[Senate Hearing 113-15]
[From the U.S. Government Publishing Office]
S. Hrg. 113-15
OVERSIGHT OF FEDERAL HOUSING FINANCE AGENCY: EVALUATING FHFA AS
REGULATOR AND CONSERVATOR
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HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED THIRTEENTH CONGRESS
FIRST SESSION
ON
EXAMINING THE OPERATIONS AND REGULATORY PRACTICES AT THE FEDERAL
HOUSING FINANCE AGENCY
__________
APRIL 18, 2013
__________
Printed for the use of the Committee on Banking, Housing, and Urban
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
TIM JOHNSON, South Dakota, Chairman
JACK REED, Rhode Island MIKE CRAPO, Idaho
CHARLES E. SCHUMER, New York RICHARD C. SHELBY, Alabama
ROBERT MENENDEZ, New Jersey BOB CORKER, Tennessee
SHERROD BROWN, Ohio DAVID VITTER, Louisiana
JON TESTER, Montana MIKE JOHANNS, Nebraska
MARK R. WARNER, Virginia PATRICK J. TOOMEY, Pennsylvania
JEFF MERKLEY, Oregon MARK KIRK, Illinois
KAY HAGAN, North Carolina JERRY MORAN, Kansas
JOE MANCHIN III, West Virginia TOM COBURN, Oklahoma
ELIZABETH WARREN, Massachusetts DEAN HELLER, Nevada
HEIDI HEITKAMP, North Dakota
Charles Yi, Staff Director
Gregg Richard, Republican Staff Director
Laura Swanson, Deputy Staff Director
Erin Barry Fuhrer, Professional Staff Member
William Fields, Legislative Assistant
Greg Dean, Republican Chief Counsel
Mike Piwowar, Republican Senior Economist
Chad Davis, Republican Professional Staff Member
Dawn Ratliff, Chief Clerk
Kelly Wismer, Hearing Clerk
Shelvin Simmons, IT Director
Jim Crowell, Editor
(ii)
?
C O N T E N T S
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THURSDAY, APRIL 18, 2013
Page
Opening statement of Chairman Johnson............................ 1
Opening statements, comments, or prepared statements of:
Senator Crapo................................................ 2
Senator Shelby............................................... 4
Prepared statement....................................... 28
Senator Vitter............................................... 4
Senator Tester............................................... 4
WITNESSES
Edward J. DeMarco, Acting Director, Federal Housing Finance
Agency......................................................... 5
Prepared statement........................................... 28
Responses to written questions of:
Senator Crapo............................................ 47
Senator Reed............................................. 48
Senator Menendez......................................... 50
Senator Hagan............................................ 57
Senator Shelby........................................... 58
Senator Vitter........................................... 59
Steve A. Linick, Inspector General, Federal Housing Finance
Agency......................................................... 22
Prepared statement........................................... 39
Responses to written questions of:
Senator Reed............................................. 60
Senator Menendez......................................... 61
(iii)
OVERSIGHT OF FEDERAL HOUSING FINANCE AGENCY: EVALUATING FHFA AS
REGULATOR AND CONSERVATOR
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THURSDAY, APRIL 18, 2013
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10:02 a.m., in room SD-538, Dirksen
Senate Office Building, Hon. Tim Johnson, Chairman of the
Committee, presiding.
OPENING STATEMENT OF CHAIRMAN TIM JOHNSON
Chairman Johnson. I call this hearing to order.
Before we turn to the hearing, I would like to express my
condolences to the people of Boston and to Senator Warren. Our
thoughts and prayers are with you all.
As Members of this Committee on both sides of the aisle
noted during the debate of the Housing and Economic Recovery
Act of 2008, one of the most important aspects of this bill was
the establishment of the Federal Housing Finance Agency as an
independent regulator. This ensures that it can operate without
undue political interference and that the appropriations
process cannot be used as a road block for regulations.
With this independence, the Banking Committee must exercise
Congressional oversight to ensure that the agency is properly
balancing its attention among the entities it regulates and its
role as conservator of Fannie Mae and Freddie Mac. HERA also
established the FHFA Office of Inspector General, and I am
pleased that we have both Acting Director DeMarco and Inspector
General Linick before the Committee today.
As we turn again to housing finance reform, let me be clear
that a never-ending conservatorship of Fannie Mae and Freddie
Mac is not an option. To help remove obstacles to housing
financing reform, Senator Crapo and I, along with every Member
of this Committee, offered an amendment that was unanimously
adopted by the Senate to the budget resolution to prevent the
GSEs from being used as a piggy bank. I will continue working
with Ranking Member Crapo to find a bipartisan path forward on
sensible long-term reforms. So, it is important we understand
the current status of the conservatorships and how FHFA's
proposed changes will expand or limit our options for reforming
the housing finance system.
The FHFA has a large and important role in the housing
market, regulating two of the largest entities in the market,
Fannie Mae and Freddie Mac, as well as acting as their
conservator to oversee business and management decisions to
ensure stability in the housing market. I am concerned about
continued reports that FHFA does not have adequate staff to
perform examinations of the entities under its supervision and
follow up on enforcement directives.
Under Mr. DeMarco's leadership, the FHFA has made
significant changes to the operations of the GSEs by
standardizing some of their operations and now seeking to
streamline their securitization platforms. I look forward to
hearing more about this proposal and other priorities described
in the Conservatorship Strategic Plan as well as how the
current enforcement challenges raised by the IG are being
addressed. If the FHFA is going to undertake such a massive
effort as streamlining the securitization platforms of the
GSEs, we should be sure that it will also be able to supervise
the new platform once it is operating.
I look forward to hearing from our witnesses on these
issues, and with that, I will turn to Ranking Member Crapo.
STATEMENT OF SENATOR MIKE CRAPO
Senator Crapo. Thank you, Mr. Chairman.
This September will mark the 5-year anniversary of the
Federal Housing Finance Agency taking Fannie Mae and Freddie
Mac into conservatorship, and Mr. Chairman, I again appreciate
working with you on this and particularly appreciate your
comments just now that leaving Fannie Mae and Freddie Mac in
conservatorship is not an option.
As I noted in a previous hearing, when FHFA Director James
Lockhart and Treasury Secretary Henry Paulson announced this
action, Secretary Paulson described the situation as a time out
and stated, ``We will make a grave error if we do not use this
time out to permanently address the structural issues presented
by the GSEs.'' In the weeks to come, I will describe my views
on long-term reform. I look forward to engaging in that timely
and necessary debate.
Instead of a time out, these conservatorships have been
more akin to a perpetual state of limbo, which has no doubt
created extraordinary challenges for their management.
Director DeMarco, you are to be commended for your
performance in the extraordinarily difficult and complex role
that you were given by President Obama nearly 4 years ago. Your
success in leading FHFA to preserve the assets of Fannie Mae
and Freddie Mac has put us into a position to begin making the
hard decisions of what to do with these entities. You have
developed a knowledge and expertise that is shared by very few
people, having been involved in the conservatorships of these
highly complex institutions from the very beginning. You have
further proven yourself to be a technical policy expert rather
than a political advocate. And for all of these reasons, I can
think of no one more qualified and better situated than you to
manage these conservatorships and assist the Congress in making
the hard decisions that lie ahead of us.
Unfortunately, as we approach the 5-year mark of these
conservatorships, they are beginning to report profits. I say
unfortunately, not that they are beginning to report profits.
That is good. But I fear that we may be in the midst of a
closing window to make those decisions and enact a meaningful
housing reform. Because of that, I thank you for your continued
service during this pivotal moment, despite the many challenges
that you continue to face.
Returning to the issue at hand for this hearing, there are
a few areas that I would like to highlight for our continued
oversight. The Annual Scorecard released by the FHFA indicates
a focus on the creation of a single securitization platform, as
the Chairman has mentioned. I look forward to hearing more
details about this undertaking. Specifically, how does this
platform fit with future entities in a financial world post-
reform of our housing finance system?
The Scorecard also created a goal for the continued
shrinking of the current footprint within the market for Fannie
and Freddie. As I noted in a previous hearing, the FHFA's
latest Conservator's Report showed that the Federal Government,
through Fannie and Freddie and Ginnie Mae, accounted for an
astounding 100 percent of the mortgage-backed securities issued
during the first three quarters of last year. Obviously, this
is extremely troubling. So I am interested to hear more details
about how FHFA plans to address the domination of our mortgage
market by the Federal Government.
The recent profits reported by Fannie and Freddie also
present new questions. For example, do the profits help with
challenges such as personnel recruitment and retention, or do
they present new challenges given that the companies will
remain in conservatorship no matter how they perform absent
Congressional action?
I look forward to learning the answers to these and other
questions during this hearing. However, I must reiterate that
the most pressing question in this space is how will we reform
our Nation's housing finance system? The greatest aid that we
can give both prospective and current homeowners is to provide
clarity for market participants in regard to future mortgage
finance, and for that reason, I am hopeful that the
Administration will engage with us on this important topic in
the coming months to shed further light on their positions
moving forward.
Mr. Chairman, I believe our work together during the recent
budget process that you have mentioned showed that we have the
ability to find common ground. Every one of us on this
Committee came together and agreed that we needed to end the
practice of using the GSEs as piggy banks to fund other parts
of the Federal Government. In doing so, we were able to pass a
budget point of order against it with unanimous support from
this Committee. I am very glad that we are working together on
these important issues and look forward to working with you and
all of my colleagues on this Committee once again on a robust,
bipartisan process to finally bring about an end to these
conservatorships.
Thank you, Mr. Chairman.
Chairman Johnson. Thank you, Senator Crapo.
Are there any other Members who wish to make a brief
opening statement?
Senator Shelby. Mr. Chairman.
Chairman Johnson. Senator Shelby.
STATEMENT OF SENATOR RICHARD C. SHELBY
Senator Shelby. Mr. Chairman, I would ask that my written
statement be made part of the record in its entirety and I just
have a few brief remarks.
I think I would be remiss if I did not thank you, Mr.
DeMarco, for your outstanding service. I applaud your work. You
have been an extraordinary person in this job, despite what
some people would say. You were given a tough job, a very tough
job, during a critical time in our Nation's housing market. But
your commitment to protecting both taxpayers and homeowners, I
believe, have served our Nation well, and I look forward to
hearing from you today. Again, I thank you for your work.
Mr. DeMarco. Thank you, Senator.
Chairman Johnson. Anybody else?
Senator Vitter. Mr. Chairman.
Chairman Johnson. Yes.
STATEMENT OF SENATOR DAVID VITTER
Senator Vitter. Very briefly, I just want to thank Director
DeMarco, as well, for his work, and it has been very, very able
in very tough times.
And, Mr. Chairman, I want to echo your thoughts and thank
you for the clear statement, which I think is a clear
bipartisan consensus, that significant reform does have to
happen to GSEs and now is really the time to focus on that.
And in that regard, I would just encourage all of us,
again, there is an obvious place to start, I think, and that is
with the solid bipartisan Jumpstart GSE Reform Act, which has
very broad support in this Committee. And I would like to
continue to encourage a markup of that. It could be the same
day as a markup of the Menendez-Boxer bill. They could be on
the same agenda. I think that would work fine. And I think that
would be an important jumpstart, as the name of the bill
implies, to this effort. We have not had a markup in this
Committee since September 8, 2011. That is over a year and a
half ago. And I think this would be a very, very appropriate
and timely and solid markup to get us on this path.
Thank you, Mr. Chairman.
Chairman Johnson. Thank you.
Senator Tester.
STATEMENT OF SENATOR JON TESTER
Senator Tester. Thank you, Mr. Chairman.
I want to thank Mr. DeMarco, too. I appreciate your work.
It has been stellar.
I want to express my appreciation for you holding this
hearing today. I think that there are a lot of good signs.
Property values are rising. The Enterprises are making some
money, turning some profits. These are all good signs. But I
appreciate the statement made by both the Chairman and the
Ranking Member. I believe now is the time to move forward with
solutions to restructure the finance system, housing finance
system, long-term, to provide stability for the long haul. And
I would hope that--I would hope that, because I think it is so
critically important for our economy--I would hope that this
becomes a top priority for this Committee to get this done, to
get this out of conservatorship and get a program that is going
to work for this country for the next generation.
Thank you, Mr. Chairman.
Chairman Johnson. Thank you.
I want to remind my colleagues that the record will be open
for the next 7 days for opening statements and any other
materials you would like to submit.
Now, I would like to introduce our first witness. Mr.
Edward DeMarco is the Acting Director of the Federal Housing
Finance Agency. Mr. DeMarco has served in this capacity since
2009.
Mr. DeMarco, please begin your testimony.
STATEMENT OF EDWARD J. DEMARCO, ACTING DIRECTOR, FEDERAL
HOUSING FINANCE AGENCY
Mr. DeMarco. Thank you, Mr. Chairman. Chairman Johnson,
Ranking Member Crapo, Committee Members, I am honored to be
here and I am also grateful for the remarks in your opening
statements.
September 2008 was one of the darkest months in our
country's financial history. On September 7, FHFA placed Fannie
Mae and Freddie Mac into conservatorship supported with
financial agreements with the Treasury Department. Markets
opened the next day and we held our breath to see how the
employees, the country, and global investors would respond. Our
first concern was ensuring ongoing liquidity in the mortgage
market by ensuring Fannie and Freddie kept operating. They did,
and the market kept functioning, but with a much-needed
reassessment of risk.
As the depth of the housing downturn fully materialized, it
was imperative to expand foreclosure prevention actions. We
needed to limit losses to Fannie and Freddie by addressing the
daunting challenge of homeowners' financial distress,
compounded by declining house prices in a deep and prolonged
recession. The Obama administration and FHFA and Fannie and
Freddie worked to develop and implement what became known as
HAMP. While HAMP brought some consistency to the loan
modification process, we recognized that it was not going to
help everyone in distress.
Experimenting with other ideas led to the Servicing
Alignment Initiative and the development of the Standard
Modification Program, where we simplified and aligned the loan
mod protocols for Fannie and Freddie, making eligibility
easier, payments lower, and the process simpler than those
governing HAMP.
We kept working. Through a series of steps, we improved and
lengthened forbearance programs for unemployed homeowners and
others facing temporary setbacks. We simplified, expanded, and
expedited short sales. We kept testing. We kept learning. Our
focus was two-fold: Keep it simple and get the monthly payment
down. The latest enhancement to our suite of programs,
announced last month, adds a streamlined modification option
that addresses the key remaining impediment, the challenges of
the documentation process.
Economic distress did not always mean default, but it did
produce hardship for families and greater risk to taxpayers. We
developed a refinance program called HARP to assist homeowners
with little or no equity who are unable to refinance. It was
not perfect, so we talked with the industry, consumer groups,
and Treasury, and we reinvented the program, dubbed HARP 2.0.
Today, it is working so well and has so much potential to
reduce losses and assist borrowers that I announced last week I
was extending it for 2 more years.
Although we have not been able to help every homeowner, we
have completed 1.3 million loan modifications and a total of
2.2 million foreclosure prevention transactions that have
allowed delinquent borrowers to stay in their homes. We have
helped nearly half-a-million families exit their homes
gracefully without foreclosure. That is a total of 2.7 million
foreclosure prevention actions.
We have also completed 2.3 million HARP refinances.
Including HARP and all other re-fis, Fannie and Freddie have
acquired 16 million refinance loans since 2009.
Along the way, we have been relentless in evaluating these
programs, in reinventing them to fix design flaws. As you would
expect for any complex operation of this scale, operational
challenges abounded, servicers made mistakes, and borrowers did
not always respond to offers of assistance. But when you add
the foreclosure prevention actions we completed and the HARP
refinances since conservatorship, that totals to some five
million delinquent or at-risk families that have received help
from these efforts.
The companies themselves have also made great progress. The
need to draw more than $180 billion from taxpayers tells me the
GSE model is broken beyond repair. But the people of the two
companies, many of whom joined after the conservatorships, have
worked hard to restore the market and their companies. Today,
as a result of their efforts and improvements in the housing
market, both companies have generated positive net income,
which as taxpayers we should all applaud.
The first time I appeared before this Committee as Acting
Director, Senator Corker asked me a question I could not
answer. How do we transition away from this mess to a better
system? Over the past 3\1/2\ years, I have thought about that
question. My prepared statement provides my answer. Our
strategic plan for the Enterprise conservatorships and the
specific plans in the 2013 Scorecard set forth a transition
path and FHFA's efforts to date to get that transition going.
But we cannot complete the transition until we know the
final destination, and for that, the country needs the Congress
to set that destination. I am thankful for recent action by
this Committee toward that end, particularly the budget
resolution that prevents further use of guarantee fees to fund
the Government, and I am supportive of the bipartisan Jumpstart
GSE Reform Act. But much more remains to be done.
Thank you for having me again and I look forward to our
discussion this morning.
Chairman Johnson. Thank you, Mr. DeMarco, for your
testimony.
As we begin questions, I will ask the Clerk to put 5
minutes on the clock for each Member.
Mr. DeMarco, one of your strategic plan's goals for 2013
includes developing risk transfer transactions that would share
risk with private capital, such as Private Mortgage Insurance.
During the recent housing crisis, was PMI able to cover all
claims associated with loans purchased by the GSEs? If a
mortgage insurer were not able to cover all of a claim, how
would this impact the GSEs?
Mr. DeMarco. Mr. Chairman, mortgage insurance did not
cover--make good on all of the coverage that Fannie and Freddie
thought they had, but they have made good on most of it. So
when a mortgage insurance company fails to make good on an
insurance claim, that loss, then, is accruing to Fannie and
Freddie, which means it is accrued to the American taxpayer.
There have been a couple of mortgage insurance companies
that have failed and they are now in runoff or some other kind
of management by their State Insurance Commissioner in which we
are getting partial payment of claims made to us. The final
resolution of those insurance claims and how much we actually
recover, whether it is 100 percent or something less, only time
will tell. But the majority of the mortgage insurance companies
have actually remained solvent and operating and are continuing
to make good on their claims, and that certainly has reduced
loss to Fannie and Freddie as a result of having that private
capital protection standing in front of them.
Chairman Johnson. Since insurance is regulated at the State
level, how do the GSEs and FHFA ensure that Private Mortgage
Insurers are operating soundly, and would that oversight need
to change if a mortgage insurer participates in the Risk
Transfer Transaction Program?
Mr. DeMarco. So, even if we do not have mortgage insurers
participating in risk transfer, the system and mechanisms you
mentioned do have to change. We are changing them, and we put
that in our 2013 Scorecard as one of our priorities for this
year. We are reexamining and reestablishing eligibility
standards for mortgage insurers to be eligible to provide that
sort of first loss coverage for loans Fannie and Freddie
purchase. So we are reestablishing those. We are also updating
the master policy under which mortgage insurance companies
provide this protection to Fannie and Freddie. So those changes
or improvements in the marketplace are being developed right
now and those changes will be out there shortly.
With regard to your question about mortgage insurance being
a participant in the sort of risk transfer transactions we are
envisioning, yes, I do believe that there is a role for them
and I look forward to their participation as one source of
getting private capital more into the game in the mortgage
credit risk area. But we want to make sure that the mortgage
insurance companies that participate in that are, in fact,
financially sound and capable of providing the credit
protection that we are seeking to acquire.
Chairman Johnson. Mr. DeMarco, the FHFA recently announced
its Streamlined Modification Program for borrowers that are 90
days delinquent. Under this program, would a borrower need to
verify their income, receive an appraisal on the property, or
provide other documentation for the modification? How does this
benefit borrowers, taxpayers, and the GSEs?
Mr. DeMarco. Under the Streamlined Program, they would not
have to provide any of those things, Mr. Chairman. We have
developed this after a good bit of learning from the challenges
we have had getting borrowers successfully into loan
modification programs. It has been a persistent aspect of the
loan modification story that getting borrowers to be able to
fully document their income and circumstances to qualify for a
HAMP modification or a standard modification has been a
challenge.
What we are now doing is this is sort of the last chance
before the borrower gets referred to foreclosure, and in the
communication to the borrower, we are making clear that if they
would provide documentation, they would be assessed for what
could be a better loan modification option for them. But at
this point, we are looking at borrowers who are seriously
delinquent, and we have learned from experience over these past
several years, if you do not get a borrower into some kind of
an assistance program in those first 3 or 4 months, the
likelihood that you are going to get them into some kind of
successful program goes down substantially.
And we have found that borrowers have responded positively
to this request. It is simply: sign, agree that this is your
new payment, and begin submitting the payment. So we believe,
based upon the testing and work we have done, the experience we
have developed, that this, in fact, will lower the losses to
taxpayers and will help further enhance our efforts to help
consumers avoid foreclosure.
Chairman Johnson. One last question. With these recently
announced changes to the modification program, would you now
support the income verification changes that Senators Boxer and
Menendez are trying to implement in the Responsible
Homeownership Refinancing Act for borrowers who are paying
their mortgages and trying to refinance?
Mr. DeMarco. I believe--so, slightly two different things
here, Mr. Chairman. The Boxer-Menendez bill is referring to
income verification having to do with refinances for HARP and
it really goes to a particular point regarding how to get a
cross-servicer to be able to do a HARP loan. I believe that we
have addressed the issues that Senator Menendez has as I
understand them. And I think that, in fact, the evidence is
showing we are getting a good bit of cross-servicer
participation in the HARP program. We are using the income
collected there as much to make the underwriting system work
and be able to transfer the information to the new servicer. It
is the way the systems are set up, and we have spent time
explaining that to Senator Menendez.
Chairman Johnson. Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
Mr. DeMarco, last fall, the FHFA and the Treasury
Department agreed to a change in the structure of the dividend
calculation, and as a part of that, under the new agreement,
all profits except for a small amount retained for capital are
remitted to the Treasury. Some have argued that this may have
created incentives for Fannie and Freddie to assume either more
or less risk in a given transaction because they do not possess
normal business incentives.
You have been dealing with the unintended incentives within
the GSE space since even before the conservatorships began, but
are you anticipating any new steps that may be needed to ensure
that the taxpayers remain protected?
Mr. DeMarco. I am not, Senator. I am not concerned about
that particular risk. I think that the management team and the
boards at Fannie Mae and Freddie Mac are quite anxious to
demonstrate to the American taxpayer that they have made great
strides at each company and that they are operating these
companies in conservatorship profitably and safely. They
recognize their responsibility to the American taxpayer and I
think they take that responsibility quite seriously. I do not
think that they anticipate or have any vision of increasing the
risk taking. And in any event, I have got a solid supervision
team at FHFA monitoring the activities at each company, and we
would be quite mindful of any increase in risk-taking activity
at the companies.
