[Federal Register Volume 73, Number 123 (Wednesday, June 25, 2008)]
[Rules and Regulations]
[Pages 35893-35896]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-13378]


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DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT

Office of Federal Housing Enterprise Oversight

12 CFR Part 1750

RIN 2550-AA38


Risk-Based Capital Regulation--Loss Severity Amendments

AGENCY: Office of Federal Housing Enterprise Oversight, HUD.

ACTION: Final rule.

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SUMMARY: The Office of Federal Housing Enterprise Oversight (OFHEO) is 
amending its regulations related to Risk-Based Capital (Risk-Based 
Capital Regulation) to enhance the transparency, sensitivity to risk, 
and accuracy of the calculation of the risk-based capital requirement 
for the Federal National Mortgage Association (Fannie Mae) and the 
Federal Home Loan Mortgage Corporation (Freddie Mac). OFHEO is amending 
the Risk-Based Capital Regulation by changing the current loss severity 
equations that understate losses on defaulted single-family 
conventional and government guaranteed loans and by changing the 
treatment of Federal Housing Administration insurance in the Risk-Based 
Capital Regulation to conform the treatment to current law.

DATES: Effective Date: June 25, 2008.

FOR FURTHER INFORMATION CONTACT: David A. Felt, Deputy General Counsel, 
telephone (202) 414-3750, or Jamie Schwing, Associate General Counsel, 
telephone (202) 414-3787 (not toll free numbers), Office of Federal 
Housing Enterprise Oversight, Fourth Floor, 1700 G Street, NW., 
Washington, DC 20552. The telephone number for the Telecommunications 
Device for the Deaf is (800) 877-8339.

SUPPLEMENTARY INFORMATION: 

Background

    Title XIII of the Housing and Community Development Act of 1992, 
Public Law 102-550, titled the Federal Housing Enterprises Financial 
Safety and Soundness Act of 1992 (Act) (12 U.S.C. 4501 et seq.), 
established OFHEO as an independent office within the Department of 
Housing and Urban Development to ensure that Fannie Mae and Freddie Mac 
(collectively the Enterprises) are adequately capitalized, operate 
safely and soundly, and comply with applicable laws, rules and 
regulations. The Act provides that the Director of OFHEO (Director) is 
authorized to make such determinations

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and take such actions as the Director determines necessary with respect 
to the issuance of regulations regarding, among other things, the 
required capital levels for the Enterprises. The Act further provides 
that the Director shall issue regulations establishing the risk-based 
capital test (Risk-Based Capital Regulation) and that the Risk-Based 
Capital Regulation, subject to certain confidentiality provisions, 
shall be sufficiently specific to permit an individual other than the 
Director to apply the risk-based capital test in the same manner as the 
Director.
    Pursuant to the Act, OFHEO published a final regulation setting 
forth a risk-based capital test which forms the basis for determining 
the risk-based capital requirement for each Enterprise. The Risk-Based 
Capital Regulation has been amended to incorporate corrective and 
technical amendments that enhance the transparency sensitivity to risk 
and accuracy of the calculation of the risk-based capital requirement.
    Consistent with the Act and OFHEO's commitment to review, update 
and enhance the Risk-Based Capital Regulation in order to ensure an 
accurate risk sensitive and transparent calculation of the risk-based 
capital requirement, OFHEO published a notice of proposed rulemaking 
(NPRM) to incorporate amendments to the Risk-Based Capital Regulation. 
Specifically, OFHEO proposed two changes to the Risk-Based Capital 
Regulation. The first change was proposed because certain loss severity 
equations resulted in the Enterprises recording profits instead of 
losses on foreclosed mortgages during the calculation of the risk-based 
capital requirement. The current loss severity equations overestimate 
Enterprise recoveries for defaulted government guaranteed and low loan-
to-value loans. The results generated by the current loss severity 
equations are not consistent with the Risk-Based Capital Regulation and 
result in significant reductions in the risk-based capital requirements 
for the Enterprises. The second change relates to the treatment of 
Federal Housing Administration insurance associated with single-family 
loans with a loan-to-value ratio below 78%. OFHEO proposed changes 
related to these loans that would make the Risk-Based Capital 
Regulation consistent with current law.
    The following table shows the estimated capital impact of all of 
the amendments at September 30 and December 31, 2006.

