every day and in every community, through large and small lenders alike.
- Stability. Rein in excessive risk taking and promote reasonable products backed by sufficient capital to protect our economy from destructive boom-bust cycles, such as the one we are now struggling to overcome.
- Transparency and standardization. Require underwriting, documentation, and analytical standards that are clear and consistent across the board so consumers, investors, and regulators can accurately assess and price risk, and regulators can hold institutions accountable for maintaining an appropriate level of capital.
- Affordability and access. Ensure access to reasonably priced financing for both homeownership and rental housing.
- Consumer protection. Ensure that the system supports the long-term interest of all borrowers and consumers and that it protects against predatory practices.
We believe that the proposed securitization platform could serve as a critical piece of infrastructure to achieve these goals for mortgage market reform. The platform can potentially help private capital return to the market by lowering barriers to entry. Harmonized contracts and clear disclosure and servicing requirements will help standardize products, protect consumers, and bring greater transparency to the secondary mortgage market.
Additionally, if designed carefully to preserve the “To Be Announced” market—a type of futures market for mortgage-backed securities that allows lenders to provide consumers with interest-rate commitments or “rate locks” on their mortgage interest rates before the final mortgage is signed and sealed—the platform can help bring liquidity, stability, and transparency to the market and ensure that all borrowers have access to safe and sustainable mortgage products. We believe the To Be Announced market is an important component of any future system of mortgage finance because it supports a highly liquid and transparently priced mortgage finance market, lowers mortgage rates, and enables consumers to get “rate locks” when shopping for a mortgage.
With those goals in mind, we respectfully submit the following broad recommendations:
1. Maintain the securitization platform as a government utility (not a privately owned asset) with strong oversight from the Federal Housing Finance Agency in coordination with other federal agencies
The Federal Housing Finance Agency appears to be agnostic about who controls the securitization platform in the long term, stating that it could “possibly [be] offered to the market as a form of utility.” We strongly recommend that the platform be maintained as a government utility, meaning the government would allow private actors to use the platform in exchange for a fee. In our view, this would facilitate active and responsible management by an impartial and empowered intermediary, avoiding conflicts of interest and ensuring that all rules are being followed.
The recent housing crisis demonstrated that private financial institutions are poorly suited to regulate themselves in the mortgage-backed securities market. In our view, the agency has the infrastructure and expertise to provide oversight to the utility for Fannie Mae and Freddie Mac, and it is possible that with more resources and authority, it could potentially play a similar role with respect to private issuers, depending on how the system evolves.
2. Require that all mortgage-backed securities offered in the public securities market be issued through the securitization platform
To the extent possible, we recommend that all mortgage-backed securities offered in the public securities market be issued through the government-run platform, regardless of the issuer. Issuing all securities through the platform would promote an efficient, stable, and liquid mortgage market and prevent the development of a “shadow banking” system that could circumvent the standards set for the platform. A single platform would also help level the playing field among large and small issuers of private mortgage-backed securities, promoting responsible competition.
3. Charge users two separate fees: one to cover administrative costs and another to fund programs that expand market access
The proposed securitization platform has the potential to be a very valuable asset. When fully operational, the platform could bring significant savings to future mortgage-backed securities issuers, guarantors, and investors by offering uniform contracts, reliable bond administration, advanced data management, and responsible monitoring.
The federal government must be adequately compensated for these services. Clearly, all participants should have to pay a fee to cover administrative and other costs associated with creating and maintaining the platform, ensuring that the platform is self-sustaining and does not depend on congressional appropriations.
We also believe that broad access to affordable and sustainable mortgage credit must be a primary goal of any reform effort. In the Mortgage Finance Working Group’s plan for market reform, we propose the creation of a Market Access Fund to help test new products and promote access to mortgage finance for traditionally underserved populations. The proposed platform could capitalize this fund through an assessment on all mortgage-backed securities issuances with a separate, small strip on all mortgages bundled through the platform.
4. Adopt strong, loan-level disclosure requirements for the mortgage-backed securities market
During the housing bubble, regulators and investors were often kept in the dark about the risks in private-label mortgage-backed securities due to flawed and often fraudulent data. In the future market, more granular and reliable information on product pricing and loan-level risk will force all market participants to do their business in the light of day, while helping the Federal Housing Finance Agency and other regulators mitigate fraud and abuse.
We commend the Federal Housing Finance Agency for proposing more robust security- and loan-level disclosures as part of the securitization platform, and we urge loan-level disclosures whenever feasible. We recommend that all essential loan-level disclosures be available to the first-loss entity at the time of delivery of the security (or as soon as practically possible).
We also recommend that information on borrower race, gender, nationality, and geography be collected and that regular reports eventually be made available at no cost to the public in an analyzable format—or at least to researchers upon request. This will help regulators, researchers, and concerned citizens track whether market participants are creaming, discriminating, or otherwise denying mortgage credit to certain creditworthy borrowers. As mentioned above, such openness and transparency is critical to a well-functioning and equitable mortgage market.
5. Ensure that the new infrastructure can facilitate advanced loan monitoring and loss-mitigation activities
When the Federal Housing Finance Agency rejected the Treasury Department’s offer to help pay for principal reductions on Fannie- and Freddie-backed loans, the agency cited system limitations as a key factor. Many of the systems related to these operational complexities, including servicing standards, technology infrastructure, data management, and monitoring protocols, will be revamped as part of the proposed securitization platform. Since the agency is already planning to make these investments, the agency should devote any additional resources necessary to addressing the aforementioned system and operational limitations, with a particular focus on loss mitigation.
Administrative burden should no longer be able to serve as an excuse for neglecting critical foreclosure prevention activities. The proposed platform is a promising opportunity for the agency to take steps to meet its stated conservatorship goal to “maintain foreclosure prevention activities and credit availability for new and refinanced mortgages.”
In conclusion, we believe that the Federal Housing Finance Agency is on the right path with its plan to establish a single securitization platform, and we appreciate the agency’s stated goal to design a platform that is “consistent with multiple states of housing finance reform” and “capable of working well with or without various degrees of government involvement.” It is crucial for the Federal Housing Finance Agency to continue to involve a broad range of stakeholders as the process moves forward.
The Mortgage Finance Working Group is a group of housing finance experts, affordable housing advocates, and leading academics who have been meeting since 2008 to better understand the causes of the mortgage crisis. The group was joined in this effort by the Consumer Federation of America, the National Council of La Raza, and the National Housing Conference.
Download the full comment letter here (pdf)
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