Senator Crapo. Well, thank you, and I appreciate your
attention to that.
On another issue, in my opening statement, I reiterated
concern about the massive stake the Federal Government has and
continues to have within our mortgage markets. The obvious
solution for this is for Congress to act on reform. In the
absence of Congressional action, you have established a
reduction in the footprint of the GSEs as a fundamental goal
over the next year and I am very happy to see that. Please
describe to us in more detail the risk sharing and portfolio
reductions targets that you are establishing.
Mr. DeMarco. Certainly. Fannie Mae and Freddie Mac have
three principal lines of business: The single-family mortgage
guarantee business, a multifamily business, and a retained
portfolio in which they buy and hold mortgages and mortgage-
related assets. What we have done in the 2013 Scorecard is set
objective measures for each of these lines of business to
fulfill the strategic goal of gradually shrinking their
footprint in the mortgage market.
So with regard to single-family mortgages, what we have
described is a goal of having $30 billion worth of unpaid
principal balance of mortgages to see some kind of risk sharing
or risk transfer transaction between Fannie and Freddie and
private capital. This could be done on--accomplished a number
of ways.
The Chairman asked about mortgage insurance, so one way to
do it is to have mortgage insurance companies provide an
insurance wrap on a mortgage-backed security.
Another way to do it is to issue something called a credit-
linked note, some kind of credit-linked security in which there
is a reference pool of mortgages and investors pay in money and
that serves as sort of real equity backing the credit risk
there. And they get a return on that from the guarantee fee,
but that money sits there in trust to absorb losses in the
mortgages.
And the third principal way is through a Senior
Subordinated Security Structure. This is pretty standard in the
asset-backed securities market. It is how Freddie Mac operates
its multifamily business. And what you do is you issue--you
take the pool of mortgage securities and you break it up into
two separate pieces. One piece is unsecured, or, I am sorry, it
is unguaranteed by Fannie or Freddie, and so if there are
credit losses, those are absorbed by the holder of that
security. So that is what we are doing in the single-family
space.
In the multifamily space, Fannie and Freddie already do
virtually all of their lending on a risk shared basis with
private capital. So our approach to gradually stepping back
their footprint there is to say, we want to see your size in
the marketplace in 2013 be 10 percent smaller than it was in
2012. We actually expect the multifamily market to be a bit
smaller in 2013 than in 2012, but I do not want to see their
market share growing at a time that we are shrinking the
companies and the market itself is shrinking.
The third area is the retained portfolio. With the retained
portfolio, the Treasury agreement already calls for a reduction
of 15 percent year over year in the retained portfolio. What we
have done is said, look, we are going to be able to meet that
target the next couple of years just through normal runoff. We
can do more than that. So we are looking at the illiquid
portion, the nonagency security portion of that portfolio, and
we gave each company a target that they must sell 5 percent of
the nonliquid assets that they had at the start of the year.
They have to do that over the course of the year. How they do
it, when they do it, which assets they do it, that is for
management's judgment to make good business decisions in light
of the market circumstances.
Senator Crapo. Thank you.
Chairman Johnson. Senator Reed.
Senator Reed. Mr. Chairman, thank you very much. Thank you,
Mr. Director.
Last year, you declined to participate in Treasury's
Principal Reduction Alternative Program, and you communicated
to Congress. In part of the letter, you did indicate that FHFA
has allowed the Enterprises to conduct short sales, deeds-in-
lieu, which resulted in principal forgiveness, essentially, for
the homes. And then in another part of the letter, you said
that we cannot do any principal forgiveness--and I am
paraphrasing--because it would be inconsistent with the
mandate, it would promote, or fail to promote the stability and
liquidity of the marketplace, and several other reasons.
So you seem to be saying that you have allowed the
Enterprises to do it, but that it is contrary to your mandate
and you could never allow them to do it. Can you try to
reconcile those two positions?
Mr. DeMarco. I will do my best, Senator. Not having the
letter in front of me, my guess is it is all about context,
because, in fact, short sales and deeds-in-lieu, to your point,
result in principal forgiveness to the borrower. In a short
sale, you are allowing the borrower to sell the house for
whatever the market price is that they can get and you are
writing off the rest of it after an assessment of whether the
borrower has other assets that can be used to help pay the
mortgage.
What we did in--but I did say, and my conclusion in that
letter was that we carefully analyzed the HAMP Principal
Reduction Alternative that the Treasury Department had as part
of the HAMP program, and I concluded after careful analysis by
the FHFA team that pursuing that program of principal
forgiveness, in which you are doing a loan modification,
writing down principal, and the borrower keeps the house, was
inconsistent with our mandate as conservator. And I think we
went to some good length to try to explain the analysis we did
and how we came to that difficult judgment.
Senator Reed. Well, one of the things I find troubling is
that part of the HAMP was actually providing some resources to
the Enterprises for undertaking this, that it would not be a
complete write-down of their investment or their obligation,
but, in fact, given HAMP resources, they would be receiving--I
think you get up to a high of 60 cents on the dollar of
forgiveness, which seemed to be the policy of the Treasury
Department, which would be consistent with the law, which would
be----
Mr. DeMarco. Right.
Senator Reed. ----there might be a conflict between your
view, but it seemed to be, one, a decision inconsistent with
what you have already admitted that you did, which is allow
short sales and allow people to forgive principal.
So as a legal restriction, you seem to have violated that
in the short sales. But more importantly, I think, in terms of
what one expects and what I think you try to do, many private
financial institutions have, without any assistance from the
Federal Government directly, have undertaken loan modifications
because it has been in the best interest of their shareholders
and they are not fearful of some systemic reaction, even though
they would be the first victims of such reaction if it took
place.
So how do you reconcile the fact that this seems to be a
commercially reasonable approach, together with the fact that
it was substantially subsidized by legislation and policy
approved by the Congress?
Mr. DeMarco. I believe that the mandate the Congress gave
me, and I tried to spell this out in my response to Congress
last summer, I have a responsibility to consider the overall
cost to the taxpayer as well as the benefit to the taxpayer and
to the market. And the fact that some of these funds were
coming from the Treasury Department still meant they were
coming from the American taxpayer. And we were actually very
careful in delineating our analysis to show where these
different costs were coming from.
I did not say--I have never said that it is illegal for
FHFA as conservator to allow principal forgiveness. What I have
said is we have a mandate to balance the responsibility to
prevent foreclosure with the mandate of doing so in a way that
minimizes the cost to the taxpayer, and we went through in
great detail how we came to the conclusion and judgment that we
drew.
So it really--the other thing, Senator, is I really do
think there is a difference between an individual financial
institution doing this and Fannie Mae and Freddie Mac doing
this in terms of the systemic market impact, because when an
individual financial institution undertakes this for even the
largest ones, they are getting to select who they do it for.
They do not have to announce it to anybody else. They do not
have to publish rules that a thousand or two thousand mortgage
servicers all have to follow. When Fannie Mae and Freddie Mac
undertake any of these kinds of programs, all these rules need
to be spelled out publicly and there needs to be a compliance
regime that goes along with it and I think that it is
fundamentally different to have Fannie and Freddie doing it.
Senator Reed. Well, I think there is a significant
difference, and it may be a very positive difference, that very
systematic and thoughtful loan modifications could have
dramatically improved the overall market sooner rather than
later, could have led longer term to savings to taxpayers,
because properties that were foreclosed and with a loss to the
investor and a terrible loss to the homeowner could have been
avoided, and that did not seem to be part of your--at least a
relevant part of your calculation. So we will agree to disagree
on this issue. Thank you.
Mr. DeMarco. I am afraid so, Senator, but I must say, as I
tried to go through in my opening remarks, I am actually quite
proud of the work that FHFA and the people at Fannie and
Freddie have done to pursue loan modifications and to come up
with constructive, effective tools to help borrowers in
distress. And I went through the totals of this and I think
that, in fact, over these last several years, we have
demonstrated both a commitment and a leadership role with
regard to pursuing loan modifications, with regard to trying to
new things, trying to make the system work better.
We have a policy disagreement, I guess, on a particular
tool, but it is not reflective of my lack of concern or desire
to get effective loan modifications done to help people stay in
their homes.
Senator Reed. Well, just a final point. This is not just a
particular tool. This is probably the most significant Federal
initiative that the Treasury Department initiated to try to
help people who were facing mortgage. Billions of dollars that
were paid, authorized by Congress, directed by Congress----
Mr. DeMarco. Right.
Senator Reed. So this is, I do not think, sort of a
disagreement on sort of a technical approach. This was a
fundamental rejection of what we all thought was going to be
one of the most significant--and potentially could have been--
significant improvements not only to the housing market, but to
the overall economy. So thank you very much.
Chairman Johnson. Senator Shelby.
Senator Shelby. Thank you. Mr. Chairman, I have a number of
questions I would like to submit for the record, if I could,
and then I have a few that I would like to engage with Mr.
DeMarco.
Chairman Johnson. Without objection.
Senator Shelby. Mr. DeMarco, I think you rightly point out
that there is a difference between a private financial
institution and Fannie Mae and Freddie Mac right now. Freddie
Mac and Fannie Mae are under a conservatorship of the U.S.
Government, is that right?
Mr. DeMarco. Yes, Senator.
Senator Shelby. And so, in other words, they are sitting in
the lap of the taxpayer.
Mr. DeMarco. Yes, sir.
Senator Shelby. As opposed to, say, JPMorgan Chase or any
of these others that are stockholder-owned, which is good.
Thank you for doing that.
Let us talk about securitization and the lack of it in the
private sector. How do we get that jump started? I am not a
securitizer, but I could see if you packaged a number of
quality loans, and there was transparency there----
Mr. DeMarco. Right.
Senator Shelby. ----either single-family or multifamily,
and people knew what they were getting, they would be rated
very high. There would be a market there with no taxpayer
guarantee. They would stand on their own. Is that not what we
really want to do as much as we can in the country?
Mr. DeMarco. That is my sense that that is what most people
would like to do, Senator. Yes. I think that is achievable.
Senator Shelby. Absolutely. But it seems to me that it
makes no sense for Fannie and Freddie, in other words, the
implied guarantee of the taxpayer, to have 100 percent, or
close to it, of the mortgages in today's market. So that seems
to be our number one challenge as far as getting the private
sector back in the market. And would that entail, as I said,
transparency, a different attitude and maybe a lot more due
diligence by the buyer of the securities, due diligence that we
have not seen in a long time by the rating agencies, all of
those?
Mr. DeMarco. I think we need all of that, yes, sir.
Senator Shelby. All three. Now, how do we get to the first
big tranche there? You know, we have got to go measured step by
step.
Mr. DeMarco. Right.
Senator Shelby. I think that is important----
Mr. DeMarco. Right.
Senator Shelby. ----as far as Fannie and Freddie are
concerned.
Mr. DeMarco. Yes. Yes, sir, it is. And I think one of the
ways we can start to draw this capital back in and start to
demonstrate how this can work better is, in fact, through some
of the steps that we are taking, both in terms of the Risk
Transfer Transactions, where we say, look, private capital out
there, here we come. Here are some mortgages. We would like you
to take on this risk. We want you to partner with us in these
transactions, and we think it is an economically viable
opportunity for you to come in.
And we are going to also, in that process, demonstrate with
much greater clarity than the markets saw before, especially
out of Fannie and Freddie, much greater clarity about here is
the loan level details about what it is you are buying. Here is
clarity about the legal structure in which this trust will be
managed and how your interests as an investor are going to be
protected over the life of this security. So we are trying to
develop that right now.
Senator Shelby. Is it true--we have a record here--that
there are fewer and fewer foreclosures in multifamily
apartments as opposed to single----
Mr. DeMarco. Yes, sir.
Senator Shelby. Is that because there is more skin in the
game, generally? Even loans that Freddie Mac or Fannie Mae buy,
they want substantial equity in those loans, is that correct?
Mr. DeMarco. That is certainly part of it, Senator.
Senator Shelby. But I suppose there is a role out there for
multifamily loans that do not have as much skin in the game,
but should be made for different reasons.
Mr. DeMarco. Or that may be a hard market to----
Senator Shelby. Right.
Mr. DeMarco. ----bring credit into that market and so
forth. Yes, sir, I do believe there are roles to consider
opportunities where the market may not work----
Senator Shelby. Give us the shorthand rendition of where
Fannie Mae and Freddie Mac are today compared to where they
were, considering the loans you have put on the books, or
actually they put on the books, in the last 4 years, and Ginnie
Mae, too, as opposed to a lot of the other portfolio. How are
the new loans doing as opposed to the old?
Mr. DeMarco. The performance of the new loans is
substantially better. The credit characteristics of the
borrower are better. The downpayments are better. The insurance
premium that they are charging for this is much more
appropriate to the risk that is being undertaken. So in all
aspects, I believe that the quality of the book is much
sounder, which is very important in these since the American
taxpayer is the one right now providing the capital to support
those mortgage credit guarantees.
Senator Shelby. And is your challenge, your basic
challenge, among others, at Fannie and Freddie, as you look at
it, in the old portfolio?
Mr. DeMarco. Yes, sir.
Senator Shelby. And how are you going to surmount that? I
know rising housing prices and more payments into it help,
but----
Mr. DeMarco. Right. So, we are continuing to work through
the legacy book. We are now starting to make some meaningful
progress through the preconservatorship book of business.
One of the things that I set forth in the 2013 Scorecard is
that by the end of this year, I want the loan quality reviews
of that book examined and I want all repurchase requests to be
made under those contracts, those requests to be made by the
end of this year. And we are continuing with all our loss
mitigation efforts on that book, as I described in my opening
statement.
Senator Shelby. Keep doing what you are doing. Thank you.
Mr. DeMarco. Thank you, Senator.
Chairman Johnson. Senator Tester.
Senator Tester. Yes. Thank you, Mr. Chairman, and thank
you, once again, Mr. DeMarco.
I am going to follow up with initially some of the
questions that the Ranking Member asked about the risk sharing,
specifically in single-family. You talked about three different
areas that you are going to be looking for capital, and I guess
the question I would have is are you going to be evaluating how
these work as they move forward, I would assume, on each
approach----
Mr. DeMarco. Absolutely.
Senator Tester. And what kind of--do you have specific
metrics in mind when doing the evaluation?
Mr. DeMarco. First of all, the market is a wonderful thing,
because, you know, in doing these sorts of transactions, you
get clarity on how the market is pricing mortgage credit risk.
So that is the first thing we are going to get, is we are going
to get actual market signals about mortgage credit risk.
We will also be able to begin discerning market appetite or
preference for one structure over another structure, which is
why I have encouraged Fannie and Freddie in the Scorecard to
try multiple approaches to doing these Risk Transfer
Transactions, so that we can start to demonstrate to the market
how we think about it and how we are going ahead with it, but
then also be able to then get that market response of we prefer
this structure over that structure or whatever the case may be.
But those are the sorts of things we would be looking for.
Senator Tester. OK. And so over the long haul, can you
predict what successful risk sharing will look like?
Mr. DeMarco. I believe that what I am looking for over the
long haul is to demonstrate--to develop the mechanisms and to
demonstrate the concept in 2013 with these various things, and
in 2014 and beyond, as long as the companies are still
operating in conservatorship, to have the Scorecard show an
increasing share of business in the single-family space be
transacted this way, because this is the other thing the market
is going to want to know. If we are going to invest in learning
what it is you are offering, we want to know that it is going
to keep coming. So we expect to--consistent with the goal of
gradually shrinking the footprint, I would envision gradually
increasing the portion of the new mortgage flow for which we
engaged in risk-sharing transactions.
Senator Tester. Thank you. I want to talk about the single
platform and the impacts of that. How do you envision community
banks being able to access the single platform, once
established?
Mr. DeMarco. I think this is a really important area,
because this is something I care a lot about, Senator Tester,
is making sure that the country's mortgage market now and into
the future remains something in which local lenders, whether it
is a bank or a credit union or whatever it is, remains a viable
option for a borrower to go to and get a mortgage to buy a home
for their family.
And so I think that one of the key things--one of the real
building blocks of what we are doing with the platform--it even
started before the platform--and that is with data and with
getting data standards and electronic reporting standards in
place that would work for the whole marketplace. Because when
you do it just one way, you develop an industry standard, it is
far easier for a community bank to be able to acquire that
technology from a vendor and be able to put it in their
institution, even if they are a small institution.
And so that is what I think is really important and what we
are doing, with the platform and with our data work, is to
build a set of mortgage industry standards that the industry
itself helps us develop, but you make it a set of single
standards everybody works on, because that will lower cost and
improve the ability of small institutions to----
Senator Tester. So, not to put words in your mouth, do you
think once a single platform is established, it is actually
going to be easier for community banks to be able to access?
Mr. DeMarco. That is my goal.
Senator Tester. Good. What is the timing?
Mr. DeMarco. I get that question. We are building as fast
as we can. Let me put it this way. In response to a similar
series of questions on the House side last month, I said that I
thought that we needed to have this developed, up and running,
working, over the course of the next 5 years. But I will say
that I also appreciate that this is a big lift that we are
doing. It is a big technology lift. It has got things that are
going to be developed. We will roll it out incrementally. I am
not trying to build a Cadillac as the first thing that drives
off the lot. But we are going to develop this so it will be
functional for some things initially and it will expand over
time.
Senator Tester. And not to put words in your mouth, but
what I heard you say is fully functional in 5 years?
Mr. DeMarco. I think that we want to have this thing up and
running and working over that time period, is what it is we are
doing to develop that. I do not know whether we will be done
faster than that or slower than that. I am trying to give a
sense of that this is a several-year project to be able to
develop this and get it going, and that gives, in terms of a
range of time, some order of magnitude, Senator. It is not
really a specific timeline.
Senator Tester. OK. Thank you. Thank you, Mr. DeMarco.
Thank you, Mr. Chairman.
Just a real quick close, and that is that I am going to go
back to my opening statement. I think the time is ripe to
address this issue and move it forward. I think there are folks
on both sides of the aisle that want to quit playing with this
like a political football and get the job done. I would
encourage you to move forward in that way. Thank you.
Chairman Johnson. Senator Corker.
Senator Corker. Thank you, Mr. Chairman.
I especially liked Mr. Tester's comments. Thank you. I
agree with many of those.
Mr. DeMarco, I want to thank you for your tremendous public
service. Of the people that I have met here in Washington in
the last 6 years and 3 months, I do not know of anybody who has
been a more stellar public servant. And I think you have been
in the middle of a political football game that has been taking
place. I think you have handled yourself extraordinarily well
and I think you are creating this circuitry to really
transition away from the system that we have now. So I just
want to thank you for that. I want to thank you, the way you
have worked with people on both sides of the aisle to come up
with solutions.
I know you were sandbagging Senator Tester there, talking
about 5 years. I hope you can do that in the next year-and-a-
half.
[Laughter.]
Senator Corker. In the next year-and-a-half, maximum, you
could have this fully implemented if we would do what we need
to do here, so I look forward to a much-shortened timeframe.
I do want to say, if--I know there have been discussions
about a permanent replacement of some kind for you. I do not
know why anybody would want to change something that is working
so well. But I think that if that were to be the case, we
certainly should hear from the Administration explicitly about
what they want to happen with Fannie and Freddie before that
occurs, and, hopefully, the Senate and House will take action
to make that explicit, even very quickly, as Senator Tester was
just mentioning.
Let us talk a little bit about what you are creating. I
know there are three ways of getting some private sector
cushion, if you will, in front of any kind of governmental
guarantee. There is a credit-linked note, and I know we have
discussed that extensively.
There is an A and B piece, subordinated piece. In both
those cases, you have real capital, if you will, in front of
losses.
I know the insurance piece is the third, and I know that is
the easiest to do because it is very liquid right now. But
would you agree, in a systemic failure like we have had in the
past, if you have insurance, and these are monolines and they
are under stress, you end up in a situation where you likely
have no real capital up front, is that not true?
Mr. DeMarco. Well, it is certainly true that the capital
that was behind it in an insurance company is not sitting in a
trust fund that you control or can direct, and that there are
competing potential claims on that capital. So, yes, Senator, I
take your point that it is a different--it has some differences
in terms of how much you rely on that.
Senator Corker. Well, if you had a systemic crisis like we
have had and you did not have real money, like you would have
with a senior subcomponent or credit-linked note, typically, I
mean, a systemic failure, these entities and monolines would
likely fail, too, or have extreme stress, and so you would end
up in a situation where you think you have capital up front,
but you may really not have capital up front, is that correct?
Mr. DeMarco. That is correct. You certainly have a
counterparty risk there that would have to be carefully managed
in a systemic event that could be a concern.
Senator Corker. So let me ask you this question. I mean, at
a maximum, you would want to limit exposure to that piece, is
that not correct?
Mr. DeMarco. You would certainly want to manage it very
carefully as a key counterparty credit risk.
Senator Corker. So moving on down to some of the questions
Senator Shelby asked, you know, there have been discussions
about whether there should be any governmental piece. I know
that I do think with a transparent TBA market and standards
set, you could probably issue securities. But there is an issue
of what happens when the market contracts and you have stress
and all of those kinds of things and keeping liquidity there.
I do not think you are advocating that there be no
Government role in housing, is that correct, from the
standpoint----
Mr. DeMarco. Yes. That is correct.
Senator Corker. Would you expand on that a little bit? I
would like for everybody to hear this.
Mr. DeMarco. Yes. Well, I think that in a $10 trillion
single-family mortgage market, the Government does not belong
at zero or at ten. It belongs somewhere in between. Really, the
Government can play a key role in terms of standards, rules,
transparency, fairness in terms of how the market operates.
That can go an awful long way to facilitating the effective
role of private capital in funding and in bearing the credit
risk in the mortgage market.
But in any event, I have no reason to believe that the FHA
program, the VA program, Rural Housing are not going to be
still an important part of the fabric of the country's housing
finance system. Those are explicit Government guarantee
programs. And what we do with the Fannie, Freddie part of the
market is up to you all, and there are ways of having some
amount of Government support for it----
Senator Corker. And I think when you say ``Government
support,'' you are saying some Government guarantee at some low
level to keep liquidity, is that correct?
Mr. DeMarco. Yes, Senator. That is certainly a viable
option. I believe that could work.
Senator Corker. OK. So just in my last question--I see the
Chairman reaching for the button--Senator Tester's comments
about the community banking industry accessing, I think is very
important, and we have had numbers of people in our office that
question, let us say, if you had a 10-percent private sector
component up front, whether it was senior sub or whether it was
credit-linked note, some people are questioning, with $5
trillion today at Freddie and Fannie, whether you could
actually have $500 billion worth of private capital and
question what stress that might create for community banks. Of
course, this would buildup over time, right? It would not
happen overnight.