                                Table 1.--Estimated Capital Impact of Amendments
                                              [Billions of dollars]
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                                                                                  RBC requirement
                                                                 -----------------------------------------------
                                                  Interest rate                       Current
                                    Quarter          scenario         Current       regulation
                                                                    regulation    with  proposed     Change *
                                                                                     amendments
----------------------------------------------------------------------------------------------------------------
Fannie Mae...................  2006 3Q.........  Up-Rate........           $22.5           $32.0            $9.5
                                                 Down-Rate......            16.4            25.1             8.6
                               2006 4Q.........  Up-Rate........            26.9            36.6             9.8
                                                 Down-Rate......             9.1            16.6             7.5
Freddie Mac..................  2006 3Q.........  Up-Rate........            14.9            19.4             4.5
                                                 Down-Rate......            13.8            18.2             4.4
                               2006 4Q.........  Up-Rate........            15.3            20.7             5.4
                                                 Down-Rate......            12.9            17.5             4.5
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* Figures may not sum precisely due to rounding.

    The amendments substantially increase the RBC Requirement in both 
the up and down interest rate scenarios for both Enterprises for the 
two quarters analyzed. However, if the amendments had been in effect 
during the analyzed periods, total capital would have exceeded the RBC 
Requirement and the capital classifications of the Enterprises would 
not have changed.
    The 90-day comment period ended March 4, 2008. All comments 
received have been made available to the public in the OFHEO Public 
Reading Room and have also been posted on the OFHEO Web site at http://www.OFHEO.gov.

Comments Received

    Comments were received from the American Bankers Association (ABA), 
Fannie Mae, Freddie Mac, the National Association of Homebuilders 
(NAHB), and the Mortgage Insurance Companies of America (MICA). All 
comments were taken into consideration. Significant comments related to 
the proposed regulation are discussed below.

Purpose and Scope

    Fannie Mae commented that the proposed amendments fail to recognize 
properly its experience during times of credit stress. In support of 
this statement, Fannie Mae presented data on mortgage defaults that 
occurred between 1992 and 2006 when home prices declined more than 15% 
between origination and foreclosure. Within this population of loans, 
Fannie Mae realized a gain on 20% of the loans with an LTV of 60 
percent or less and also realized a gain on six percent of the loans 
with high levels of third party mortgage insurance.
    OFHEO does not find that the comment and data presented by Fannie 
Mae support a change in OFHEO's proposed amendment to the Risk-Based 
Capital Regulation. While gains on defaults of individual loans are 
possible and have occurred in the historical data, the risk-based 
capital stress test simulates the average behavior of groups of similar 
loans, rather than that of individual loans. From that perspective the 
data presented by Fannie Mae bolsters the OFHEO proposal to restrict 
negative losses. The data from Fannie Mae show that 80% of defaulted 
loans with an LTV below 60 percent result in a loss and 94% of 
defaulted loans with high levels of mortgage insurance result in a 
loss. Although Fannie Mae did not provide the average gain or loss for 
these populations, it is unlikely that there was an average gain, given 
the small percentages of loans with gains.
    Fannie Mae also commented that the proposed amendments, by not 
fully recognizing the Enterprises' loss mitigation practices, do not 
provide the proper incentive to the Enterprises to engage in those 
practices. The ABA and the NAHB also raised concerns that the risk-
based capital stress test might not fully recognize the benefits of the 
Enterprises' loss mitigation practices.

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OFHEO expects that only rarely, if at all, would the risk-based capital 
stress test limit the representation of benefits of the Enterprises' 
loss mitigation practices. This expectation is consistent with the data 
on loans with high levels of mortgage insurance that Fannie Mae 
presented in its comment, which showed a gain on only six percent of 
those loans. OFHEO also acknowledges that the risk-based capital stress 
test does not capture every detail of the risks and the risk mitigation 
strategies of the Enterprises, since, of necessity, it is a stylized 
representation of the financial operations and statements of the 
Enterprises. As such, the risk-based capital stress test reflects 
numerous accommodations across the dimensions of accuracy, complexity, 
transparency, operational workability, and regulatory caution. OFHEO 
will continue to review the RBC Stress Test Model and will propose 
enhancements where appropriate. This final amendment is a marked 
improvement over the prior approach.
    Freddie Mac and MICA commented in favor of all of the proposed 
amendments. In addition to its comments on the proposed amendments, 
MICA raised additional concerns that were beyond the scope of the 
current rulemaking. MICA expressed concern that the current Risk-Based 
Capital Regulation allowed the cross-subsidization of interest-rate and 
credit risk, thereby allowing the Enterprises to hold an insufficient 
amount of capital against either risk. MICA also commented that OFHEO 
should revise the Risk-Based Capital Regulation to apply the regulation 
on a combined loan-to-value ratio of an Enterprise's position and to 
develop measures of credit risk that distinguish subprime and non-
traditional mortgage structures from less-risky ones. Although these 
comments are beyond the scope of the current rulemaking, OFHEO 
nevertheless welcomes MICA's suggestions for possible future rulemaking 
topics.
    OFHEO has taken into consideration all of the comments submitted in 
connection with this rulemaking, and for the reasons discussed above, 
OFHEO has determined to issue the amendments as proposed.