Mr. DeMarco. Right.
Senator Corker. And so it would not actually be $500
billion overnight. You have no concerns about, over time,
having plenty of private capital up front and for some system
to be accessed where the community banking system could
actually basically link up to that private capital to make it
easy for them to be a part of the market, do you?
Mr. DeMarco. That is right. I have no concern with
gradually moving in that direction and having that amount of
capital come in, and I have no concern with community
institutions having access to it and being real competitors in
that marketplace going forward.
Senator Corker. Well, thank you for outstanding public
service. I hope that you are around to see this through, to
work with all of us to continue to create the circuitry to
create the right kind of residential mortgage finance in our
country. And thank you for your extraordinary efforts.
Mr. DeMarco. Thank you, Senator. I appreciate that. And if
I just may, while I am very grateful for those remarks and that
kindness, I would like to take a moment here and thank the
staff at FHFA. I am really blessed to have 600 career employees
at FHFA who are working incredibly hard as a team to accomplish
the things that you were talking about. So thank you, Senator.
Chairman Johnson. Senator Warner.
Senator Warner. Thank you, Mr. Chairman, and thank you, Mr.
DeMarco, for being here and your service.
I also want to pick up on something you mentioned in your
opening comments, the fact that there are an awful lot of good
folks at Fannie and Freddie still, both some who have stayed
on--there were clear excesses, but a lot of the fact that there
are a lot of new teams there that are performing quite well----
Mr. DeMarco. I appreciate it.
Senator Warner. ----and I appreciate your recognition of
their activities, as well.
I am not going to relitigate the point that Senator Reed
issued, but I do think there may have been a moment in time
when the macro effect to the overall housing market of having a
more aggressive standpoint in terms of principal reduction
could have jumpstarted the housing recovery quicker. I mean, we
can debate it back and forth----
Mr. DeMarco. That is the point of view, Senator.
Senator Warner. ----but I just want to try to express that.
It would have had to have been targeted. It would have had to
have been limited. Because I think for a while, we had this
sense of, after the immediate crisis, that we, in a sense,
said, do no more harm as legislators, and candidly, I think it
took a lot longer for this issue to work through the system
than any of us had hoped or anticipated, probably you,
yourself, as well.
Mr. DeMarco. Yes, we agree on that, Senator.
Senator Warner. But I do want to really commend you,
building on what Senator Tester and Senator Corker have said
and our conversations, the lack of uniform servicing and
pooling agreements, and this whole system was a series of--our
whole housing finance is a series of contracts that were a
complete mishmash----
Mr. DeMarco. Right.
Senator Warner. ----and I really want to commend you on
your efforts there. And I do think, as well--I will echo
Senator Corker's comment that you were sandbagging Senator
Tester. Five years is way too long and we need--this is--and I
think, again, I know Senator Tester has a great concern about
our community banks. I think if we do this portal the right
way, it can actually be an asset for community banks, and I
hope----
Mr. DeMarco. I agree.
Senator Warner. ----as you look at those resource
allocations, that you can keep us informed to make sure that we
are giving you the tools you need.
I do want to get a couple questions in. One is on
multifamily. I understand the need to shrink the portfolio, but
the multifamily book really did not cause the crisis in the
first place.
Mr. DeMarco. Right.
Senator Warner. And I do wonder whether this cutback right
now on the 10 percent, whether you feel that may affect
liquidity in the CMBS market.
Mr. DeMarco. I do not have a particular concern about that,
Senator. As I said, I think that the multifamily market is
actually performing quite well. I think Fannie and Freddie did
provide some added support to it back in 2009, 2010, when
financial markets were pretty disrupted. It is a competitive
market. It is one in which there is a great deal of private
capital competing in that space and I think that it is--what we
have outlined in our Scorecard is consistent with the theme set
forth in the strategic plan of trying to undertake a
responsible gradual shrinkage of the footprint of Fannie and
Freddie. They will still have a substantial role to play in the
multifamily market this year.
Senator Warner. I just think it is--I think that we do need
to remember, this is not where the problem originated.
Mr. DeMarco. Right.
Senator Warner. Having a healthy multifamily business is
important.
I know there was one thing you had thought about, too, that
you were at least, in terms of your 2012 Strategic Plan,
looking at an analysis of multifamily to see what would happen
if you could do a piece of this business, a larger piece of
this business without any Government backstop. Have you
finished that analysis and are you----
Mr. DeMarco. We are actually completing our review of what
was submitted to us and I will look forward to sharing it with
you.
Senator Warner. Yes. I look forward to seeing that.
One of the things that we have seen come up in the last--
recently a lot is investor-owned purchases, some of these REOs.
Some concerns, we continue to hear that we are glad to get
these properties kind of out of the foreclosure process, but
they are actually maybe retarding the neighborhoods' ability to
come back and homeowners' ability to get back into the market
in their neighborhoods. Can you give us kind of--I know it is a
broad issue, but can you give us your sense on the good, the
bad, the ugly, and what we should be conscious of in terms of
some of these great movement back of investor purchases?
Mr. DeMarco. Right. This is a tough issue, because, for one
thing, you have got sort of different economic situations in
different markets. Two, you have got anecdotes that are kind of
driving sort of a sense of a larger picture thing, and the
anecdotes can be very well true and there could be a good
number of them, but when we are dealing with hundreds of
thousands of REO, they still remain anecdotes.
I do believe that--you know, what we have tried from the
beginning of the conservatorships, almost, with regard to REO
disposition was to provide an opportunity in the initial
marketing of REO properties to target local community groups
and local housing authorities and purchase of homeowners,
people who are going to live in the house, not investors. And
so the properties were initially marketed just to that group,
so there is a waiting period before an investor can purchase
our REO properties.
Nonetheless, we are selling an awful lot to investors.
Whether these things that we design, is this is the protocol
and so forth, is in individual markets and circumstances not
working exactly as planned or whether it is simply because the
bids that we get are really much stronger from the investor and
that is the way I am protecting the taxpayer, is something that
we are still--I mean, we are doing REO disposition evaluations
this year to look into some of this to see if we can get a
better handle on these stories. But I think--my guess is, it is
going to end up being a pretty complicated answer.
Senator Warner. And I know my time is up. I just want to
make two quick comments. One is, I think REOs have got to be
one of your tools in the tool kit. But as we start to hear more
and more concerns with the market coming back, trying to get us
as much information and data as possible, and if there are bad
actors, sorting through that, I think it is very important.
And I just want to add one more voice to the Chairman and
the Ranking Member that we have got a window to get this done
and I think there is much broader bipartisan consensus on this
issue than many would suspect and look forward to continuing to
work with you, Mr. DeMarco, to get it right.
Mr. DeMarco. Thank you, Senator.
Senator Warner. Thank you, Mr. Chairman.
Chairman Johnson. Senator Vitter.
Senator Vitter. Thank you, Mr. Chairman, and thank you, Mr.
Administrator, very much again for all your work. And I think
that work has been excellent, again, as most Members of the
Committee do.
I want to really focus on our needed work here in Congress.
In that regard, thank you for your very positive words for the
Jumpstart GSE Reform Act. My question about that is pretty
basic. What sort of signal do you think it would send the
market if the Senate were able to pass a broad, bipartisan bill
that clearly indicates Congress will take up mortgage finance
reform?
Mr. DeMarco. I think that is it right there, Senator. By
indicating that the Congress of the United States has agreed it
does not want to use Fannie and Freddie to be funding part of
the Government, it then removes that as an issue or a barrier
to actually doing something to bring these conservatorships to
an end and rebuild the housing finance system. I think the
markets would take that very seriously.
Senator Vitter. Great. And my second question is really on
the other end of the spectrum. You know, hedge funds have been
lobbying Congress to encourage the sale of Treasury's preferred
shares, and to some extent, investors are already speculating
that the companies will be returned to the marketplace. The
price of the preferreds has doubled this year for Fannie. What
do you think the consequences would be of Treasury selling the
preferred shares before Congress acts in any way regarding
mortgage finance reform?
Mr. DeMarco. I am not even sure how that would work,
Senator, but I think the Treasury, both in the previous
Administration and in this Administration, as well as FHFA,
have been clear and consistent that we view the way out of
conservatorship is for the Congress of the United States and
the Administration to get together on legislation that
determines what the future looks like. I am not aware of any
plan to sell the preferred, and again, I am not even sure how
that would work in the market. That money--there is $180
billion owed back to the American taxpayer, and then you have
to completely recapitalize the companies after that.
Senator Vitter. Well, let me restate it. What do you think
the message would be or the reaction would be if the Congress
were to propose some movement in that direction or allow some
movement in that direction without significant reform like we
are discussing?
Mr. DeMarco. I think it would certainly generate confusion
and question in the mortgage market about the role private
capital would have in the future if there was a thought that
there was some sort of reconstituting of Fannie and Freddie as
they had been with the charters they had. It would certainly
conflict with the notion that we are trying to bring private
capital back into this marketplace.
Senator Vitter. OK. Well, again, I just want to end by
thanking you again for your service, and in particular your
refusal to bend to, quite frankly, political pressure to use
Fannie and Freddie as a piggy bank for things that would be
popular in some forums short-term but very, very expensive and
counterproductive, including for the taxpayer. But thank you
for your work.
Mr. DeMarco. Thank you, Senator.
Chairman Johnson. I would like to thank Acting Director
DeMarco for his testimony--Senator Corker.
Senator Corker. Are you ready to go to the other panel?
Chairman Johnson. Yes.
Senator Corker. May I ask one question?
Chairman Johnson. Just one.
Senator Corker. OK.
[Laughter.]
Senator Corker. I have a six-part question I would like to
ask.
[Laughter.]
Senator Corker. I will ask just one. There have been
discussions about having private capital up top, and I know a
number of our offices have been working together to try to have
a bill to actually take action, and I think, candidly, we may
be at a place to do that very, very soon. It sounds like
everyone here that has spoken has said the timing is really
good for that to occur, and I think you agree.
But there is--one of the components has been to get capital
up front, say at the 10 percent level through credit-linked
notes, senior sub, or other, but then, also, to have an FDIC-
like mechanism where, in the event all of that fails, and the
underwriting, which will be very stringent, would be in place
first. What are your thoughts about having an FDIC-like
structure for those involved in the mortgage industry to have
as a catastrophic insurance fund at this time?
Mr. DeMarco. I think that that could work, Senator. I would
hope that if Congress legislated something like that, my
thoughts would be to make sure that the law charges whatever
Federal entity was responsible for the fund that, A, the entity
was independent, had a clear mandate to set appropriate pricing
for the risk it was taking and not to have that be set in law,
but, in fact, give the entity a real mandate and responsibility
to be appropriately charging for risk in managing that reserve
fund, because some day, it will get called upon and it needs to
be there and it needs to be sufficient if it got called upon.
Senator Corker. Thank you, Mr. Chairman, and thank you.
Chairman Johnson. I would like to thank Acting Director
DeMarco for his testimony and for being here with us today.
With that, I would like to call forward the second panel,
Inspector General Linick, for this hearing.
[Pause.]
Chairman Johnson. I would now like to welcome our second
witness for our hearing today. The Honorable Steve A. Linick is
Inspector General of the Federal Housing Finance Agency. He has
served in this position since September 2010.
Inspector General Linick, you may proceed with your
testimony.
STATEMENT OF STEVE A. LINICK, INSPECTOR GENERAL, FEDERAL
HOUSING FINANCE AGENCY
Mr. Linick. Thank you, Chairman Johnson, Ranking Member
Crapo, and Committee Members for inviting me here to testify
today. I appreciate the opportunity to update the Committee on
the work of the Federal Housing Finance Agency Office of
Inspector General.
We began operations in October of 2010 in the midst of an
unprecedented housing and financial crisis of historic
proportions. Since our beginning, we have published 49 reports
and have commenced multiple criminal and civil investigations
leading to 156 indictments and 62 convictions.
Let me begin by noting that FHFA has made progress in its
role as conservator and regulator. FHFA has launched a number
of significant initiatives intended to address key objectives,
such as aligning Enterprise practices, improving service to
borrowers, and conserving and preserving Enterprise assets.
FHFA has also accepted and begun to implement the vast majority
of our recommendations and we continue to monitor their
progress.
Although the agency has made progress, our work continues
to show that FHFA can improve its role as regulator and
conservator. We have identified instances in which FHFA has
displayed undue deference to Enterprise decision making in its
capacity as conservator. In its capacity as regulator, we have
identified instances in which FHFA could be more proactive in
risk management. We have observed that FHFA has had
difficulties identifying new and emerging risks potentially
affecting the GSEs, issuing guidance governing risk management
at the GSEs, and providing consistent enforcement for policy
violations. For example, in a recent report on consumer
protection, we found that FHFA does not examine how the
Enterprises monitor compliance with consumer protection laws.
Second, we determined that the Enterprises do not ensure
that their counterparties from which they purchase loans comply
with such laws. Similarly, in a report on consumer complaints,
we found that mortgage servicers, Freddie Mac, and FHFA have
not adequately fulfilled their respective responsibilities to
address and resolve escalated cases, which are a type of more
serious complaint.
The evidence suggests that most of Freddie Mac's servicers
are not complying with the reporting requirements. Ninety-eight
percent of Freddie Mac's servicers had not reported on any
escalated cases, even though they manage 6.6 million mortgages
for Freddie Mac. Of Freddie Mac's eight largest servicers, four
did not report any escalated cases despite handling more than
20,000 of them.
Second, Freddie Mac's oversight of servicer compliance has
been inadequate. It has not implemented procedures for testing
servicer compliance, and Freddie Mac has neglected to establish
penalties for servicers that do not report escalated cases.
Third, FHFA did not identify the problems through its own
examination. Rather than independently testing servicers'
compliance, the FHFA examination team relied exclusively on
Freddie Mac's reports, which did not mention the problems.
In addition, in a 2011 report, we found that the agency had
too few examiners to oversee the GSEs. As a result, FHFA had
scaled back planned work during its examinations and
examinations took much longer than expected to complete.
Additionally, we identified shortfalls in the agency's
examination coverage, particularly in the crucial area of Real
Estate Owned property.
Although the agency has made progress since we issued this
initial report, it is not clear that FHFA has achieved the
examination resources necessary to address this issue. Many of
our subsequent reports continue to recommend expanded or
improved examination coverage, and we have initiated follow-up
work in this area.
We are mindful that FHFA's long-term success is necessarily
affected by the uncertainty surrounding the fate of the
Enterprises and the housing finance system in general. In other
words, FHFA must effectively direct the Enterprises' operations
while fundamental questions about its role and theirs remain
unanswered.
Given the Committee's interest, I also want to highlight
some of our current projects. First, we are assessing a number
of FHFA's new or expanded initiatives, including the Servicing
Alignment Initiative, the Securitization Platform, the REO
Pilot, and HARP 2. Additionally, we are conducting follow-up
work on the consumer protection report I just mentioned.
My staff and I look forward to continuing to work with your
Committee to provide independent, relevant, and objective
assessments of FHFA's operations and programs, and I am happy
to answer any questions that you may have at this time. Thank
you.
Chairman Johnson. Thank you, Mr. Linick.
During your last appearance before this Committee, we
discussed the inconsistent enforcement of directives by the
FHFA. Is this still a problem? If so, does this lack of follow-
through pose greater risk to the conservatorship and taxpayer
dollars, in your opinion? What should the FHFA do to improve
its enforcement?
Mr. Linick. I am concerned about implementation and follow-
through, especially of many of these initiatives that have been
launched. We found in earlier reports that FHFA deferred a lot
to the Enterprises for decision making in crucial areas, and
FHFA is going to require strong involvement in these new
initiatives. We are concerned that there may be crucial
decision making by the Enterprises and not by the agency.
Second, a lot of the new initiatives going forward are
going to require strong regulatory oversight and they will
require the agency to effectively identify risk, manage risk,
issue guidelines and directives to the Enterprises, and as you
mentioned, enforcement when policies are not being followed.
Yet we continue to identify shortfalls in all three of these
areas and remain concerned that these may present a problem in
the future.
Also, going forward these new initiatives will require
examiners, and as I said in my opening remarks, we have
concerns about FHFA's examination resources and their ability
to engage in robust oversight of these complex programs.
Chairman Johnson. Could you put a number on that in terms
of what is enough examiners?
Mr. Linick. That is a difficult question, and I do not have
a number for you. In our report, we found that examination
teams for Fannie and Freddie were staffed at about half of what
they needed to be. They scaled back planned work. They were not
getting a lot of examinations done.
Since then, it is my understanding that the agency has
beefed up its examination capacity somewhat. They have strong
leadership. They have imposed discipline in their examination
programs. But we continue to issue reports that suggest their
examination coverage is still lacking and it is unclear to us
whether that is a result of a lack of examiners. We have
ongoing work now to find out exactly where we stand, and we are
monitoring the issue and will report back to the Committee as
soon as we get those reports done.
Chairman Johnson. Given the problems in enforcement, should
the Committee be concerned about the FHFA's ability to
implement and oversee programs that would expand the role of
servicers and mortgage insurers? Without enhanced exams and
additional examiners, would these programs pose a risk to the
GSEs and potentially the taxpayers, in your opinion?
Mr. Linick. Well, I can only speak from our work to date.
We have done limited work in this area. We have about six
reports covering the servicing area. By way of an example, the
Servicing Alignment Initiative in concept is a good initiative
because it aligns servicing standards, helps borrowers, and
also increases borrower contact with servicers. In that
instance, we recently did a report on consumer complaints. The
Servicing Alignment Initiative, which was unfolded about a
year-and-a-half ago, requires that servicers report complaints,
serious complaints--improper foreclosure, for example, or if a
borrower is not getting foreclosure options and they are not
able to get the servicer to consider other alternatives apart
from foreclosure, things like that. Servicers are also required
to resolve these complaints within 30 days.
In our report, we found that while the Servicing Alignment
Initiative is a good one, there was a lack of implementation of
the initiative, and that is where our concern lies. Servicers
were not reporting complaints as required by the rules. There
were also instances when they were not resolving cases within
the required 30 days. We also saw problems with Freddie Mac.
They were not testing servicers' compliance and they pretty
much missed the problem. And then on the FHFA side, FHFA's
examinations relied on Freddie Mac's reports, which did not
really describe the problem, and therefore FHFA's examinations
did not catch the problem.
I use this by way of example to show how these initiatives
are going to require a lot of oversight, and implementation and
follow-through are going to be key.
Chairman Johnson. One last question. Mr. Linick, your
office has been up and running for over 2 years. In that time,
has the FHFA made progress implementing your recommendations?
Mr. Linick. FHFA has made substantial progress implementing
our recommendations. They have accepted the majority of our
recommendations. We have about 140 at this point. About half of
them are implemented and the other half are in various stages.
And I commend the agency for the progress that they made.
We started our work looking at a variety of controls across
a number of fronts at FHFA, and now having been at OIG for more
than 2 years, we are starting to go back, like we are with
examination capacity, to see where things stand, and that will
be a part of our work going forward.
Chairman Johnson. Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
I just had a couple of quick questions. First of all, I
want to thank you for your work, Mr. Linick. We appreciate the
oversight that you provide and the assistance you provide in
making sure that the FHFA operates properly.
My first question relates to the money paid to the Treasury
by the GSEs. The recent news reports surrounding the profits
made by Fannie and Freddie and then subsequently remitted to
the taxpayer seem to present conflicting information
surrounding these payments and the debt owed by Fannie and
Freddie. Based upon your knowledge of the situation, I am
hoping you can help to clarify this.
My question is, do these payments reduce the $187 billion
figure owed under the Preferred Stock Purchase Agreement?
Mr. Linick. The short answer is no. They do not pay down
what is called the liquidation preference or Treasury's
investments, and the way Treasury structured this is like an
interest-only loan. In other words, the payments to Treasury
are like interest payments, but they do not pay down the
principal, the $187.5 billion. So the Enterprises could pay
$200 billion in interest and that $187.5 billion would still
not be paid down. This was set up by Treasury through the
PSPAs, the Senior Preferred Stock Purchase Agreements.
Senator Crapo. And if the amount that is remitted by the
agency exceeds the amount of interest that has accrued, what
happens in that circumstance?
Mr. Linick. Again, it does not pay down the liquidation
preference.
Senator Crapo. It is just a deposit----
Mr. Linick. It is just a deposit. It goes to Treasury. It
goes to taxpayers. Ultimately, it is up to the Treasury, FHFA,
and Congress to figure out what is going to happen in the
future.
Senator Crapo. And in what way could they pay down the
outstanding principal obligation? Is there just no provision
for that to happen----
Mr. Linick. I am not aware of a provision like that in the
PSPAs, but I would ask Treasury, obviously, how that would
work. But based on my knowledge of it, there is no provision to
pay that down.
Senator Crapo. All right. Thank you.
My last question is really kind of an open-ended question.
Both you and Director DeMarco have previously noted that the
continued open-ended nature of the conservatorships creates
challenges for the management of both FHFA and the
conservatorships for Fannie and Freddie. And this is just a
general question. Based upon your observations and your
analysis, what do you see as the biggest challenges that are
faced to date?
Mr. Linick. There is no doubt that uncertainty is the
single most important challenge. I think this has an effect on
oversight, which is obviously my role. It affects the agency,
the Enterprises, and from what I have heard, the market.
On the agency side, it affects the agency's ability to
recruit examiners and others, retain staff, and also develop
long-term resource allocations. We do not know the fate of the
Enterprises and that makes it very difficult. The
conservatorship, as you mentioned, was meant to be a time out,
temporary, and no one anticipated--including the agency--that
it would last this long. It also affects morale for the agency.
On the Enterprise side, it certainly affects morale for
them, and I have heard from the marketplace that without a set
of rules, people do not want to dip their toe into the water.
Senator Crapo. So the lesson from that would seem to be
that the sooner Congress can act, the better it would be in
terms of the overall success for both the Enterprises and FHFA.
Mr. Linick. I would agree with that.
Senator Crapo. My last question related to this is are
there any new challenges that you think might develop, or will
the existing ones just continue to languish if we continue to--
if Congress continues to linger in terms of resolving these
issues?
Mr. Linick. Well, I think, as I mentioned before, the other
major challenges as we continue to linger are shortfalls in
oversight. Taxpayers, at the end of the day, could suffer if
things just go on the way they are. I have mentioned that there
are shortfalls in the conservatorship oversight and there are
shortfalls in the regulatory oversight with respect to
identification of risk, management of risk, and enforcement. I
see these things as problems going forward.
Senator Crapo. All right. Thank you.
I have no further questions, Mr. Chairman.
Chairman Johnson. I would like to thank Inspector General
Linick and Acting Director DeMarco for being here with us
today. Oversight of the FHFA will continue to be a top priority
of this Committee and we appreciate your insights.
This hearing is adjourned.
[Whereupon, at 11:31 a.m., the hearing was adjourned.]
[Prepared statements and responses to written questions
supplied for the record follow:]
PREPARED STATEMENT OF SENATOR RICHARD C. SHELBY
Mr. DeMarco, I would like to start out today by thanking you for
your strong leadership at FHFA.
You were given a tough job during a critical time for our Nation's
housing market, and you should commended for your service.
Your commitment to protecting both taxpayers and homeowners has
served our Nation well, and we are finally beginning to see signs of
recovery.
Unfortunately, while you have done a superb job at FHFA, Congress
has failed its task of reforming the GSEs.
We are more than 4\1/2\ years into the conservatorships for Fannie
and Freddie.
These conservatorships were never intended to last this long, yet
there is still no end in sight.
It is my hope that this Committee will work together to pass
bipartisan legislation that reforms our GSEs and prevents taxpayers
from footing the bill for future housing bailouts.
______
PREPARED STATEMENT OF EDWARD J. DEMARCO
Acting Director, Federal Housing Finance Agency
April 18, 2013
Chairman Johnson, Ranking Member Crapo, and Members of the
Committee, I am pleased to be invited here today to discuss the Federal
Housing Finance Agency's (FHFA) oversight of Fannie Mae, Freddie Mac,
and the Federal Home Loan Banks (FHLBanks).
In my testimony today I will focus mainly on FHFA's role as the
conservator and regulator of Fannie Mae and Freddie Mac (together, the
``Enterprises''). As this Committee is well aware, the Enterprises have
been in conservatorship for more than 4\1/2\ years. These have been the
largest and most complex conservatorships in history. Throughout this
time FHFA has explained its approach to the conservatorships in light
of the statutory responsibilities Congress placed on the agency as
conservator. I have reported to Congress numerous times regarding
FHFA's actions in light of these responsibilities, recognizing that the
prolonged time in conservatorship has required us to adapt to changing
circumstances, while remaining consistent with the fundamental
responsibilities given us as regulator and conservator. I am pleased to
provide you today with an update on what we have accomplished and where
we are headed.
I would first like to take a moment to thank the Chairman and
Ranking Member for their introduction of an amendment to the 2014
budget resolution that would prevent any additional Enterprise
guarantee fees from being used to fund other budget items. And I would
like to thank all the Members of the Committee for supporting that
amendment, which the Senate adopted by unanimous consent. I was also
glad to see the introduction by Senators Corker, Warner, Vitter, and
Warren of S.563, the Jumpstart GSE Reform Act. I share the views of the
sponsors of S.563 that now is the time to address reform of the housing
finance system. I look forward to working with all of you as you move
forward on that effort.
I will begin this prepared statement with a brief review of the
goals of FHFA as Conservator. Then I will review FHFA's approach to
preparing for increased private market participation in housing finance
and describe the significant activities that FHFA has undertaken during
the past year to further our conservatorship goals. Next I will touch
on the financial condition and performance of Fannie Mae, Freddie Mac,
and the Federal Home Loan Banks. And finally, I will close with some
thoughts on the role of Government in housing finance.
Goals of Conservatorship
With the financial crisis unfolding, and after substantial
consultation with the Department of the Treasury and the Federal
Reserve, FHFA placed the Enterprises into conservatorship on September
6, 2008. The Housing and Economic Recovery Act of 2008 (HERA), which
created FHFA, specified two conservator powers, stating that the Agency
should ``take such action as may be:
1. necessary to put the regulated entity in a sound and solvent
condition; and
2. appropriate to carry on the business of the regulated entity and
preserve and conserve the assets and property of the regulated
entity.''
From the outset, FHFA stated that the goals of the conservatorships
were to help restore confidence in the companies, enhance their
capacity to fulfill their mission, and mitigate the systemic risk that
contributed directly to instability in financial markets. As
supervisor, we have also taken steps to strengthen risk management,
internal controls, and establish proper governance over all of the
Enterprise's activities.
As the private mortgage securitization market had already vanished
and there were no other effective secondary market mechanisms in place,
the initial phase of the conservatorships was focused on stabilizing
the Enterprises' operations to ensure the continued functioning of the
mortgage market during the crisis. This phase has been successful;
operations of the two Enterprises have largely stabilized and the
origination market and secondary market for mortgage has continued to
function throughout the financial crisis.
The second phase of the conservatorships has focused on foreclosure
prevention efforts, which have been critical for helping homeowners in
distress and essential to meeting the conservatorship mandate to
preserve and conserve the Enterprises' assets. These continuing efforts
also are consistent with FHFA's statutory responsibility under the
Emergency Economic Stabilization Act to provide assistance to
homeowners and minimize foreclosures. Nearly 2.7 million ``foreclosure
prevention'' actions evidence the success of that effort to date.
FHFA also clarified that the Enterprises would be limited to
continuing their existing core business activities. This type of
limitation on new business activities is consistent with the standard
regulatory approach for addressing companies that are financially
troubled. And it is even more pertinent for the Enterprises given their
uncertain future and reliance on taxpayer funds. While there still is
legacy credit exposure to work through, the second phase of the
conservatorships put in place the loss mitigation infrastructure to
help borrowers and protect taxpayers. At the same time, the
Enterprises' new books of business are much stronger than their old
ones.
Today we have a mortgage market that relies heavily on taxpayer
support, with very little private capital standing in front of the
Federal Government's risk exposure. There seems to be broad consensus
that Fannie Mae and Freddie Mac will not return to their previous
corporate forms. The Administration has made clear that its preferred
course of action is to wind down the Enterprises. Of the various
legislative proposals that have been introduced in Congress, none of
them envisions the Enterprises exiting conservatorship in their current
corporate form. In addition, recent changes to the Preferred Stock
Purchase Agreements (PSPAs), replacing the 10 percent dividend with a
net worth sweep, reinforce the notion that the Enterprises will not be
building capital as a potential step to regaining their former
corporate status. The amount of funding, essentially the Enterprises'
capital base, available under the PSPAs also has become fixed as the
Enterprises recently reported year-end 2012 financial results.
Against this backdrop, FHFA has moved into a third phase of
Enterprise conservatorship, embodied in its Strategic Plan for the
Operation of the Enterprise Conservatorships.
FHFA's 2012 Strategic Plan for the Operation of the Enterprise
Conservatorships
In early 2012, recognizing that the conservatorships were over 3
years along and not likely to end soon, FHFA developed and formally
communicated to Congress a strategic plan for the companies to pursue
while in conservatorship, pending legislative action. This Strategic
Plan has three goals:
1. Build. Build a new infrastructure for the secondary mortgage
market.
2. Contract. Gradually contract the Enterprises' dominant presence
in the marketplace while simplifying and shrinking their
operations.
3. Maintain. Maintain foreclosure prevention activities and credit
availability for new and refinanced mortgages.
These goals satisfy our statutory mandate as conservator, are
consistent with the Administration's call for a gradual wind down of
the Enterprises, and preserve all options for Congress while
establishing a stronger foundation on which Congress and market
participants can build to replace the preconservatorship Government
sponsored enterprise (GSE) model.
With a focus on transitioning to a more secure, sustainable and
competitive model for the secondary mortgage market, FHFA established
the 2012 Conservatorship Scorecard to provide a roadmap for the
Enterprises to implement the Strategic Plan. The Scorecard had four
focus areas all tied to the Strategic Plan and great progress has been
made in all areas.
Building upon the 2012 Scorecard, last month FHFA published the
Conservator's Scorecard for 2013, again setting forth annual
performance targets adhering to the strategic goals of build, contract,
and maintain. I would like to walk through each of these with you now
while also highlighting some of the successes of 2012.
Maintain
Although it is the third strategic goal, I would like to start with
Maintain. Maintaining foreclosure prevention activities and promoting
market stability and liquidity so that there is credit availability for
new and refinanced mortgages is an important aspect of our work as
conservator. Foreclosure prevention efforts were extensive in 2012 as
FHFA and the Enterprises continued to simplify, streamline, and improve
existing programs. More than 540,000 foreclosure prevention actions
were completed last year alone, bringing the total to nearly 2.7
million since the start of conservatorship in 2008.
Since the start of conservatorship, Fannie Mae and Freddie Mac's
management teams have completed over 1.3 million permanent loan
modifications, more than 665,000 repayment plans, and nearly 150,000
forbearance plans. Together they have enabled the Enterprises to help
more than 2.2 million families who were having trouble paying their
mortgages remain in their homes. Additionally, the Enterprises have
made it possible for more than 445,000 other families to gracefully
exit their home without going through a painful foreclosure process by
facilitating short sales and deeds-in-lieu of foreclosure.
Last year the Enterprises also implemented changes to the Home
Affordable Refinance Program (HARP) that we announced late in 2011.
Those changes included: expanding the program to include homeowners
with greater than 125 percent loan-to-value ratio; clarifying
representation and warranty exposure; and incenting shorter-term
refinance opportunities through reduced pricing. The results have been
impressive:
The nearly 1.1 million HARP refinances in 2012, almost
equaled the number of HARP refinances over the prior 3 years.
An additional 97,000 HARP refinances were completed in January
of this year.
HARP refinances with greater than 105 loan-to-value ratios
made up 43 percent of total HARP refinances in 2012, compared
to 15 percent in 2011. In January of this year, 47 percent of
HARP refinances were for borrowers with a greater than 105
loan-to-value ratio.
HARP refinances with greater than 125 percent loan-to-value
ratios made up 21 percent of total HARP refinances in 2012 and
nearly 25 percent of total refinances in January of this year.
HARP refinances into a shorter-term mortgage made up 18
percent of total HARP refinances in 2012 for underwater
borrowers, compared to 10 percent in 2011, and stand at 18
percent of total HARP refinances in January 2013.
We are very pleased with the success of HARP thus far and look
forward to building on this success in 2013. We will soon be
implementing a nationwide public relations campaign to educate
consumers about HARP and its eligibility requirements. The goal of this
campaign is to reach as many eligible homeowners as possible and
educate them on HARP eligibility criteria and the value of refinancing
under HARP, and motivate them to explore their options and utilize HARP
before the program expires. HARP is a valuable risk reduction tool for
the Enterprises, and I announced last week that we will be extending
the HARP deadline by 2 years through December 2015. I feel confident
that with the changes made to HARP in 2011, the increased consumer
awareness through the HARP consumer education campaign and the
extension of the HARP deadline, every eligible homeowner who wants to
refinance through the HARP program will have the opportunity.
For those homeowners who are seeking a modification we also
recently announced that the Enterprises will soon be offering a new,
streamlined loan modification initiative to minimize Enterprise losses
and help troubled homeowners avoid foreclosure and stay in their homes.
Starting this July, servicers will be required to offer eligible
homeowners who are at least 90 days delinquent on their mortgage an
easy way to lower their monthly payments and modify their mortgage.
This new option supplements our existing suite of loan modifications,
including the Home Affordable Modification Program (HAMP) and the
Enterprise's standard modification program.
A key element of this new program is that it is essentially
automatic and seriously delinquent homeowners are eligible for the
program even if they have not provided complete documentation. Since
the beginning of the financial crisis a consistent hindrance to
assisting troubled borrowers has involved documentation requirements.
The Streamlined Modification Initiative should be especially helpful to
those who are self-employed, part of a multigenerational household, or
are simply overwhelmed with the document collection burden. All
borrowers have to do to take advantage of the modification offer is
make three on-time trial payments, after which their loan will be
permanently modified. Servicers will continue to work with borrowers
throughout the trial period to evaluate all their foreclosure
prevention options, as documenting income and financial hardship could
result in a modification with additional savings for the borrower. This
program also fits within our safety and soundness goals.
This new program builds on the principles embodied in the Servicing
Alignment Initiative that was launched in 2011. The Servicing Alignment
Initiative was designed to establish consistent policies and processes
for the servicing of delinquent loans owned or guaranteed by the
Enterprises to make it easier for servicers to reach borrowers as early
in the delinquency as possible. Early, effective borrower outreach and
engagement is critical for successful modification solutions. We are
excited about the prospects of this new program and look forward to
tracking and reporting on its progress.
A priority since the onset of conservatorship and enumerated under
the ``maintain'' goal is to continue to strengthen the credit risk
management practices of the Enterprises, and provide more certainty and
timely feedback to originators as they make decisions on extending
credit. Pursuant to this end, last September FHFA and the Enterprises
announced the start of fundamental changes to the representation and
warranty framework for conventional loans sold or delivered on or after
January 1, 2013. The objective of the new framework is to clarify
lenders' repurchase exposure and liability and inject greater up-front
monitoring by moving the focus of quality control reviews forward to
the time the loan is delivered to the Enterprises instead of when it
has defaulted. The priorities for 2013 are enhancing the post-delivery
quality control practices and transparency associated with the new rep
and warranty framework, and FHFA's on-site supervisory teams will
continue to review the effectiveness of the new framework.
In addition to the efforts of FHFA, the progress that I have just
discussed on foreclosure prevention, refinancing, and maintaining
credit availability would not have been possible without the commitment
of the boards, management, and employees of Fannie Mae and Freddie Mac.
I am gratified that the leadership and staff at both companies remain
committed to fixing what is broken and creatively addressing the
challenging issues we face. I would add that other such examples of
their commitment abound. For example, Fannie Mae undertook an important
effort to develop a bulk approach to selling properties in their real
estate owned portfolio, and Freddie Mac has been leading efforts to
expand loan level disclosures.
Build
The first strategic goal is to build a new infrastructure for the
secondary mortgage market. The Enterprises' existing proprietary
infrastructures are not effective at adapting to market changes,
issuing securities that attract private capital, aggregating data, or
lowering barriers to market entry. These outmoded infrastructures must
be maintained and updated. An investment of capital--capital that would
come from taxpayers through the PSPAs--will be necessary for this
effort. But to the extent possible, we should invest taxpayer dollars
to this end once, not twice.
Hence, updating the Enterprises' outmoded infrastructures should
provide enhanced value to the mortgage market with a common and more
efficient securitization model. The ultimate goal is to develop a new
securitization model that will have benefits beyond the current
Enterprise business model. To achieve this, the new infrastructure must
be operable across many platforms and operate in a cost effective
manner so that it can be used by any issuer, servicer, agent, or other
party that decides to participate.
In October 2012, FHFA issued a white paper designed to gather input
from the industry and move this effort forward. The white paper
discusses development of a common securitization platform, including
the important issue of its scope and functionality. One approach we
outlined is that the focus of the platform could be on functions that
are routinely repeated across the secondary mortgage market, such as
issuing securities, providing disclosures, paying investors, and
disseminating data. These are all functions where standardization could
have clear benefits to market participants.
Last month I announced as part of the 2013 Scorecard that a new
business entity will be established between Fannie Mae and Freddie Mac.
This does not mean we are consolidating the two Enterprises, but we
believe that setting up a new structure, separate from the two
companies, is important for building a new secondary mortgage market
infrastructure. Our objective, as we stated last year, is for the
platform to be able to function like a market utility, as opposed to
rebuilding the proprietary infrastructures of Fannie Mae and Freddie
Mac. To make this clear, I expect that the new venture will be headed
by a CEO and Chairman of the Board that are independent from Fannie Mae
and Freddie Mac. It will be physically located separate from Fannie Mae
and Freddie Mac and will be overseen by FHFA. Importantly, we plan on
instituting a formal structure to allow for input from industry
participants.
What I have just described is the governance and ownership
structure for the near-term phase of the platform. It will be initially
owned and funded by Fannie Mae and Freddie Mac, and its functions are
designed to operate as a replacement for some of their legacy
infrastructure. However, the overarching goal is to create something of
value that would be a foundational element of the mortgage market of
the future. We are designing the platform to be flexible so that the
long-term ownership structure can be adjusted to meet the goals and
direction that policy makers may set forth for housing finance reform.
The white paper issued last October also puts forth some broad
ideas on creating a model contractual framework. Similar to the
securitization infrastructure effort, the focus of this effort is to
identify areas where greater standardization in the contractual
framework would be valuable to the mortgage market of the future.
This is an optimal time to consider how best to address contractual
shortcomings identified during the past few years. A great deal of work
has already been done in this area by market participants and
additional input will be exceptionally valuable. As the Enterprises
move forward with risk sharing transactions such as those I will
describe shortly, the development of transactional documents will
provide a real time test of a new standardized contractual framework
for transactions where the private sector is absorbing credit risk.
Another aspect of the build goal is the Uniform Mortgage Data
Program or UMDP. This effort may get overlooked at times, but a solid
foundation of data standards is vitally important regardless of the
future direction of housing finance reform. I am very encouraged by
this effort as the Enterprises have worked through an industry process
set up through MISMO--the Mortgage Industry Standards Maintenance
Organization--to move this process forward. Much has already been
accomplished through the development of a Uniform Loan Delivery Dataset
and a Uniform Appraisal Dataset. Work is beginning on the Uniform
Mortgage Servicing Dataset. This latter effort will take time, but
working through the process with a broad-based coalition of industry
participants in MISMO should serve as a model for future efforts as we
seek to rebuild the foundation of the mortgage market. In the end, the
benefits are immense. Developing standard terms, definitions, and
industry standard data reporting protocols will decrease costs for
originators, servicers, and appraisers and reduce repurchase risk.
Contract
The second strategic goal is to contract the Enterprises' dominant
presence in the marketplace while simplifying and shrinking their
operations, thus de-risking both Fannie Mae and Freddie Mac's
activities. With an uncertain future, limited capital resources, and a
general desire for private capital to re-enter the market, the
Enterprises' market presence should be reduced gradually over time.
To move the ``contract'' goal forward, we set forth three
priorities in the 2013 Scorecard.
First, the 2013 Scorecard sets a target of $30 billion of unpaid
principal balance in credit risk sharing transactions in the single-
family credit guarantee business for both Fannie Mae and Freddie Mac. A
considerable amount of preparatory work was done in 2012 to lay the
groundwork for executing on risk sharing transactions this year, and we
have specified that each Enterprise must conduct multiple types of risk
sharing transactions to meet the 2013 target. The Scorecard encourages
the Enterprises to consider transactions involving: expanded mortgage
insurance with qualified counterparties; credit-linked securities;
senior/subordinated securities; and perhaps other structures. The goal
for 2013 is to move forward with these transactions and to evaluate the
pricing and the potential for further execution in scale. What we learn
in 2013 will set the stage for the targets for 2014, and I fully expect
to move from a dollar target to a percentage of business target at some
point in the future.
Also, while it is not a Scorecard item, we expect to continue
increasing guarantee fees in 2013, and the execution of the single-
family risk sharing transactions I just described should provide
valuable information as to how market participants are pricing mortgage
credit risk. As we have noted before, the financial crisis demonstrated
that the Enterprises had not fully priced their credit risk. In 2012,
guarantee fees were increased twice, bringing the average guarantee fee
on new mortgages to around 50 basis points, approximately double what
guarantee fees were prior to conservatorship. A key motivation behind
increasing Enterprise guarantee fees is to bring their credit risk
pricing closer to what would be required by private sector providers.
However, I feel it is important to note that increasing guarantee fees
is part of the goal of contracting the Enterprises' dominant presence
in the marketplace. It is not designed primarily to increase their
revenue. The hope is that at some point the increases in guarantee fees
will encourage private capital back into the market. We are not there
yet, but in conversations with market participants, I think we are
getting closer.
Second, we are setting a target of a 10 percent reduction in new
multifamily business acquisitions from 2012 levels. We expect that this
reduction will be achieved through some combination of increased
pricing, more limited product offerings, and tighter overall
underwriting standards. The multifamily business differs significantly
from the single-family credit guarantee business. The Enterprises have
a smaller share of the multifamily market and there are other providers
of credit in the market. The Enterprises' market share of new
multifamily originations did increase during the financial downturn,
but in 2012 it returned to a more normal position.
Another difference from the single-family business is that each
Enterprise's multifamily business has weathered the housing crisis and
generated positive cash flow. In contrast to their common approach to
their single-family businesses, Fannie Mae and Freddie Mac do not take
the same approach to their individual multifamily businesses. Each
approach also already embeds some type of risk sharing. For a
significant portion of its business, Fannie Mae shares multifamily
credit risk with loan originators through its delegated underwriting
program. Likewise, for a significant and increasing portion of its
business, Freddie Mac shares multifamily credit risk with investors by
issuing classes of securities backed by multifamily mortgages where the
investor bears the credit risk.
Given that the multifamily market's reliance on the Enterprises has
moved to a more normal range, reducing the Enterprises' footprint in
this market is appropriate and aligns with the overall goal of
contracting their dominant market presence.
Finally, we are setting a target of selling an additional 5 percent
of the less liquid portion of the Enterprises' retained portfolios--
primarily their retained portfolios excluding agency securities. The
retained portfolios of Fannie Mae and Freddie Mac have been declining
since 2009. The initial PSPAs required a 10 percent annual reduction,
and the most recent changes to the PSPAs increased the annual reduction
to 15 percent. The composition of the Enterprises' retained portfolios
has also changed significantly since the establishment of the
conservatorships. Prior to conservatorship, the retained portfolios
were dominated by their own mortgage-backed securities and performing
whole loans. As those securities have been paid down, and as the need
to work through delinquent loans increased, the retained portfolios
changed from being relatively liquid to being less liquid.
Given that natural run-off in the retained portfolios would have
likely satisfied the PSPA reduction targets in the next few years, and
that the Enterprises are not actively purchasing new assets for their
retained portfolios, requiring them to sell from the less liquid
portions of their retained portfolios should lead to an even faster
reduction than is required under the PSPAs.
Additional Priorities for 2013
Let me close this review of the conservatorship strategic plan by
highlighting a couple of other priorities we are working towards in
2013. One will be the near-term efforts regarding mortgage insurance.
To better protect the interests of the Enterprises, we are updating
mortgage insurance master policies by clarifying the role and
responsibilities of insurance carriers, particularly when servicers
pursue loss mitigation to help delinquent borrowers. Further, we intend
to formulate new mortgage insurance eligibility standards, to ensure
that all insurance carriers doing business with the Enterprises have
the appropriate financial, operational, and management capacity to
fulfill their obligations, particularly in the event of additional
stress to the housing markets. These efforts will be an important and
critical step for mortgage insurance to remain a viable risk transfer
mechanism in the future.
Another policy project of note is the development of an aligned set
of standards for so-called force placed, or lender-placed, insurance.