Regulatory Impacts

Executive Order 12866, Regulatory Planning and Review

    The amendments incorporate changes to the loss severity equations 
used to calculate the risk-based capital requirement as well as changes 
to the treatment of Federal Housing Administration insurance in the 
Risk-Based Capital Regulation in order to conform to current law. The 
amendments to the Risk-Based Capital Regulation are not classified as 
an economically significant rule under Executive Order 12866 because 
they do not result in an annual effect on the economy of $100 million 
or more or a major increase in costs or prices for consumers, 
individual industries, Federal, state or local government agencies, or 
geographic regions; or have significant adverse effects on competition, 
employment, investment, productivity, innovation, or on the ability of 
United States-based enterprises to compete with foreign-based 
enterprises in foreign or domestic markets. Accordingly, no regulatory 
impact assessment is required. Nevertheless, the amendments were 
submitted to the Office of Management and Budget (OMB) for review under 
the provisions of Executive Order 12866 as a significant regulatory 
action.

Executive Order 13132, Federalism

    Executive Order 13132 requires that Executive departments and 
agencies identify regulatory actions that have significant federalism 
implications. A regulation has federalism implications if it has 
substantial direct effects on the states, on the relationship or 
distribution of power between the Federal Government and the states, or 
the distribution of power and responsibilities among various levels of 
government. The Enterprises are federally chartered entities supervised 
by OFHEO. The amendments to the Risk-Based Capital Regulation address 
matters which the Enterprises must comply with for Federal regulatory 
purposes. The amendments to the Risk-Based Capital Regulation address 
matters regarding the risk-based capital calculation for the 
Enterprises and therefore do not affect in any manner the powers and 
authorities of any state with respect to the Enterprises or alter the 
distribution of power and responsibilities between Federal and state 
levels of government. Therefore OFHEO has determined that the 
amendments to the Risk-Based Capital Regulation have no federalism 
implications that warrant preparation of a Federalism Assessment in 
accordance with Executive Order 13132.

Paperwork Reduction Act

    The amendments do not contain any information collection 
requirements that require the approval of OMB under the Paperwork 
Reduction Act (44 U.S.C. 3501 et seq.).

Regulatory Flexibility Act

    The Regulatory Flexibility Act (5 U.S.C. 601 et seq.) requires that 
a regulation that has a significant economic impact on a substantial 
number of small entities, small businesses, or small organizations must 
include an initial regulatory flexibility analysis describing the 
regulation's impact on small entities. Such an analysis need not be 
undertaken if the agency has certified that the regulation does not 
have a significant economic impact on a substantial number of small 
entities 5 U.S.C. 605(b). OFHEO has considered the impact of the 
amendments to the Risk-Based Capital Regulation under the Regulatory 
Flexibility Act. The General Counsel of OFHEO certifies that the 
amendments to the Risk-Based Capital Regulation are not likely to have 
a significant impact on a substantial number of small business entities 
because the regulation is applicable only to the Enterprises, which are 
not small entities for the purposes of the Regulatory Flexibility Act.

List of Subjects in 12 CFR Part 1750

    Capital classification, Mortgages, Risk-based capital.

0
Accordingly, for the reasons stated in the preamble, OFHEO is amending 
12 CFR part 1750 as follows:

PART 1750--CAPITAL

0
1. The authority citation for part 1750 continues to read as follows:

    Authority: 12 U.S.C. 4513, 4514, 4611, 4612, 4614, 4618.


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2. Amend Appendix A to subpart B of part 1750 as follows:
0
a. In paragraph 3.6.3.6.4.3[a]1, under the explanation ``Where: m' = m, 
except for counterparties rated below BBB, where m' = 120'', revise the 
equation;
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b. In paragraph 3.6.3.6.5.1[a] revise equation;
0
c. In paragraph 3.6.3.6.5.1[b]2 revise equation.

Appendix A to Subpart B of Part 1750--Risk-Based Capital Text 
Methodology and Specifications

* * * * *
    3.6.3.6.4.3 * * *
    [a] * * *
    1. * * *

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    3.6.3.6.5.1 * * *
    [a] * * *






    [GRAPHIC] [TIFF OMITTED] TR25JN08.001
    
    [b] * * *
    2. * * *


    [GRAPHIC] [TIFF OMITTED] TR25JN08.002
    
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    Dated: June 10, 2008.
James B. Lockhart III,
Director, Office of Federal Housing Enterprise Oversight.
[FR Doc. E8-13378 Filed 6-24-08; 8:45 am]
BILLING CODE 4220-01-P