The various concerns with lender-placed insurance are well-known,
including the costs, limitations on coverage, and consumer protections.
FHFA recently sent a Notice to the Federal Register setting forth an
approach to address certain practices relating to lender-placed
insurance that we consider contrary to prudent business practices,
contrary to appropriate administration of Enterprise guaranteed loans,
and which expose the Enterprises to potential losses and safety and
soundness risks.
These practices include sales commissions received by sellers and
servicers when placing coverage or maintaining placement with
particular insurance providers, and remuneration received by sellers
and servicers from insurance providers that cede premiums to a
reinsurer that is owned by, affiliated with or controlled by the seller
or servicer. After receiving input during the 60 day period provided
for in the Federal Register Notice and after FHFA review, we would
anticipate the Enterprises putting these change in practices into place
over a several month period.
We also plan to pursue a broader approach to lender-placed
insurance, bringing together both public and private sector parties to
participate in a dialogue with us and with a wide range of
stakeholders. Our goal is to establish a set of standards that could be
adopted by a broader set of mortgage market participants, similar to
what was done with the Servicing Alignment Initiative. This broadened
approach will also enable greater regulatory coordination in an effort
to consider the various issues associated with lender-placed insurance.
FHFA as Supervisor
While FHFA has outlined a plan for the next phase of
conservatorship, we continue to fulfill our supervisory
responsibilities at both the Enterprises and the Federal Home Loan
Banks. Since FHFA was created in 2008, we have added more than 200
employees. Over the past 2 years, we have undertaken substantial
restructuring, particularly with regard to our supervision program and
have hired experienced examiners at the executive and staff levels. I
anticipate a modest amount of additional hiring, but believe that FHFA
now has the executive management team, the organizational structure,
and the staff necessary to carry out our safety and soundness mission.
With respect to Fannie Mae and Freddie Mac, we have strengthened
our supervision and oversight of their activities, including how they
implement and comply with conservatorship and FHFA policies. FHFA has
in the past year implemented several changes that will enable us to
quickly and effectively respond to emerging risks and developments, and
to put in place a framework for supervising the secondary housing
market not only today but for the future. This includes issuing
supervisory guidance, governing regulations, and establishing a new
risk-based supervisory framework. FHFA's 2013 supervisory objectives
include:
Assess the risks posed by new initiatives to ensure that
they are being implemented under a sound control framework.
These initiatives include SAI, the common securitization
platform, the contract harmonization project, multifamily bulk
loan sales, and REO disposition programs.
Maintain a full understanding of the Enterprise's overall
risk profile, particularly for the incremental risk created by
implementing the new initiatives while maintaining and
upgrading information systems and internal controls.
Determine if the board and management are taking
appropriate steps to comply with conservatorship and
supervisory directives.
Develop a formalized process for the ongoing monitoring
program.
Implement the CAMELSO rating system.
Financial Condition and Performance of the Enterprises and FHLBanks
Before turning to options for the future, I will first address
current market conditions and the financial condition and performance
of the Enterprises and of the FHLBanks, which are also important
components of the U.S. housing finance system.
Housing Market Conditions
We are seeing signs of recovery in the housing market
across a number of dimensions and, while the marketplace is by
no means ``normalized,'' conditions are promising in many ways.
According to the latest data from the National Association
of Realtors, the inventory of homes available for sale was only
1.9 million units in February. Given that the annualized rate
of home sales during that month was nearly 5 million
properties, this represented only about 4.7 months' worth of
supply. Just a year earlier, the relative supply was a still
modest 6.4 months. And at its peak--in July 2010--the supply
was 12.1 months.
According to the FHFA index, national home prices grew 5.5
percent between the fourth quarters of 2011 and 2012. For the
12 month period ending in January, home prices rose 6.5
percent.
Census data from December 2011 estimated the seasonally
adjusted annualized rate of housing starts to be about 700,000
units. By September 2012, that rate had grown to roughly
840,000 units and, in March, the rate was estimated at
1,036,000 units. This compares to a low of about 480,000 units
in April 2009, and is 71 percent of the long-run average.
The latest CoreLogic information, which includes data for
October, indicates that shadow inventory dropped roughly 12.3
percent between October 2011 and October 2012. This decline
represented a reduction in the shadow inventory pool of about
300,000 units.
Freddie Mac
Net income for the fourth quarter of 2012 totaled $4.5
billion, and represented the fifth consecutive quarter of
positive earnings. Annual net income of $11 billion represented
a record level of earnings for Freddie Mac and compares to a
net loss of $5.3 billion in 2011.
In 2012 Freddie Mac required $19 million of funding from
Treasury bringing the cumulative Treasury draw to $71.3
billion. Through December 31, 2012, Freddie Mac has paid $23.8
billion in cash dividends to Treasury on the company's senior
preferred stock. Under the PSPAs, the payment of dividends
cannot be used to offset prior Treasury draws. This provision
has remained unchanged since the PSPAs were established. So
while $23.8 billion has been paid to Treasury in dividends,
Treasury still maintains a liquidation preference of $72.3
billion on its senior preferred stock. Freddie Mac has $140.5
billion remaining in available support from Treasury.
The credit quality of new single-family acquisitions
remained high in the fourth quarter of 2012, with a weighted
average FICO score of 756. The average loan-to-value (LTV)
ratio for new business was 75 percent. This higher LTV ratio is
due to the expansion of HARP eligibility to borrowers whose
mortgages have LTV ratios above 125 percent and to relief
provided to lenders for borrowers with LTV ratios above 105
percent. These high LTV refinances represented 43 percent of
HARP loans in 2012.
Fannie Mae
Net income for the fourth quarter of 2012 totaled $7.6
billion, and represented the fourth consecutive quarter of
positive earnings. Annual net income of $17.2 billion
represented a record level of earnings for Fannie Mae and
compares with a net loss of $16.9 billion for 2011.
Fannie Mae did not require funding from Treasury in 2012.
Fannie Mae's cumulative Treasury draw remains at $116.1
billion. Through 2012, Fannie Mae has paid $35.6 billion in
cash dividends to Treasury on the company's senior preferred
stock. Under the PSPAs, the payment of dividends cannot be used
to offset prior Treasury draws. This provision has remained
unchanged since the PSPAs were established. So while $36.5
billion has been paid to Treasury in dividends, Treasury still
maintains a liquidation preference of $117.1 billion on its
senior preferred stock. Fannie Mae has $117.6 billion remaining
in available support from Treasury.
The credit quality of new single-family acquisitions was
strong in 2012, with a weighted average FICO score of 761. The
average LTV for new business was 75 percent in 2012, compared
with 69 percent in 2011. The year-over-year increase in average
LTV ratios is due to the expansion of HARP to borrowers with
high LTV mortgages.
Federal Home Loan Banks
The FHLBanks have emerged from the financial crisis in
generally good condition. They are profitable and have
strengthened capital positions. The FHLBank System reported net
income of $2.6 billion in 2012, the highest annual earnings
since 2007.
Retained earnings have grown significantly in recent years
and totaled $10.4 billion, or 1.37 percent of assets, as of
year-end 2012. Retained earnings are at their highest level
ever, and will continue to grow as a result of provisions
included in each FHLBank's capital plan. The FHLBank System
regulatory capital ratio of 6.8 percent exceeds the regulatory
requirement of 4.0 percent. The market value of the FHLBanks is
124 percent of the par value of capital stock, the highest
ratio in at least 11 years.
The aggregate balance sheet of the FHLBanks has shrunk
considerably in recent years, led primarily by declining
advance volumes due to market liquidity and sluggish economic
growth. Advances totaled $426 billion as of year-end 2012, down
58 percent from a peak of $1.01 trillion in the third quarter
of 2008.
Viewed over the past business cycle, the FHLBanks carried
out their public purpose of providing credit when needed to
support the mortgage investments of their members.
Role of the Government in Housing Finance
The key question in housing finance reform is what, and how large,
should the role of the Federal Government be? While it is ultimately up
to lawmakers to provide an answer, in my opinion the main purpose in
addressing housing finance reform should be to promote the efficient
provision of credit to finance mortgages for single-family and
multifamily housing. An efficient market system for providing mortgage
credit to people that want to buy a house should have certain core
characteristics: (1) it should provide consumer choice, (2) it should
provide consumer protections, (3) it should allow for innovation by
market participants, and (4) it should facilitate transparency.
As lawmakers consider the extent of the Government's role in
housing finance, it is useful to start with some basic market facts. As
of the fourth quarter of 2012, there was about $9.9 trillion in single
family mortgage debt outstanding. About 13 percent was guaranteed
through direct Government programs, roughly 52 percent was guaranteed
by Fannie Mae and Freddie Mac, and the remainder not guaranteed by the
Federal Government.
On a flow basis, Inside Mortgage Finance reports that in the third
quarter of 2012 new single family mortgage originations totaled
approximately $510 billion. Of that total roughly 18 percent was
guaranteed through direct Government programs, 66 percent through
Fannie Mae and Freddie Mac, and 16 percent not guaranteed by the
Federal Government.
Measured by securities issuance, the proportion supported by the
Government is over 90 percent.
However measured, it should be clear that today's housing finance
market is dominated by Government support.
The relevant question then appears to be more in the line of how we
move from the housing finance market of today, where almost all new
single-family mortgage originations have some type of Government
support, to a future market far more reliant on the private provision
of mortgage credit? And in particular, of the $5 trillion portion of
the mortgage market currently served by the Enterprises, what share, if
any, should have Government credit support in the future?
From the point of view of an economist, the answer to this
question, and to the general question of how great a role the
Government should ultimately play in the housing finance sector, begins
with consideration of a potential market failure. A market failure may
lead the private market to produce less of, or more of, a particular
good than would be economically optimal. Broadly speaking, in housing
finance there are at least two potential market failures that are often
considered; each may lead to an under-provision of mortgage credit.
A potential market failure could arise in housing finance if market
participants have undue or unnecessary concerns about the ongoing
stability and liquidity of mortgage credit in a purely private market
across various economic environments. If this view prevails in the
housing market, less credit will be provided than would be the case in
the absence of this type of uncertainty. The Government response to
this type of potential market failure could take a number of
approaches, ranging from establishing standards and greater
transparency for the market; providing liquidity or credit support
under certain market conditions; to providing a Government guarantee to
largely eliminate uncertainty.
Another potential market failure is what is often thought of as the
positive externality associated with home ownership. In this view, the
benefits of home ownership extend beyond the individual household to
the broader aspects of society, hence if left solely to the market the
number of homeowners will be less than optimal. The broader societal
benefits of home ownership that are often highlighted include things
such as the propensity for homeowners to engage more in civic and
political action; stronger neighborhood and social ties that accompany
home ownership; the opportunity to build family wealth through home
equity; and the willingness of homeowners to make improvements to their
property, thereby increasing the value of their home and neighborhood.
A common Government approach to increase market demand is to provide
some type of subsidy or other assistance to encourage or facilitate
such consumption. Direct subsidies to lower the cost of mortgage credit
or easing the eligibility terms for a mortgage are methods of
delivering subsidies through the housing finance market. Government
policies beyond the housing finance market are also used to promote
housing demand. Prominent among these is the mortgage interest tax
deduction.
These policies demonstrate that as a Nation we are committed to
providing opportunities for home ownership, and there may be other
social goals where it is decided that Government support is warranted.
The Federal Housing Administration (FHA) and other traditional
Government credit programs are typically used to address credit market
failures or to achieve public policy goals. If policy makers begin by
defining the role FHA and other Government mortgage credit programs
should play in the future in terms of which borrowers should have
access to these programs, then it should be easier to consider the
Government's role, if any, in the remainder of the mortgage market.
This is not dissimilar to the approach taken in other credit
markets. Take business lending as an example. The Government provides
support to address potential market failures or achieve other public
policy goals through the Small Business Administration and through
direct Government credit programs. The rest of the small business loan
market is generally left to the private sector, and credit for larger
businesses is generally provided without direct Government credit
support. Other consumer credit markets, like auto loans, have little if
any direct Government credit involvement at all.
However, a very important difference separates the single-family
mortgage market from other consumer credit markets--the size of the
overall market. As I mentioned earlier, there is currently around $9.9
trillion in single-family mortgage debt outstanding. A market of this
size needs to draw on broader sources of capital to fund this level of
activity. The single-family mortgage market has come to rely on the
Enterprises as the mechanism for attracting capital.
With their statutory public mission of supporting a stable and
liquid mortgage market, along with their low capital requirements, the
Enterprises were long able to guarantee mortgage credit risk at a
volume and price at which other market participants could not compete.
They were also seen as having a public mission to promote the
availability of mortgage credit, especially to support affordable
housing.
Still, there seems to be relatively broad agreement that this
Government-sponsored enterprise model of the past, where private sector
companies were provided certain benefits and charged with achieving
certain public policy goals, did not work. That model relied on
investors providing funding for housing at preferential rates based on
a perception of Government support, which ultimately turned out to be
correct and has resulted in Enterprises' drawing $187.5 billion in
funds from Treasury as of December 31, 2012.
Determining how to replace this flawed model--and developing an
efficient secondary market that can access capital markets in order to
serve that part of the single-family mortgage market that is not
covered by traditional Government credit programs--is central to
congressional consideration of ending the conservatorships of the
Enterprises.
The options for consideration range from a market-oriented approach
that would ensure broad minimum standards, to establishing a Federal
backstop to provide liquidity when needed, to developing a Government
guarantee structure to ensure stability in the flow of mortgage credit
and limit market uncertainty. These options are not novel. They are
essentially the three options that the Administration set forth in its
white paper more than 2 years ago. Let me offer some thoughts on these
three options.
Standard-Setting
This approach would replace some of the standard-setting that the
Enterprises undertake today with a regulatory regime or a market
utility that sets those standards and that are subject to rigorous
supervision. This model would not rely on a Government guarantee to
attract funding to the mortgage market, but would look to
standardization and rules for enforcing contracts to provide a degree
of certainty to investors. The focus in such an approach could be on
setting standards around key features that investors need to know to be
willing to price credit risk in the mortgage market. These include
standards associated with underwriting, pooling and servicing, and
disclosures.
Clearly, a standard-setting framework is much different than a
framework that has a Government guarantee. Investors would be required
to price the credit risk of mortgages. They also would be responsible
for enforcing their rights under the standard contracts developed under
this framework. Those requirements are consistent with the way that a
private market functions. Arguably, this is part of the market
oversight and investor protection regime that is already established in
various securities laws overseen by the Securities and Exchange
Commission.
Part of the question here is, given the size of the single family
mortgage, and the unique characteristics of today's agency securities
market, in particular the To-Be-Announced market, would additional
standard-setting measures enhance liquidity and provide further
structure to the market? An important question to consider is whether
there are other areas in terms of monitoring or compliance that could
potentially broaden the investor base while still achieving the primary
function of having private markets price credit risk?
To establish a liquid non- government-guaranteed market there would
seem to be a need to have greater homogeneity in borrower
characteristics. I would think such a market would broadly cover the
bulk of the business that the Enterprises undertake today, but such a
market might not be available to all borrowers currently served by the
Enterprises. With greater transparency in requirements, it would give
borrowers a clear sense of the qualification requirements. Traditional
Government guarantee programs would still exist to meet various policy
goals. And finally, for borrower characteristics that do not fit neatly
into the secondary market, we need to find a way to get banks, thrifts,
and credit unions back into the business of funding mortgages.
Understanding individual borrowers and special circumstances is at the
heart of the financial intermediation function of insured depository
institutions. Whatever changes are made to the secondary market, I hope
we preserve the option for local banks to make mortgages in their
communities, and hold those mortgages on the bank's balance sheet. I
would also note that the Federal Home Loan Banks give banks and other
depository institutions access to credit across the maturity spectrum
to assist in funding such mortgages on depository institution balance
sheets.
Federal Backstop
In a standard-setting approach without a Government guarantee, it
would be important to consider how such a market would operate in a
time of stress. Having clear standards and greater transparency would
certainly improve market operations, but there still could be cyclical
swings that could broadly be of concern to the Government. Two
potential concerns are:
Preserving the availability of credit in times of stress is
an important function. Is there a role for the Government,
perhaps through the Federal Housing Administration to take on
this role if necessary? Or alternatively, with a more
standardized market and infrastructure, would it be possible
for an existing guarantor, like Ginnie Mae, to play such a
temporary guarantee function?
Preserving liquidity in the market and the financial system
in this framework would be an important function. Is there a
need for a backstop source of funding when financial markets
become temporarily illiquid? For example, could the Treasury
Department, the Federal Reserve, or the Federal Home Loan Banks
play a role in a market that had this type of standardized
structure?
Government Guarantee
Finally, the third option is a secondary mortgage market operating
with some type of Government guarantee. This is somewhat similar to
what we have today. Clearly if the securities offered in a reformed
housing finance market have a Government guarantee, those securities
will be priced favorably and have a high degree of liquidity to reflect
that guarantee. However, pricing for those securities would not provide
the benefit of market pricing for credit risk of the underlying
mortgages. In such a structure, private sector capital through equity
investment would stand in a first loss position, with a Government
guarantee that was funded through an insurance premium being available
to cover other losses (much like with deposit insurance in the banking
system). This type of structure requires a significant amount of
regulatory safety and soundness oversight to protect against the moral
hazard associated with providing a Government guarantee.
While such an outcome has certain merit and some attractive
features, the potential costs and risks associated with this type of
framework should be fully explored. Simply put, replacing the
Enterprises' implicit guarantee with an explicit one does not resolve
all the shortcomings and inherent conflicts in that model, and it may
produce its own problems. As I have in past testimony, I offer three
observations in this regard.
First, the presumption behind the need for an explicit Federal
guarantee is that the market cannot evaluate and price the tail risk of
mortgage default, at least at any price that most would consider
reasonable, or it cannot manage that amount of mortgage credit risk on
its own. But we might ask whether there is reason to believe that the
Government will do better? If the Government backstop is underpriced,
taxpayers eventually may foot the bill again.
Second, if the Government provides explicit credit support for the
vast majority of mortgages in this country, it would likely want a say
with regard to the allocation or pricing of mortgage credit for
particular groups or geographic areas. The potential for Government
involvement to distort the pricing of credit risk may subject taxpayers
to further involvement if things do not work out as planned.
Third, regardless of any particular Government allocation or
pricing initiatives, explicit credit support for all but a small
portion of mortgages, on top of the existing tax deductibility of
mortgage interest, would further direct our Nation's investment dollars
toward housing. It would also drive up the price of housing, other
things being equal. A task for lawmakers is to weigh such incentives
and outcomes against the alternative uses of such funds.
Fourth, what will be the breadth and depth of regulatory authority
and how is it exercised? For example, just how much capital should be
maintained by a major mortgage market enterprise.
Finally, what I have just discussed relates to the single-family
mortgage market. A similar type of analysis could be performed for the
multifamily market.
Conclusion
Few of us could have imagined in 2008 that we would be approaching
the fifth anniversary of placing Fannie Mae and Freddie Mac in
conservatorship and that we have made little meaningful progress to
bring these Government conservatorships to an end. The conservatorships
were never intended to be a long-term solution. They were meant
primarily as a ``time out'' for the rapidly eroding mortgage market--an
opportunity to provide some stability while Congress and the
Administration could figure out how best to address future reforms to
the housing finance system.
The U.S. housing finance system cannot really get going again until
we remove this cloud of uncertainty and it will take legislation to do
it. Fannie Mae and Freddie Mac were chartered by Congress and by law,
only Congress can abolish or modify their charters and set forth a
vision for a new secondary market structure. While FHFA is doing what
it can to encourage private capital to return to the marketplace, so
long as there are two Government-supported firms occupying this space,
full private sector competition will be difficult, if not impossible,
to achieve.
I have been observing a developing ``consensus'' among private
market participants that the conforming conventional mortgage market
cannot operate without the American taxpayer providing the ultimate
credit guarantee for most of the market. As I have noted, that clearly
is one policy outcome, but I do not believe it is the only outcome to
be considered that can give our country a strong housing finance
system. I believe that our country and our financial system are
stronger than that. I believe it is possible to rebuild a secondary
mortgage market that is deep, liquid, and competitive; that is subject
to appropriate supervision and regulation, and will operate without an
ongoing reliance on taxpayers or, at least, a greatly reduced reliance
on taxpayers, if that is what we set our minds to accomplishing.
Where lawmakers identify particular market failures requiring
direct Government involvement, there may be more targeted approaches to
addressing those issues than a broad subsidy to credit. For example, if
certain borrowers or communities are of concern, taxpayer support could
be targeted directly to support the building or purchasing of housing
rather than indirectly through credit subsidies. Individual communities
have already undertaken this approach, developing their own
comprehensive list of challenges and potential solutions and bringing
these to all parties involved with their communities.
I have said before, however, that these choices are for elected
officials to make, not me. I am committed to working with this
Committee, its counterpart in the House, and the Administration to make
these policy determinations and then set about ending these
conservatorships and transitioning to a future housing finance system
that can serve our children, grandchildren, and beyond.
Thank you again for inviting me here today. I look forward to
discussing these important matters with all of you.
______
PREPARED STATEMENT OF STEVE A. LINICK
Inspector General, Federal Housing Finance Agency
April 18, 2013
Thank you, Chairman Johnson and Ranking Member Crapo and Members of
the Committee on Banking, Housing, and Urban Affairs, for inviting me
to testify here today. I appreciate the opportunity to update the
Committee on the work of the Federal Housing Finance Agency Office of
Inspector General (OIG).
OIG began operations in October 2010, in the midst of an
unprecedented housing and financial crisis of historic proportions.
Since our beginning, we have published 49 reports and have commenced
multiple criminal and civil investigations.
Today, I will discuss emerging trends based on our work to date,
discuss the challenges associated with ongoing uncertainty about the
future of Fannie Mae and Freddie Mac, describe our operations, and
answer the Committee's questions.
About OIG
OIG oversees FHFA's operations and programs. This oversight
includes the Agency's regulation of the housing Government-sponsored
enterprises (GSEs)--Fannie Mae, Freddie Mac, and the 12 Federal Home
Loan Banks (FHLBanks); the GSEs' approximately 12,000 employees; as
well as the conservatorships of Fannie Mae and Freddie Mac. Fannie Mae
and Freddie Mac currently own or guarantee $5 trillion in mortgages. To
date, they have received $187.5 billion in taxpayer money in order to
ensure their continuing solvency.
OIG's mission is to promote the economy, efficiency, and
effectiveness of FHFA's programs and operations. To carry out its
mission, OIG conducts and coordinates audits and evaluations of FHFA's
programs and operations. OIG also works to prevent and detect fraud,
waste, and abuse in those programs and operations through
investigations involving FHFA, Fannie Mae, Freddie Mac, and the
FHLBanks. Important features of OIG's work are the promotion of
transparency in FHFA programs and GSE oversight, as well as public
understanding of matters affecting FHFA, the GSEs, and housing policy.
A. Emerging Trends
Since I last testified, we have seen a turnaround in the
profitability of the Enterprises. This is the first period since 2008
in which the Enterprises, still under FHFA conservatorships, have
returned to profitability; in 2012, they earned record profits of more
than $28 billion.
1. FHFA Is Making Progress
FHFA has made progress in its role as conservator and regulator of
the Enterprises across a variety of fronts. For example, FHFA has
launched a number of initiatives intended to address key objectives,
such as aligning Enterprise practices, improving service to borrowers,
and conserving and preserving Enterprise assets. These initiatives
include the Servicing Alignment Initiative, Uniform Mortgage Data
Program, Joint Servicing Initiative, and lawsuits that FHFA has filed
against 18 investment banks to recover investment losses incurred on
residential mortgage-backed securities issued by those firms.
FHFA has also accepted and begun to implement the vast majority of
our audit and evaluation report recommendations. For example:
In December 2010, FHFA approved a buyback settlement with
Bank of America in which the bank agreed to pay $1.35 billion
to settle loan repurchase claims asserted by Freddie Mac. A
subsequent OIG report raised concerns about the adequacy of the
review of nonperforming loans for repurchase claims. Freddie
Mac has since acted on our concerns and expanded its loan
review process; it now believes that the expanded process may
produce additional revenues ranging from $2.2 to $3.4 billion
over 3 years.
Since OIG's March 2011 report, FHFA has taken action to
enhance its oversight and control of executive compensation.
For instance, FHFA revised certain aspects of the compensation
program, which, in the case of the Fannie Mae and Freddie Mac
CEOs, significantly reduced their annual pay.
In the aftermath of reports that the LIBOR rate affecting
financial transactions was improperly manipulated, OIG began
examining the potential impact of this manipulation on Fannie
Mae and Freddie Mac. We concluded in a memorandum to FHFA that
it was possible the Enterprises had suffered sizable losses,
and we offered recommendations for Agency action to recover any
such losses on behalf of the Enterprises. Subsequently, Freddie
Mac has sued to recover its losses.
2. As Conservator FHFA Needs To Be More Involved in
Enterprise Decision Making
Although the Agency has made progress, our work continues to show
that FHFA can improve its role as conservator and regulator. As
conservator of the Enterprises, FHFA's mission is to preserve and
conserve Enterprise assets. Throughout our body of work we have
identified instances in which FHFA has displayed undue deference to
Enterprise decision making in its capacity as conservator. Without
adequately testing or validating data, FHFA has at times deferred to
the Enterprises regarding key matters under the conservatorships. We
believe the Agency's actions in these cases reflect its approach as
conservator to delegate most business decisions to the Enterprises. In
each case, it relied upon review and corporate governance processes
already in place at the Enterprises. However, we have concluded that
some matters are sufficiently important to warrant greater involvement
and scrutiny by the Agency. In some cases, the deficiencies have been
remediated, but in other cases they still persist. For example:
Conservatorship decision making. In a September 2012
report, we found that FHFA unduly relied on information
provided by Fannie Mae when it issued a ``no objection''
response to Fannie Mae's last minute request to make a
financial investment of between $55 and $70 million. Fannie Mae
requested the Agency's approval as conservator to make the
investment; FHFA approved the request that same day but stated
that given the complex nature of the transaction and the short
time frame for its decision, the Agency could not assess the
reasonableness of the proposal.
Conservatorship decision making. In the same report, we
also found that over a 3-year period Fannie Mae took over 4,500
actions to increase the Enterprise's counterparty risk limits
without first obtaining conservator approval, even though such
approval was required and Freddie Mac had submitted such
counterparty risk limit increases for conservator approval. We
also found that FHFA had not discovered Fannie Mae's lapses.
FHFA has subsequently revised its policies and procedures
surrounding requests for conservatorship approval.
Underwriting. In a March 2012 audit, we found that the
Agency's oversight of underwriting, along with the accompanying
variances that effectively further loosen underwriting
standards, was limited; FHFA relied on the Enterprises to
oversee and establish underwriting standards and to grant
variances. Subsequent to our audit recommendations, FHFA
established a formal process to review the Enterprises'
underwriting standards and variances.
Transaction testing/exam capacity. Transaction testing
includes reviewing files to test the veracity of statements
made by the Enterprises to examiners. In a September 2011
evaluation of FHFA's capacity to examine the GSEs, we found
that examiners too often accept assertions made by Enterprise
managers rather than independently validating such assertions
through appropriate transaction testing.
Buybacks. In approving the buybacks settlement discussed
above, FHFA relied on Freddie Mac's analysis of the settlement
without testing the assumptions underlying the Enterprise's
existing loan review process. OIG found in a subsequent report
that implementation of our changes may generate additional
recoveries of $2.2 to $3.4 billion.
3. As Regulator FHFA Can Be More Proactive in Managing Risk
In multiple reports we identified instances in which FHFA was not
proactive in risk management. In general, we have observed that FHFA
has difficulties identifying new and emerging risks potentially
affecting the GSEs, issuing guidance and regulations governing risk
management at the GSEs, and providing strong and consistent enforcement
for violations of policy. Some instances of risk management shortfalls
identified by OIG have been addressed, nevertheless, FHFA still needs
to do more to identify and manage risks and take enforcement action
where warranted.
Identification of Risk
Our work has shown that the Agency's ability to identify new and
emerging risks has been limited. Here are some examples:
Advances to Insurance Companies. In a March 2013 report, we
found that during the past 8 years, FHLBanks' advances to
insurance companies who are FHLBank members have more than
quadrupled--from $11.5 billion in 2005 to $52.4 billion in
2012. Lending to insurance companies may present unique risks
compared with lending to other FHLBank members. Yet, neither
FHFA nor the FHLBanks obtain confidential supervisory or other
regulatory information relating to insurance company members
from State regulators or the National Association of Insurance
Commissioners.
Default-Related Legal Services. In a September 2011 report,
we found that there were indicators as early as 2006 that could
have led FHFA (and its predecessor) to identify the heightened
risk posed by foreclosure abuses associated with Fannie Mae's
default-related legal services network. The indicators included
the rise in foreclosures accompanying the deterioration of the
housing market, increased consumer complaints alleging improper
foreclosures, contemporaneous media reports of foreclosure
abuses, and public court filings in Florida and elsewhere
critical of such abuses. Notwithstanding these indicators, FHFA
did not devote attention to the foreclosure abuse issues until
August 2010. The Agency is now implementing changes intended to
rectify that oversight.
REO. In a July 2012 report, we found that since 2008, FHFA
has consistently listed the Enterprises' large inventories of
real-estate owned (REO) properties acquired in the foreclosure
process as contributing to ``critical concern'' ratings in
their quarterly risk assessments. FHFA did not conduct targeted
examinations or focused reviews of REO until 2011. FHFA's
eventual targeted examinations in 2012 were positive
supervisory steps, but expanding the scope of the assessments
to evaluate more risks can help the Agency improve its
supervision of real-estate owned.
Risk Management
The Agency has not always managed identified risks by establishing
sufficient regulations or guidance.
Servicing. In a September 2012 report, we found that FHFA
has not timely addressed known risks presented by mortgage
servicing contractors. For example, FHFA has not developed
sufficient regulations or guidance governing the Enterprises'
oversight and risk management of counterparties, such as
servicers. Specifically, FHFA had not established and
implemented effective Enterprise regulations or guidance for
controlling the reporting of critical servicer information and
establishing baseline requirements for mortgage servicing.
Instead, FHFA relied on the Enterprises to monitor counterparty
risk as part of their ongoing risk management activities.
Although FHFA has made progress in this area, servicing remains
an ongoing challenge.
High-Risk Seller/Servicers. In a September 2012 report, we
found that FHFA has not addressed known risks presented by
mortgage seller/servicers by developing sufficient regulations
or guidance governing the Enterprises' oversight and risk
management of such counterparties. The Enterprises work with
numerous seller/servicers for post-origination mortgage work,
such as collecting mortgage payments. These seller/servicers
represent a significant risk to the Enterprises. Specifically,
FHFA has not published standards for the development of
contingency plans related to failing or failed high-risk
counterparties. Counterparty contingency plans will not
eliminate losses, but they can serve as a road map to help
reduce the Enterprises' risk exposure. Managing such seller/
servicer risk is important, as the Enterprises have incurred
losses of $6.1 billion from failures at just four of their
counterparties since 2008. FHFA recently issued an advisory
bulletin containing guidance and outlining criteria on written
contingency plans.
Enforcement
Even when FHFA has identified risks and taken steps to manage those
risks, the Agency has not consistently enforced its directives to
ensure that identified risks are adequately addressed. As conservator
and regulator, FHFA's authority over the Enterprises is broad and
includes the ability to discipline or remove Enterprise personnel in
order to ensure compliance with Agency mandates. OIG has reported that
FHFA's supervision and regulation of the GSEs is strengthened by
exercising this authority where warranted.
Operational Risk at Fannie Mae. In a September 2011 report,
we found that FHFA had not compelled Fannie Mae's compliance
with directives requiring it to establish an effective
operational risk management program. Fannie Mae's lack of an
acceptable and effective program may have resulted in missed
opportunities to strengthen oversight of law firms with which
it contracts to process foreclosures.
Troubled FHLBanks. Benefit of stronger FHFA enforcement
also extends to FHLBanks. For example, since 2008 at least four
FHLBanks have faced significant financial and operational
difficulties which classified them as institutions with
``supervisory concerns.'' In a January 2012 report, we
determined that FHFA had not established a consistent and
transparent written enforcement policy for troubled FHLBanks
having such a classification. This contributed to instances in
which FHFA may not have held such banks and their officers
sufficiently accountable for engaging in questionable risk
taking.
Unsecured FHLBank Lending. In a June 2012 report, we
identified FHFA's current regulation governing unsecured
lending by the FHLBanks as possibly outdated and overly
permissive, as well as noncompliant with the Agency's existing
regulation. More specifically, FHFA did not initially pursue
potential evidence of FHLBanks' violations of the existing
regulatory limits and take supervisory and enforcement actions
as warranted. OIG is currently conducting a follow-up report on
this topic.
Recent Examples
Two recent OIG reports exemplify multiple aspects of FHFA's
shortfalls in risk management:
Consumer Protection. The Enterprises' seller/servicer
counterparties contractually agree to comply with all Federal
and State laws and regulations (including consumer protection
statutes) applicable to originating, selling, and servicing
loans. If a counterparty does not comply, the Enterprises can
require it to repurchase the noncompliant loan. We found in a
March 2013 report that FHFA does not examine how the
Enterprises monitor compliance with consumer protection laws,
and the Enterprises do not ensure that their counterparties
from which they purchase loans comply with such laws. Because
FHFA has not identified compliance as a risk, it has not issued
any guidance to the Enterprises. Further, FHFA has not
attempted to enforce compliance with contractual provisions. We
recommended that FHFA develop a risk-based plan to monitor the
Enterprises' oversight of their counterparties' contractual
compliance with applicable laws and regulations. FHFA agreed
with our recommendation.
Consumer Complaints. The Enterprises pay mortgage servicers
to collect payments, interact with borrowers, and handle their
complaints. The more serious complaints are called ``escalated
cases'' and include foreclosure actions that violate the
Enterprises' guidelines, complaints that the borrower was not
appropriately evaluated for a foreclosure alternative, and
violations of the Enterprises' time frames for borrower
outreach.
We found in another March 2013 report that between October 2011 and
November 2012, Freddie Mac and its eight largest servicers received
over 34,000 complaints that became escalated cases. A servicer's
failure to quickly and accurately resolve these escalated cases can
prevent foreclosure alternatives from being adequately explored with
borrowers and may result in losses to the Enterprise.
In early 2011, FHFA announced its Servicing Alignment Initiative,
which requires servicers to report on escalated cases they receive and
resolve cases within 30 days of receiving them. We found that FHFA,
Freddie Mac, and its servicers did not fulfill their respective
responsibilities to address and resolve escalated cases. First,
evidence suggests that most of Freddie Mac's servicers are not
complying with reporting requirements for escalated cases. As of
December 2012, 1,179 or 98 percent of Freddie Mac's servicers had not
reported on any escalated cases even though they managed 6.6 million
mortgages for Freddie Mac. Of Freddie Mac's eight largest servicers--
which serviced nearly 70 percent of its loans--four did not report any
information about escalated cases despite handling more than 20,000
such cases during the 14-month period between October 2011 and November
2012.
Further, of the 25,528 escalated cases resolved by the eight
largest servicers during the 14-month period between October 2011 and
November 2012, 5,372 or 21 percent were not timely resolved within 30
days. Additionally, Freddie Mac did identify this as a risk area yet
did not implement independent testing procedures during its operational
reviews of its largest national and regional servicers. As a result, it
had findings related to escalated cases in only 1 of 38 reviews of its
largest national and regional servicers that it conducted in 2012.
Freddie Mac has also neglected to establish penalties (such as fines)
for servicers that do not report escalated cases.
Finally, FHFA did not identify the foregoing problems through its
own examination of Freddie Mac's implementation of the Servicing
Alignment Initiative. Rather than independently testing servicers'
compliance with complaint reporting requirements, the FHFA examination
team relied exclusively on Freddie Mac's on-site operational review
reports, which did not mention problems with servicer reporting. Thus,
FHFA's examination of Freddie Mac's implementation of the Servicing
Alignment Initiative did not identify servicers' failures to report
escalated cases or resolve them in 30 days. Additionally, FHFA lacks
guidance for examination teams to use when testing the implementation
of directives, such as its Servicing Alignment Initiative.
To address and resolve escalated consumer complaints in a timely
and consistent manner, we recommended that the Agency ensure Freddie
Mac requires its servicers to report, timely resolve, and accurately
categorize escalated cases; ensure that Freddie Mac enhances its
oversight of the servicers through testing servicer performance and
establishing fines for noncompliance; and improve its oversight of
Freddie Mac by developing and implementing effective examination
guidance. FHFA agreed with our recommendations.
4. FHFA May Not Have Enough Examiners
FHFA has critical regulatory responsibilities with respect to the
GSEs and conservator responsibilities regarding the Enterprises.
Nonetheless, in a 2011 report we found that the Agency had too few
examiners to ensure the efficiency and effectiveness of its GSE
oversight program; due to examiner shortages, FHFA had scaled back
planned work during examinations, and examinations often took much
longer than expected to complete. Additionally, we identified
shortfalls in the Agency's examination coverage, particularly in the
crucial area of REO. We also found that the majority of the Agency's
examiners lacked the certification that is required at other Federal
financial regulatory examination divisions. Although the Agency has
made progress since we issued this initial report by reorganizing the
examination function and hiring new staff, it is not clear that FHFA
has achieved adequate resources. Many of our subsequent reports
continue to recommend expanded or improved examination coverage. We
have initiated follow-up work to determine FHFA's progress in staffing
its examination teams.
B. Challenges Associated With Ongoing Uncertainty
We are mindful that FHFA's long-term success--and our ability to
assess the enduring effectiveness, efficiency, and economy of the
Agency's actions--is necessarily affected by the uncertainty
surrounding the fate of the Enterprises and that of the housing finance
system. In other words, FHFA must effectively direct the Enterprises'
operations while fundamental questions about its role and theirs remain
unanswered.
In September 2008, when Fannie Mae and Freddie Mac entered into
conservatorships overseen by FHFA, it was generally assumed that FHFA's
role as conservator would be temporary and short-lived. Yet, nearly 5
years later, Fannie Mae and Freddie Mac are still in conservatorships
with no clear end in sight. Indeed, no one is sure how long the
Enterprises will continue to exist in their current form or what their
future roles, if any, will be. Thus, human resource issues have been
and will remain a challenge for FHFA and the Enterprises. Not only does
the uncertain future present a challenge in recruiting and retaining
employees, the Agency and the Enterprises are hampered in making
longer-term staffing allocations because their future roles remain
uncertain.
Until the uncertainty is resolved, we will continue to focus on
housing finance matters, such as managing risks and repaying taxpayers.
C. OIG Operations
1. OIG Audits and Evaluations
In addition to monitoring and reporting on FHFA's progress in
implementing report recommendations, my office will continue to release
new audits and evaluations covering key areas. OIG maintains an Audit
and Evaluation Plan focused on the areas of FHFA's operations posing
the greatest risks and providing the greatest potential benefits to
FHFA, Congress, and the public. Originally developed with input from an
independent, third-party risk assessment, the Audit and Evaluation Plan
also takes into account the feedback we receive about our work from
FHFA officials, members of Congress, and others. Broadly, OIG's audit
and evaluation strategies include reviews of the following FHFA
activities:
Regulatory efforts and its management of the Fannie Mae and
Freddie Mac conservatorships. The Enterprise conservatorships
are particularly high-risk areas in which taxpayers have
invested $187.5 billion to date. As conservator, FHFA must
regulate and oversee the Enterprises in an efficient,
effective, and transparent manner so as to minimize taxpayer
costs, conserve and preserve Enterprise assets, and meet all
statutory mandates.
Oversight of the FHLBanks and their associated risks,
including investment portfolio management and concentrations,
credit underwriting, and administration.
FHFA and GSE internal operations involving issues that
relate to information security as well as allegations of fraud,
waste, or abuse.
Given the Committee's interest, I want to highlight some of our
projects that are currently underway. First, we are assessing a number
of FHFA's new or expanded initiatives, including the Servicing
Alignment Initiative, the proposed Common Securitization Platform for
the Enterprises, the Fannie Mae REO pilot program, and HARP 2.0.
Additionally, we are conducting further work to follow up on our
December 2012 consumer protection report entitled ``FHFA Should Develop
and Implement a Risk-Based Plan to Monitor the Enterprises' Oversight
of Their Counterparties' Compliance with Contractual Requirements
Including Consumer Protection Laws''. There, we assessed FHFA's
oversight of the Enterprises' monitoring of seller/servicer compliance
with their contractual agreements, with an emphasis on their compliance
with Federal consumer protection laws. The next phase of our work will
move from the Agency's oversight of the Enterprises to the Agency's
oversight of servicers. However, I look forward to working with you and
reporting our findings and recommendations in the coming months.
2. Investigations
Within OIG, the Office of Investigations is actively engaged in
combating fraud, waste, and abuse. Thus far in FY2013 alone, the Office
of Investigations' activities have led to 53 indictments and 26
convictions; since our work began the Office of Investigations'
activities have led to 156 indictments and 62 convictions.
OIG works with law enforcement partners across the Nation,
including other Federal agencies, U.S. Attorneys' Offices, and State
and local agencies. While many cases remain confidential, we have
released details about mortgage fraud investigations once public
charges have been filed, as is the case with the prosecutions of
Colonial Bank and Taylor, Bean & Whitaker Mortgage Corporation,
American Mortgage Field Services LLC, and Home Owners Protection
Economics, Inc.
The Office of Investigations currently has a variety of open
criminal and civil investigations involving a wide variety of
allegations of wrongdoing. The Office of Investigations focuses on FHFA
and the GSEs, both internally and externally, concentrating on those
individuals and organizations that have victimized either FHFA or the
GSEs or borrowers with GSE loans. Many of the cases fall into one or
more of the following seven categories:
Fraud involving residential mortgage-backed securities
Mortgage origination related frauds
Mortgage modification frauds
Fraud involving REO transactions
Builder bailouts and condo conversions
Fraud involving mortgage servicing contractors
FHFA or GSE employee misconduct
Fraud involving mortgage-backed securities is a key area of focus.
During the housing boom, the GSEs purchased and guaranteed hundreds of
billions of dollars of residential mortgage-backed securities. Since
the collapse of the housing market in 2007, those investments have
declined precipitously in value. The GSEs may have been victims of
fraud in instances when the quality and value of the underlying assets
they purchased or guaranteed was misrepresented to them. OIG is an
active member of the Mortgage Fraud Working Group formed last year, and
has assisted in civil cases filed in the second half of 2012 against
JPMorgan Chase and Credit Suisse.
Mortgage origination fraud includes cases when the GSEs have been
defrauded as a result of misrepresentations relating to the quality of
the loans sold. These misrepresentations occur at the time the loan is
originated. For instance, OIG is assisting in a Federal civil case
alleging that Countrywide in 2008 implemented a new loan origination
process called the ``Hustle,'' which was intentionally designed to
process loans at high speed and without quality checkpoints, and which
generated thousands of fraudulent and otherwise defective residential
mortgage loans sold to Fannie Mae and Freddie Mac that later defaulted,
causing over $1 billion dollars in losses and countless foreclosures.
Mortgage modification fraud targets financially distressed
homeowners who are underwater or have fallen behind on their mortgage
payments. Some frauds involve advance fee schemes that require the
homeowner to pay a fee for participating in supposedly ``official''
programs that are in fact completely fictitious or improperly imply
participation in a U.S. Government housing relief program. Other
schemes are designed to force a distressed homeowner into default
sooner than would otherwise be the case.
REO fraud may involve individuals connected to the foreclosure and
subsequent resale of a property. For example, the Enterprises contract
with asset managers to maintain and prepare the property for sale. But
the asset managers may not maintain the properties and bill for
fictitious maintenance expenses. REO fraud can also involve realtors
who collude with investors or other realtors and appraisers to drive
down the price of properties they are selling on behalf of the
Enterprises.
Builder bailouts and condo conversions usually occur when a builder
who obtained loans to build homes is unable to sell all the homes when
built. To get rid of those unsold homes quickly, the builder may use a
variety of illegal schemes, including using straw-buyers, paying
undisclosed concessions to the buyer, or paying undisclosed marketing
fees to brokers or real estate agents.
Fraud involving mortgage servicing contractors can include
instances when a mortgage servicing contractor defrauds an Enterprise.
For instance American Mortgage Field Services LLC was a property
inspection company. From at least 2009 through March 2012, the
president of American Mortgage Field Services and some of his employees
submitted fraudulent reports describing numerous inspections of
foreclosed properties that were paid for but never actually performed.
Recently, American Mortgage Field Services' president was sentenced in
Federal court to over 8 years in prison and ordered to pay over $12.7
million in restitution.
FHFA or GSE employee misconduct involves cases alleging misconduct
by FHFA or GSE employees or contractors. For instance, in a recently
filed Federal case, a Fannie Mae foreclosure specialist allegedly
solicited $11,000 in payments from realtors in exchange for taking
favorable actions.
Finally, I want to mention that the Office of Investigations
operates the OIG Hotline, which allows concerned parties to report
information directly and in confidence regarding possible fraud, waste,
or abuse related to FHFA or the GSEs. OIG honors all applicable
whistleblower protections. If anyone wishes to report allegations of
fraud, waste, or abuse, the Hotline can be reached at 1-800-793-7724,
by fax at (202) 318-0358, or through our Web site at www.fhfaoig.gov.
Conclusion
My staff and I look forward to continuing to work with your
Committee to provide independent, relevant, and objective assessments
of FHFA's operations and programs. The continuing fragility of our
Nation's housing market remains a significant source of ongoing
concern. Further, Fannie Mae, Freddie Mac, and the FHLBanks continue to
be key market participants, and FHFA continues to face significant
challenges. We are hopeful that our work will be of assistance in
meeting those challenges.
RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO
FROM EDWARD J. DEMARCO
Q.1. You have begun building a securitization platform that
will be jointly owned by Fannie Mae and Freddie Mac. Upon its
completion you have stated that this platform will be built so
that it may be used by not only Fannie and Freddie, but other
entities wishing to securitize mortgages.
Please describe the circumstances that necessitated this
project be undertaken at this time and the reasons why you
believe it must be completed in a timely fashion.
A.1. The mortgage market today relies heavily on taxpayer
support, with little private capital standing in front of the
Government's risk exposure. Any transition from conservatorship
will require a multiyear period, yet the Enterprises' outmoded
proprietary infrastructures are in immediate need of being
upgraded and maintained. An investment of capital--capital that
would come from taxpayers through the Preferred Stock Purchase
Agreements with the Department of Treasury--will be needed for
this effort. To the extent possible, we are trying to ensure
that taxpayer dollars are invested to this end once, not twice.
The common securitization platform will allow the Enterprises
to better adapt to market changes, issue nonguaranteed or
partially guaranteed securities in scale that attract private
capital (helping to reduce the Enterprises' dominant position
in the market), more efficiently aggregate data, and lower
barriers to market entry. Timely completion will facilitate the
Enterprises' ability to meet critical goals outlined in FHFA's
Strategic Plan for the Conservatorships, consistent with the
Administration's call for a gradual wind down of the
Enterprises. It will preserve policy options for Congress,
while establishing a stronger foundation on which Congress and
market participants can build to replace the preconservatorship
GSE model.
Q.2. What is the legal authority under which this project was
undertaken and under what statutory obligations must FHFA
operate in completing the project?
A.2. This project is undertaken in FHFA's role as conservator
for each enterprise; 12 U.S.C. section 4617.
Q.3. You have stated that the securitization platform will be
owned by a company outside of Fannie Mae and Freddie Mac, but
jointly owned by the two companies.
Please further describe the legal structure under which
this company will be organized and ultimately operational.
A.3. The agency is considering a range of structures that would
operate now as well as be available for future sale or other
structural or operational changes.
Q.4. Did your legal obligations as Conservator play any role in
determining how this entity would be constructed? If so, how
and which obligations?
A.4. FHFA's role as conservator played a role. As the platform
will be owned and operated by a company that is jointly held by
the Enterprises, the company will be an asset of each
enterprise and remain under the ongoing oversight of the FHFA.
Q.5. What other factors did you consider in determining this
structure to be the best construct for the new platform?
A.5. We believe that setting up a new structure that is
separate from the Enterprises is important for building a new
secondary mortgage market infrastructure. Our objective is for
the platform to be able to function like a market utility, as
opposed to rebuilding the proprietary infrastructures of Fannie
Mae and Freddie Mac. While the common securitization platform
will serve initially as a replacement for some of the
Enterprises' legacy infrastructure, its focus is on functions
that are routinely repeated across the secondary mortgage
market, where standardization has clear benefits to market
participants. Being physically separate from the Enterprises,
with an independent CEO and Chairman of the Board and a formal
structure allowing for input from industry participants, should
facilitate the platform's independence. This will help to meet
the overarching goal of creating something of value that could
either be sold or used by policy makers as a foundational
element of the mortgage market of the future. In terms of the
mechanics of how the common securitization platform will be
built, we are using industry-standard data definitions and
protocols and industry-standard technologies, leveraging
existing industry software to the extent feasible.
Q.6. You have given a ballpark estimate of about 5 years for
ultimate completion of the securitization platform project. You
and I have both stated that we need to reform our housing
finance markets and end the conservatorships of Fannie and
Freddie long before that time.
If, however, Fannie, Freddie, and this new company remain
in conservatorships after ultimate completion of the
securitization platform project, what are the legal obligations
of FHFA in the operation of the platform and the company who
owns it?
A.6. The structure would continue to operate to the benefit of
the enterprises and FHFA would continue its oversight.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED
FROM EDWARD J. DEMARCO
Q.1. The Inspector General's report noted that the ``FHFA has
displayed undue deference to Enterprise decision making . . .
without adequately testing or validating data.'' You also
stated in written testimony provided to the Senate Banking
Committee on April 18, 2013, ``that FHFA now has the executive
management team, the organizational structure, and the staff
necessary to carry out our safety and soundness mission.'' Is
FHFA now in a position to test and verify enterprise reports
and data so that it can spot issues before the IG brings them
to FHFA's attention? Why or why not?
A.1. During 2012, we completed a realignment of our examination
resources to strengthen our dedicated examination staff and to
build upon our team of professionals who provide significant
contribution to our examinations of the regulated entities. At
the end of the March 2013, FHFA had a total of 194 employees
who are devoted to the examination process at Fannie Mae,
Freddie Mac (Enterprises), and the Federal Home Loan Banks and
120 of those examiners are dedicated full-time safety and
soundness examiners.
FHFA is accomplishing its supervisory mission at the
regulated entities, but is still evaluating the sufficiency of
our staffing given the dynamic environment, and the significant
amount of work that the Enterprises are doing to remediate
their critical safety and soundness ratings as well as meet
FHFA's expectations to meet our strategic goals. FHFA is
continuing to attract and hire highly qualified examiners with
the expertise needed to fill knowledge gaps.
FHFA has implemented a risk-based approach to examination
planning to ensure that the regulated entities are identifying
and mitigating key enterprise-wide business risks inherent in
their business operations. We also modified our supervisory
model to allow more flexibility for the examination teams to
focus on key risk areas by requiring on-site examination teams
at each Enterprise, and by implementing an ongoing monitoring
approach to certain areas that require heightened supervisory
attention throughout the examination cycle. While we cannot be
certain that we will spot all issues, including some that the
Inspector General may bring to FHFA's attention, we firmly
believe that our supervisory program is focused on those risks
that are critical to the safe and sound operations of the
Enterprises.
Q.2. The IG noted in his testimony that: ``Rather than
independently testing servicers' compliance with complaint
reporting requirements, the FHFA examination team relied
exclusively on Freddie Mac's on-site operational review
reports, which did not mention problems with servicer
reporting. Thus, FHFA's examination of Freddie Mac's
implementation of the Servicing Alignment Initiative did not
identify servicers' failures to report escalated cases or
resolve them in 30 days. Additionally, FHFA lacks guidance for
examination teams to use when testing the implementation of
directives, such as its Servicing Alignment Initiative.''
Although the FHFA has agreed to the IG's recommendations to
address these issues, what assurance can FHFA provide that when
the recommendations are implemented, all major servicing issues
will be sufficiently addressed at the enterprises?
A.2. FHFA is developing examination guidance for evaluating the
Enterprises' compliance with FHFA-mandated initiatives such the
Servicing Alignment Initiative. The guidance will provide
instruction to plan and complete the independent examination
work necessary to determine compliance with FHFA requirements
that are the subject of examination activity. The guidance will
also address steps to be taken should examiners identify
instances of noncompliance.
FHFA's examination and supervisory efforts include on-site
examinations at nonbank specialty servicers targeted to those
with significantly sized loan portfolios that present higher
risk to the regulated entities. The examinations are
comprehensive and include evaluation of the compliance, audit,
and risk management programs, including servicer eligibility,
performance, and reporting.
Further, during 2012, FHFA directed the regulated entities
to define new representations and warranties frameworks that
include an enhanced quality control review process and
enforcement of violations to credit policy. The representations
and warranties framework sets forth clear and consistent
standards and practices for the regulated entities to pursue
certain remedies and, among other things, assigning remedy
types and usage, including remedies for noncompliance. Mortgage
servicers are critical counterparties and servicing activity,
including the implementation of the new representations and
warranties framework, is a priority focus of FHFA's examination
program.
------
RESPONSES TO WRITTEN QUESTIONS OF
SENATOR MENENDEZ FROM EDWARD J. DEMARCO
Q.1. On HARP and Menendez-Boxer Refi: With the extension of
HARP for an additional 2 years, which I applaud, is it not also
time to reconsider administrative extension beyond the June
2009 borrower eligibility deadline? The deadline has already
been changed once from March 2009 back to June 2009, and if you
can indulge me, I would say that the program extension from
2012 to 2015, itself represents a substantive change that
nullifies any perceived ``Covenant with Investors.'' And to the
extent there is a covenant, isn't your role within it to
facilitate the best interest not only of investors, but of
borrowers? Leaving the cut-off date as is, makes it appear that
you weigh investors' interests above borrowers, who
contractually are equals are they not?
A.1. FHFA has a strong commitment to keeping borrowers in their
homes when possible. The overall intent of the Home Affordable
Refinance Program (HARP) is to provide affordable refinancing
opportunities for current eligible borrowers.
HARP has embedded certain programmatic flexibilities that
are intended to benefit the borrower. For example, if a
borrower has a loan-to-value ratio above 80 percent, the HARP
flexibilities related to mortgage insurance (MI) allow the
transfer of existing mortgage insurance to the newly refinanced
loan or the servicer can waive the MI coverage requirement on
the new loan when coverage was not placed on the original loan.
Since program inception, these flexibilities have allowed more
than 2 million borrowers the ability to refinance their loans
(See May 2013 FHFA Refinance Report at www.fhfa.gov/webfiles/
25375/May2013RefiReport.pdf). Absent these flexibilities, a
borrower would be required to make a downpayment, often
significant, in order to cure their negative equity position
before refinancing or to pay for new MI coverage.
While FHFA recently extended HARP through 2015, this action
does not increase the eligible population, but rather provides
eligible borrowers with additional time to take advantage of
historically low interest rates through refinance. The minor
adjustment made earlier to the cut-off date was done to align
Fannie Mae's and Freddie Mac's practices in order to reduce
confusion among lenders. The fixed date is consistent with the
Administration's and FHFA's intent that HARP reduce credit risk
in the Enterprises' books of business. By mid-2009, house price
declines were widespread and had already reached or were near
their ultimate bottom in most markets. Furthermore, interest
rate declines, facilitated by central bank actions, were
already well underway. Therefore, we currently do not have
plans to extend the borrower eligibility date beyond loans
acquired by the Enterprises before May 31, 2009. Such an action
would generate a fairly small increase in the number of
eligible borrowers. Our position in keeping the borrower
eligibility date at May 31, 2009, is a function of balancing
the impact on the borrower and the taxpayer, market and
investor. The current May 31, 2009, eligibility deadline
provides a clear cut-off point which contributes to investor
confidence. This level of certainty allows investors to
estimate the likelihood of prepayment. If the May 31, 2009,
eligibility date were to change, and prepayment confidence was
reduced, investors may react in a way that results in higher
borrowing costs to all future borrowers. Therefore, given the
small size of the additional population that could be served,
we do not believe that expanding the eligibility is in the best
interest of homeowners in general or the taxpayer.
Q.2. Let me further enquire about the extension of the program
eligibility. And maybe you can clear a few things up for me . .
. but aren't borrowers who took out loans after June 2009, who
had sufficient equity when they took out their loans, given a
contractual option to prepay or refinance that due to this
eligibility rule--they cannot now exercise? It would seem also
that any savings they may have enjoyed through a HARP refinance
are instead being transferred directly to investors through
higher interest payments. Is it not true then, if the date is
not extended, those investors bear neither credit nor
prepayment risk, and the GSEs are left with all of the risk?
Again, I must point out that the optics of the situation is one
where investors are enriched while borrowers are diminished and
taxpayers are exposed to unnecessarily high risk. What are your
thoughts?
A.2. The program eligibility date of May 31, 2009, was
originally established with President Obama's initial
announcement of HARP as a component of the Making Home
Affordable Program in February 2009. The program was designed
as an exceptional response to exceptional circumstances. The
program has not removed or restricted any contractual rights of
borrowers, but has, on the contrary, provided them with
unprecedented benefits by making it possible for millions of
homeowners to refinance without new or additional mortgage
insurance. The exceptional circumstances were that both
interest rates and house prices had fallen sharply and housing
markets were in crisis. Currently, markets have begun to
recover and borrowers with loans originated in the past 4 years
are much less vulnerable to market fluctuations with much lower
interest rates than those with precrisis loans and have
suffered relatively small house price declines or in some cases
benefited from appreciation. Government-aided refinance in this
environment risks investor alienation with long-run costs to
borrowers outweighing short term benefits. In short, there
appears to be no meaningful market-based obstacles to borrowers
who first obtained their mortgages after May 31, 2009, from
refinancing in the normal course.
Q.3. On Principal Reduction: As part of the Emergency Economic
Stabilization Act of 2008, Congress directed FHFA to ``maximize
assistance for homeowners'' and ``to minimize foreclosures,''
and it granted explicit authority to modify mortgage loans
through the ``reduction of loan principal.'' Given this
mandate, why has FHFA repeatedly decided against principal
reduction? Why wouldn't you at least consider this policy for
GSE portfolio loans?
A.3. FHFA has considered principal forgiveness in the context
of loan modifications several times. We conducted and publicly
posted thorough analyses that are available on the agency Web
site, and which showed small savings to taxpayers in comparison
to the significant cost of implementing a principal forgiveness
program. These analyses did not specifically target portfolio
loans versus those that were securitized. All of the Enterprise
delinquent loans are serviced by the same set of servicers who
would be expected to apply a new modification program in a
unique manner. That said, FHFA and the Enterprises have spent a
great deal of time developing standard loss mitigation
solutions to ensure consistency for all struggling homeowners.
A policy that provides a specific loss mitigation tool or
strategy for borrowers based on whether a loan is held in
portfolio or in a security creates disparate treatment based on
factors outside a borrower's control and would be complicated
for servicers to manage.
Separately, the Enterprises regularly forgive principal
indebtedness in the context of short sales and deeds-in-lieu of
foreclosure.
Q.4. One factor you have cited for your rejection of principal
reduction modifications was ``implementation costs,'' saying
the modifications would present ``operational challenges'' and
would be ``costly and time consuming to implement.'' Those are
germane managerial concerns, but can you provide Congress with
the documentation supporting this analysis? If I enquire with
GAO to substantially investigate the methodology used to come
to your conclusion, would you be able to provide them with this
documentation?
A.4. In conducting the latest analysis, FHFA took into
consideration: current loss mitigation tools; costs and
benefits of using principal forgiveness, including the economic
benefit or costs to the Enterprises as well as to taxpayers;
the impact on borrower behavior; direct and indirect
implementation costs; and, the overall impact on the mortgage
market. Included below is a link to the latest analysis
conducted by FHFA, as well as links to the analysis performed
by each of the Enterprises on the cost and time to implement
such a program.
www.fhfa.gov/Default.aspx?Page=403
www.fhfa.gov/webfiles/24107/PF_FannieMae71312.pdf
www.fhfa.gov/webfiles/24109/PF_FreddieMac73112.pdf
Q.5. On Forced Place Insurance: How and when does the FHFA
expect its ban on insurer to bank commissions to translate to
lower rates, since your plan only amends the current process?
Wouldn't Fannie Mae's plan that was denied by the FHFA a few
months ago, have done away with the issue by directly
contracting for the insurance itself?
A.5. On March 29, 2013, FHFA published a notice in the Federal
Register expressing the agency's reservation with these
practices and solicited public input to expand our
understanding. Forty-two comments were received on the notice
from a broad range of stakeholders. FHFA has reviewed these
comments and plans to take action by the end of the year. In
fact, Fannie Mae's proposal would not have done away with the
issue. One of the reasons that FHFA did not approve Fannie
Mae's plan is because Fannie Mae lacked the infrastructure to
execute that proposal.
It is important to understand that issues involving LPI
extend well beyond Fannie Mae and Freddie Mac. By taking a more
inclusive and comprehensive approach to these issues, FHFA
hopes to provide leadership in reaching a broader set of
solutions and best practices that may be adopted by other State
and Federal regulators and more broadly by market participants
than simply a Fannie Mae-only approach.
To address the concerns with LPI more broadly, in April,
FHFA convened a regulatory working group composed of various
Federal and State regulators. The working group recently met
with stakeholders to discuss concerns and possible solutions
about the force-placed insurance market. We are also exploring
whether the Enterprises' should have access to contractual
documents between the mortgage loan servicers and the force-
placed insurance carriers, which would provide a better
understanding of the various fees charged and paid and the
contractual relationships between the parties. These projects
are in their early stages and the regulatory working group is
expected to complete its tasks in the third quarter of 2013.
Q.6. Would banks still be able to accept free tracking of
services from insurers? As I understand it, insurers generally
monitor bank loan portfolios for both lapses in property
insurance coverage and other things, such as unpaid taxes--at a
considerable subsidy for the banks. How might you deal with
this issue?
A.6. FHFA is concerned that current industry practices may
include a number of inappropriate financial incentives based on
relationships between servicers and carriers that result in
excessive premiums being charged to the borrower or investor.
This issue is under discussion by the regulatory working group
and may be subject to data reporting requirements now under
development.
Q.7. It has been shown that within the bank-insurer business
loop; that sometimes banks own the mortgage insurers they
contract with, or reinsure them, potentially allowing them to
make even more money off of inflated insurance premium
commissions. What are you specifically doing about this? Why
hasn't there been greater scrutiny and demand from the FHFA for
more transparent insurance procurement and invoicing, something
we understand the GSEs currently have no say or ability to
manage?
A.7. FHFA is concerned that such reinsurance practices
involving conflicts of interest pose risks to the Enterprises
or run contrary to the duties of the conservator. Accordingly,
on March 29, 2013, FHFA published a notice in the Federal
Register expressing the agency's reservation with these
practices and solicited public input to expand our
understanding. Forty-two comments were received on the notice
from a broad range of stakeholders. FHFA has reviewed these
comments and plans to take action by the end of the year.
Q.8. What has the FHFA specifically done to concretely explore
other changes to force-placed insurance? Who is guiding that
process? When will they come up with conclusions?
A.8. As described above in response to other questions, FHFA is
taking a multipronged approach to addressing the issues
presented by LPI. The steps we are taking, led by our Office of
Housing and Regulatory Policy in the Division of Housing
Mission and Goals, include:
Assessing and analyzing the costs and risks
associated with LPI.
Establishing an interagency working group of
Federal financial institution regulators and State
insurance regulators to learn from each other's
experience on LPI and identify, align, and act on
needed reforms and protections for taxpayers and
borrowers.
Publishing a Federal Register Notice requesting
comments by May 28, 2013, on whether FHFA should direct
the Enterprises to cease reimbursing lenders for two
LPI practices, broker commissions and captive
reinsurance.
Reviewing of contracts between mortgage loan
servicers and LPI carriers, to better understand fees
charged and paid and the contractual relationships
between the parties.
FHFA expects to have conclusions and next steps from all of
these activities by the third quarter of this year.
Q.9. On State-Level Guarantee Fee Adjustments: Many servicers
and third-party law firms were allowed to robo-sign
foreclosures on GSE-guaranteed loans because they were being
inadequately overseen by the Enterprises, and, in turn, FHFA as
their regulator. Because these abuses occurred, many States
passed reasonable laws to crack down on fraud. Rather than
punishing new borrowers in these States by increasing g-fees,
wouldn't it make more sense for the Enterprises, under your
direction, to properly supervise servicers? If consumer
protections are not your end goal, which is an assertion I do
not support, but if they aren't--isn't it still your duty as a
conservator to work with State and Federal regulators to ensure
that consumer protections are adequately in place rather than
shouldering that burden on future borrowers without a full
review of the total costs versus benefits to taxpayers?
A.9. Serving consumer needs and providing appropriate consumer
protections are essential to well-functioning mortgage markets.
FHFA has required the Enterprises to take a lead role in
ensuring major changes in servicing standards and practice. For
example, FHFA and the Enterprises led the way in directing
servicers to stop taking foreclosure actions at the same time
that they were actively considering loan modifications and in
penalizing servicers that don't seek early modifications where
possible. We continue to work closely with other Federal
regulators to make the servicing process work better. We also
recognize that States have important roles and interests in
consumer protection and in foreclosure processes. In some
cases, the States make difficult decisions about what
protections make sense and work well, and what measures raise
costs without much corresponding benefit, as well as how much
money to spend on courts with crowded calendars.
Foreclosure costs vary widely across States. As credit risk
takers, the Enterprises incur those costs on the loans they own
or guarantee. Under conservatorship, those costs are passed on
to taxpayers unless the Enterprise prices reflect them. If the
fees are the same in all States, consumers in some States are
paying for the effects of laws and practices in other States.
And while poor servicing practices may contribute to costs in
all States, we have not seen evidence that servicing is
systematically worse in some States than others.
Q.10. Primary factors cited in FHFA's proposal as increasing
State foreclosure timelines are ``regulatory or judicial
actions,'' and ``legal and operational expenses.'' Yet your
Notice contained no analysis of whether the laws and ordinances
in place in various States are actually causing the longer
foreclosure timelines. What about the study and reduction in
fees where State and local laws actually reduce investor and
guarantor costs?
A.10. The fees discussed in the Notice are based on the actual
costs experienced by the Enterprises, mainly because of longer
foreclosure times. The fees were designed to offset unusually
high costs in States that exceed the nationwide norms by large
margins. They were not designed to target any particular
actions or practices, just to insulate consumers in most States
from the exceptional costs in a few other States. To put this
in perspective, consider that four States that together have 19
percent of Enterprise loans and 20 percent of loans with
relatively less serious delinquencies of between 30 and 89
days, have 52 percent of Enterprise loans delinquent more than
a year. Many of those extend to multiple years. Whatever the
particular configuration of consumer protection and investor
protection laws in those States, there is no denying that those
States are statistical outliers that are driving up credit
losses for Federal taxpayers.
Q.11. On the National Housing Trust Fund and GSE Profitability:
The National Housing Trust Fund was authorized by the Housing
and Economic Recovery Act of 2008 (HERA). The law called for
the Housing Trust Fund to be funded by contributions from the
Government sponsored enterprises (GSEs) Fannie Mae and Freddie
Mac. However, the GSEs went into conservatorship shortly after
the Trust Fund was authorized, and FHFA temporarily suspended
the contributions due to the financial conditions experienced
by the GSEs at the time. The GSEs have reported profits for
several consecutive quarters. Given this return to
profitability, will FHFA be directing the GSEs to start making
contributions to the National Housing Trust Fund? If not, why
not? Do you have the legal authority to continue suspending the
payments considering that the GSEs are now profitable?
A.11. The trust funds and other requirements of the Housing and
Economic Recovery Act contemplate action by FHFA in line with
all conservatorship policies. The conservatorship authorities
of the Act authorize extraordinary actions by the Director and
any activity undertaken under normal circumstances falls within
the ambit of the Director for modification, suspension or other
direction in line with the conservatorship goals and
obligations of the Director.
FHFA as conservator has plenary authority to make all
business decisions for each Enterprise, including whether to
fund the Housing Trust Fund and Capital Magnet Fund set asides.
Decisions of the Director as conservator not to set aside money
for the funds are consistent with the obligations of the
conservator to preserve and conserve enterprise assets, to
protect the investments of the taxpayers and to stabilize the
Enterprises and maintain their market presence.
The Enterprises are sustained only by the backstop provided
by the taxpayers pursuant to the Preferred Stock Purchase
Agreements with the Treasury Department. The Enterprises are
required, in exchange for the backstop that keeps them out of
receivership and operating as businesses, to pay to the
taxpayers, through the Treasury Department, a quarterly
dividend, initially computed as a percentage return on the
amount invested. The dividend requirement has never changed,
but because the computation of the dividend resulted in a
perverse circular pattern of requiring more investment just to
pay the dividend, the computation of the dividend changed. It
now is computed as all net worth reported quarterly. The new
method of computing the dividend payment is more in line with
traditional dividends--contingent on positive earnings and
determined by the amount of earnings. It does not change the
fundamental situation facing the Enterprise. Further, if an
Enterprise does not earn a profit or if an Enterprise suffers a
loss, no dividend will be paid for that quarter and a draw on
Treasury may be required.
The financial condition of the Enterprises remains poor and
a matter of ``critical concern.'' The statute governing the
trust funds provides for nonpayment when such a transfer would
lead an Enterprise to fall within the ``undercapitalized''
status. Today, both Enterprises will be ``critically
undercapitalized'' immediately following their next dividend
payments, a classification that would require receivership, and
each would be seriously insolvent without massive taxpayer
investments. Their current status is well below
undercapitalized, the statutory standard for suspension of
payments.
Conditions requiring conservatorship have continued and the
capital weakness is readily apparent by Enterprise dependency
on the taxpayers to avoid liquidation through receivership.
Suspension of the set asides is expressly anticipated in these
circumstances and the conservator's decision not to fund the
set asides is fully consistent with the Director's obligations
under the law. Because of the all of the above considerations,
no change in FHFA policy on the Trust Fund has been made.
Q.12. How might the forthcoming ``Jumpstart the GSE'' reform
bill being offered by my colleague Senator Corker, affect the
current Senior Preferred Stock Purchase Agreements with
Treasury? How does it affect any potential payments to the
Housing Trust Fund?
A.12. S.563, ``Jumpstart GSE Reform'', does not have any effect
on the current state of conservatorship or the terms of the
Preferred Stock Purchase Agreements (PSPAs). The bill will
ensure that the returns on investment that the taxpayers funded
through the PSPAs with each Enterprise continue to benefit the
taxpayers at least until and unless both the Legislative and
Executive branches agree on reform of the secondary housing
finance market and the role of Government support for that
market. It will also require that the reform debate include
discussion of whether and how to terminate the support provided
by that investment and the agreements.
This bill does not appear to have any effect on payments to
the Housing Trust Fund.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN
FROM EDWARD J. DEMARCO
Q.1. Since conservatorship began, the FHFA, Fannie Mae, and
Freddie Mac have proposed or implemented several policy
initiatives that could have short-term market implications and
longer-term implications for secondary market reform. As
conservator for Fannie Mae and Freddie Mac, and in light of
their market dominance, what steps are being taken to ensure
adequate transparency in the development and implementation of
major policy initiatives at FHFA, Fannie Mae, and Freddie Mac?
A.1. FHFA considers transparency and public input an important
element in developing policy that impacts the housing finance
system and the stakeholders within it. When considering major
policy initiatives, FHFA has made extensive use of industry
outreach and formal requests for public input through Federal
Register notices and other means. FHFA also meets with various
industry participants as it develops and deploys new policy
initiatives. For example, FHFA met with a large number of
market and Government entities in working towards its servicing
alignment initiative, in discussions around new mortgage
insurance standards to enhance the quality of such coverage,
and in developing a common securitization platform. FHFA
continues to reach out to industry participants in meetings at
the agency or at industry meetings to provide outlines of
agency directions and plans with community groups and other
interested parties.
FHFA also continues to make extensive use of Federal
Register publications to alert interested parties in actions it
anticipates taking. Through these notices, FHFA both explains
its direction and the rationales and provides an opportunity
for public input. By providing a clear direction, the public is
better able to focus its input, rather than seeing a general
set of options that might be considered. This improves the
nature and quality of public input and generates better
discussion of alternatives for agency consideration. Two major
examples have been a notice relating to proposed increases in
Enterprise guarantee fees and a notice on proposed actions
regarding lender placed insurance.
Finally, FHFA has used public communications to Congress
(letters, reports, testimonies), speeches, and public documents
such as the Strategic Plan for Enterprise Conservatorships, to
inform the public of the goals and priorities of the
conservatorships.
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RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY
FROM EDWARD J. DEMARCO
Q.1. Mr. DeMarco, one of the three pillars of the FHFA's
strategic plan and a large component of 2013 Conservatorship
Scorecard focuses on contracting the GSEs' dominant presence in
the market.
What progress have Fannie and Freddie made in meeting this
year's goals established in the Conservatorship Scorecard to
shrink their presence?
A.1. Both Enterprises are on track or exceeding the targets for
portfolio reduction that were accelerated by the amendments to
the Treasury agreement late last summer. Further, the
Enterprises have been working on deal structures and
contractual framework for multiple avenues of credit risk
transfer through the capital markets and insurance companies.
To increase transparency and facilitate market analysis both
Enterprises have released significant loan level historical
data that would be of use to prospective investors. We will
continue to monitor this activity closely and can provide an
update later in the year if you would like.
Q.2. The $30 billion target you set in the Conservatorship
Scorecard for risk-sharing of single-family guarantees is a
small amount compared to the overall holdings of Fannie and
Freddie.
What process do you hope this will initiate at the GSEs?
A.2. Currently, taxpayers bear the risk of default on roughly
90 percent of all new mortgages, with Fannie Mae and Freddie
Mac accounting for most of that amount. The risk-sharing
initiatives being undertaken at the Enterprises are designed to
explore mechanisms that transfer some of that risk to the
private sector. More experience with alternative transaction
types likely will make possible improvements in transaction
structures, while the private sector will be stimulated to
expand its capacity to absorb such risk.
Gradually, the Enterprises should be able to transfer
increasing portions of the credit risk away from taxpayers.
Q.3. What steps can be taken to ensure the risk-sharing
practices that are prevalent in the multifamily housing are
utilized in single-family housing?
A.3. Some of the mechanisms the Enterprises are exploring are
similar to those used in multifamily transactions, but they are
looking at others as well. The goal is to find those that work
best in the single-family market.
Q.4. How do you anticipate growing this $30 billion target for
next year?
A.4. With the experience gained this year, the Enterprises
should be able to make improvements in both the products they
offer and in their internal processes. Perhaps more
importantly, as financial markets and institutions become more
accustomed to such products, they will likely build capacity to
absorb them. We intend to expand beyond the $30 billion target
in 2014 but do not anticipate establishing those targets until
later this year, after we review our initial results.
Q.5. You intended for the unified securitization platform to be
built separately from the two companies so that it can utilized
by both the GSEs and the private sector. Historically, however,
the Government has a dismal track record in containing costs
for technological improvements.
What measures are being implemented to ensure the
development costs will be contained?
A.5. This project is not a Government technology project. We
are currently leveraging the Enterprises as the ``general
contractor'' on this project, and they in turn are using both
subject matter experts from within their firms and third party
specialist contractors to run the project. We are undertaking
careful monitoring of the project schedule, scope, and budget
to ensure it is executed successfully. In due course we plan to
house the technology project in a joint venture to further
ensure its independence, and it will operate as a ``private
sector'' firm but with Federal oversight.
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RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER
FROM EDWARD J. DEMARCO
Q.1. Mr. DeMarco, at the hearing you described to the Chairman
that the FHFA has developed a streamlined modification program
that does not require verification of employment or income. As
you know Senators Menendez and Boxer are considering
legislation to change FHFA's streamlined refinance program. Do
you believe eliminating the income and employment verification
for refinances makes sense also and please explain your
reasoning?
A.1. The streamlined modification program targets delinquent
borrowers (90 days or more). Servicers have learned from
experience that it is difficult to connect with homeowners that
far behind on payments to work out a modification. In these
cases, the current servicer already has borrower information,
including payment history. The servicer can send an offer for a
modification directly to the homeowner if he or she qualifies
for a streamlined modification.
In contrast, the Home Affordable Refinance Program (HARP)
is available only to homeowners who are current on their
mortgage and creates a brand new mortgage loan. HARP refinances
can be completed by the current servicer or any lender who
participates in the program (called cross-servicers).
I believe FHFA's recent changes to the HARP program have
addressed the concerns Senator Menendez has about cross-
servicer participation. Current HARP program data show more
cross-servicer participation in HARP than in traditional
refinances. To date, about 30 percent of HARP originations have
been cross-servicer transactions. During the same time period,
about 20 percent of non-HARP refinances were cross-servicer
transactions.
All servicers--current servicers and cross-servicers--have
the same requirements for income and employment verification.
Only the process differs. The current servicer has access to
borrower information in its own databases, including payment
history, and completes employment and income verification using
a verbal verification of employment. Cross-servicers do not
have access to the same information, so they must verify
employment and income with a pay stub. We believe it benefits
consumers to have lenders verify that a borrower does have some
income to make mortgage payments. If a borrower has no income
or assets he or she may be better served through a
modification.
More importantly, cross-servicers must have the borrower's
income to use Fannie Mae's or Freddie Mac's automated
underwriting systems (AUS), which simplify the loan origination
process but require an income figure. The AUS tools transmit
key eligibility data to cross-servicers, including: borrower
payment history, loan delivery date, property value, and
mortgage insurance coverage. Without the benefit of these AUS
tools, cross-servicers would be required to collect this
eligibility information elsewhere.
It would take at least 6 months of information technology
development time to modify the automated underwriting tools to
accommodate the changes the Menendez-Boxer bill would require.
Servicers will also have to receive clear information about
those new statutory requirements and implement the new system.
All of this would happen at a point in time when there is
tremendous momentum with the HARP program. I am very concerned
about impeding the substantial progress we are making through
HARP if the bill should pass, because I do not believe the
changes specified in the bill will increase the number of
people we can help.
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RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED
FROM STEVE A. LINICK
Q.1. There were several trends identified in your reports
relating to deficiencies at the FHFA, most of which appear to
fall within the category of the FHFA giving undue deference to
the Enterprises' decision making in a variety of areas. What
changes, if any, have been implemented by the FHFA that are
geared towards breaking the cycle of reliance on the
Enterprises' decision making? What additional changes need to
be made?
A.1. As I noted in my testimony, although the Agency has made
progress, throughout our body of work, we have identified
instances in which FHFA has displayed undue deference to
Enterprise decision making in its capacity as conservator. For
example, without adequately testing or validating data, FHFA
has at times deferred to the Enterprises regarding key matters
under the conservatorships, and we have concluded that some
matters are sufficiently important to warrant greater
involvement and scrutiny by the Agency.
In September 2012, we released a report that found that
FHFA can better accomplish its oversight mission by proactively
exerting greater control over its conservator approval process.
In that report we recommended that FHFA:
Revisit the nondelegated authorities to ensure that
significant Enterprise business decisions are sent to
the conservator for approval;
Guide the Enterprises to establish processes to
ensure that actions requiring conservator approval are
properly submitted for consideration;
Properly analyze, document, and support conservator
decisions; and
Confirm compliance by the Enterprises with
conservator decisions.
In response, FHFA reassessed and issued revised
nondelegated authorities, expanding the number and type of
actions that require conservatorship approval. FHFA also issued
revised conservatorship policies and procedures covering a
number of areas, including submitting items in a timely manner
to allow sufficient time for FHFA review, using Acting Director
recommendation memoranda to establish business case analyses
and substantiate decisions, and requiring notification of
material deviation from conservator decisions or important new
information. FHFA has work underway to implement the remaining
recommendations from the audit.
Overall, FHFA continues to make progress on a number of
specific recommendations from our body of work, including other
reports in which we have observed examples of undue deference.
In some cases, recommendations have already been closed as
completed, and in other cases, the Agency continues to work on
implementation. In general, though, we continue to encourage
FHFA to embrace more fully the philosophy behind our
recommendations, which is that as conservator the Agency should
engage in greater involvement with and scrutiny of matters that
go to the heart of the conservatorships.
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RESPONSES TO WRITTEN QUESTIONS OF
SENATOR MENENDEZ FROM STEVE A. LINICK
Q.1. On Forced Place Insurance: Fannie Mae recently approached
the FHFA with a well-researched and well-defined proposal for
taking over the solicitation and procurement of hazard
insurance on its portfolio properties. This proposal, on its
face, would have saved taxpayers and borrowers money while
protecting the property assets. On what basis was this proposal
rejected? How long did the FHFA consider this issue before
making its determination?
A.1. As Acting Director DeMarco noted in his testimony, FHFA is
currently working on a project to develop an aligned set of
standards for lender-placed insurance to address certain
practices. I would defer to Acting Director DeMarco to explain
FHFA's ongoing project, as well as the basis for rejecting
Fannie Mae's proposal and the consideration that went into
making that determination.
Q.2. On the Housing Trust Fund Payments From GSEs: To the
extent you are aware, can you discuss what your office has
found to be administrative or legislative roadblocks to meeting
the Section 1337 HERA requirements that the Housing Trust Fund
be funded from new business at Fannie and Freddie Mac?
A.2. At this time, we have not undertaken work related to the
housing trust fund, therefore I am unable to respond.
Q.3. The FHFA Director, outlined in Section 1337(b) of HERA, is
only allowed to temporarily suspend payments to the HTF if the
Director finds that three conditions are met: that the
contributions would undermine the financial stability of the
Enterprises, they would cause the Enterprises to be
undercapitalized, or would prevent the Enterprises from
completing a capital restoration plan.
Has your office explored this issue and if so, has it found
that payments to the HTF would violate these provisions? With
the Enterprises' financial support of the new Single
Securitization Platform, and their new found profitability--I
suspect that they wouldn't.
A.3. At this time, we have not undertaken work related to the
housing trust fund, therefore I am unable to respond.
Q.4. A report from your office on March 20th, 2013, that
analyzed the amendments to the Senior Preferred Stock Purchase
Agreements between Treasury and FHFA, claimed that ``the
changes to the PSPAs help to safeguard policy makers' options
to reform the role of the Enterprises in the Nation's secondary
mortgage market.'' Could you elaborate on that opinion?
A.4. As we noted in our report, the announcement of the 2012
PSPA Amendments emphasized three overarching themes: (1)
benefits to taxpayers; (2) the continued flow of mortgage
credit; and (3) winding down the Enterprises.
To some extent, the 2012 Amendments provide the mechanisms
to achieve these goals. For example, the replacement of the 10
percent dividend with the sweep of quarterly net worth may
result in more money being returned to Treasury and hence to
taxpayers. The elimination of the circularity of financing the
dividend also reduces the erosion of Treasury's remaining
commitment level, thus shoring up its reassurance to investors
and promoting the continued flow of mortgage credit.
Additionally, the 2012 Amendments accelerate the wind down
of the Enterprises' retained mortgage investment portfolios.
However, they do not wind down the Enterprises' securitization
business. Indeed, that side of their businesses may continue to
prosper, at least in the near term, as a result of improvements
in the mortgage markets and recent increases in guarantee fees.
Fundamentally, the 2012 Amendments position the Enterprises
to function in a holding pattern, awaiting major policy
decisions in the future. And because of that, policy makers
continue to have open options.
Q.5. On FHFA Commitment to Supporting Protection of Consumer
Laws: While from a purely legal basis, I can see the FHFA's
perspective that they are not regulator of consumer
protections, from a practical sense, they are part of the new
consumer regulatory nexus that has been spawned in part by the
Dodd-Frank Act. Can you describe your offices recommendations
to FHFA on oversight of consumer protection laws? How will they
work with the CFPB?
A.5. In our March 26, 2013, report on this matter, we found
that FHFA does not thoroughly oversee how the Enterprises
monitor counterparties' contractual compliance. Specifically,
FHFA does not examine how the Enterprises monitor compliance
with consumer protection laws, and, indeed, we determined that
the Enterprises do not ensure that their counterparties'
business practices follow all Federal and State laws and
regulations designed to protect consumers from unlawful
activities such as discrimination.
According to FHFA officials, the Agency relies upon other
Federal regulators who are responsible for enforcing laws that
protect mortgage borrowers. This reliance on other Federal
regulators, such as CFPB, without active coordination or
collaboration has meant that FHFA is not assured its interests
and obligations, such as ensuring Enterprise contractual
obligations are met by their sellers and servicers, are
necessarily being fulfilled and protected by the other
regulators. FHFA should become more involved in ensuring
compliance with consumer protection laws and regulations, not
to usurp the compliance and enforcement functions of CFPB and
other regulators, but rather to ensure that:
1. The Enterprises preserve and conserve assets by
exercising repurchase requests for nonperforming loans
that do not comply with all contractual provisions.
Both Enterprises have written selling and servicing
guides that their counterparties contractually commit
to follow. Among other things, the contractual
agreements and the guides require counterparties to
comply with all Federal and State laws and
regulations--including consumer protection statutes--
applicable to originating, selling, and servicing
mortgage loans. If the Enterprises discover that a
counterparty has not complied with any provision, then
they can require the original lender to repurchase
noncompliant loans, thereby mitigating credit losses.
However, unlike limits on repurchases related to other
forms of noncompliance, the Enterprises' authority to
request repurchase extends over the life of the loan
for violations of Federal, State, and local laws and
regulations.
2. The Enterprises have confidence that the loans they
bundle and sell as mortgage-backed securities do not
have defects. Currently, both Enterprises rely
primarily on counterparty self-certifications of
contractual compliance and do not review the loans they
buy at the time of purchase to assess whether
counterparties are complying with applicable laws and
regulations intended to protect consumers. Such
noncompliance can reduce the value of the securities to
investors.
3. Consumers are protected. FHFA has a statutory
responsibility--under the Housing and Economic Recovery
Act of 2008--to protect the public interest, which in
this instance is at least partially defined by Federal
and State consumer protection laws.
By becoming more involved at the beginning of the loan
origination process, particularly by confirming that the
Enterprises conduct appropriate quality assurance, FHFA can
ensure that the Enterprises are not accepting loans with
consumer protection defects. Therefore, we recommend that FHFA
develop and implement a risk-based plan to monitor the
Enterprises' oversight of their counterparties' compliance with
contractual representations and warranties, including those
related to Federal consumer protection laws. By ``risk-based,''
we mean the avoidance of duplication of Federal oversight
efforts and the implementation of cost-effective identification
of noncompliant loans. For example, an element of FHFA's plan
could include detailed agreements with other Federal
regulators, such as CFPB, delineating what roles FHFA and the
Enterprises will play in the identification of loans originated
in violation of consumer protection laws and how violations
will be communicated to the appropriate Federal regulator. The
Agency's role in fostering compliance with consumer protection
laws should complement that of other Federal regulators who
share responsibilities for oversight of the lenders and
servicers doing business with the Enterprises.
FHFA provided comments to our report stating the Agency is
committed to the fair treatment of consumers and agreeing with
our recommendation and stated that it would develop a specific
plan focused on the effectiveness of the Enterprises'
monitoring of the sellers' and servicers' compliance with
consumer protection laws under the existing contractual terms.
Q.6. On FHFA as a Steward of Taxpayer Funds When Acting as a
Conservator: Your written testimony recounts of how a review of
the FHFA's buyback policy on troubled loans, yielded weak
controls that could have materialized or will materialize into
around $2.2 to $3.4 billion. How is that reconciled with the
stringent actions the FHFA has taken in terms of issues such as
principal reductions that have routinely been characterized as
a vehicle toward taxpayer losses? Why hasn't this same
rationale been applied to internal management attitudes and
oversight over the GSEs? This level of overpayment on loans
could have funded the Housing Trust Fund for 2-3 years, so how
can the FHFA ignore its legal obligations to fund the Trust
Fund when it can ostensibly afford to just ``throw away''
billions of dollars due to weak internal controls?
A.6. In its capacity as conservator, FHFA has various tools at
its disposal to mitigate credit losses, thereby conserving and
preserving assets. Loan modifications represent a key method of
loss mitigation on troubled loans. Repurchase requests offer
another important means for the reduction of credit losses. If
a homeowner defaults on any loan that Fannie Mae or Freddie Mac
owns or guarantees, the Enterprise is obligated to absorb or
reimburse the unpaid balance of the mortgage. If, however, the
seller of the mortgage loan in question violated
representations and warranties provided to the Enterprise at
the time of the loan sale, then Fannie Mae or Freddie Mac has
the contractual right to demand that the loan seller buy back
or repurchase the mortgage loan. For determining whether
representations and warranties have been violated, Fannie Mae
and Freddie Mac examine some, but not all, mortgages they own
or guarantee once they have become seriously delinquent.
On September 27, 2011, we issued a report that highlighted
a potentially significant flaw in Freddie Mac's process for
reviewing defaulted loans for repurchase claims and noted that
the flaw could be costing Freddie Mac a significant amount of
money. Specifically, Freddie Mac's process primarily reviewed
only those loans defaulting in the first 2 years after
origination rather than in subsequent years--when many housing
boom loans defaulted. Subsequently, Freddie Mac expanded its
loan review methodology to look at additional years for
possible repurchase requests. In a subsequent report, we
estimated that the expanded loan review methodology could
result in an additional $2.2 to $3.4 billion in repurchase
requests, and we continue to monitor the matter.