When acting GSE regulator Ed DeMarco last week slammed the door on the idea of Fannie Mae and Freddie agreeing to principal writedowns on underwater mortgages he was predictably cheered by the GOP and lambasted by Democrats who once again called for his head.
But DeMarco also has received the quiet support of mortgage servicers and their advisors who fear that allowing principal writedowns on government backed-loans would open a Pandora’s Box of sorts that could affect the mortgage industry for years.
“Good for him for sticking to his guns,” said one trade group official who discussed the matter on the grounds his name not be published.
DeMarco, though, is not a political creature. Little is known about his party affiliations but he has consistently argued that his main goal is conserving the assets of Fannie and Freddie, which have been wards of the government for almost four years now.
Based on his public comments, DeMarco is not unsympathetic to the plight of underwater (but current) borrowers but there is no doubt in his mind that the adoption of a principal reduction program would spur a massive wave of strategic defaults by GSE mortgagors.
Treasury Department officials and private analysts suggested various ways to structure a targeted principal reduction program that would mitigate the risk of defaults. But so far, DeMarco has not been persuaded.
In a recent letter to Congress, he stressed that the reduction in foreclosure costs from principal reductions would total just $500 million under a “best case” scenario. “If only a very small portion of the enterprises’ currently underwater borrowers (3,000 to 19,000) strategically default to seek principal forgiveness, the HAMP PRA would result in a net loss to taxpayers,” even using the model-based assumptions favorable to the program, DeMarco says in his July 31 letter.
He also insisted that the Home Affordable Modification Program Principal Reduction Alternative would be costly and time consuming for the GSEs to launch. “Even when considering alternatives that might reduce the impact of strategic modifiers and simplify the operational issues, the general result was that the benefits would accrue to few homeowners and would not outweigh the significant costs and challenges to implement the program,” DeMarco said.
Still, Treasury secretary Timothy Geithner offered to pay for the additional administrative costs of implementing a principal reduction program, but DeMarco wouldn’t bite.
DeMarco’s decision was hardly a surprise. The GSE regulator has consistently contested the benefits of principal reductions. At the same time, he has always expressed concerns about Fannie and Freddie’s ability to implement the HAMP PRA program.
FHFA acknowledges that the HAMP PRA may be suitable for private lenders and investors. However, the two GSEs are in conservatorship and “pose unique issues,” DeMarco said.
Still, the FHFA has given Fannie and Freddie the green light to participate in a limited principal reduction program funded through Treasury’s Hardest Hit Fund program in California and Nevada.
Meanwhile, Treasury officials are examining an initiative that allows cities to use eminent domain to condemn loans in private-label securities, allowing underwater loans to be restructured via a principal reduction.
“There are a lot of complicated legal and policy questions” with regard to eminent domain, Geithner said publicly. “We are going to carefully look at those proposals and look at all the implications.” He may speed up that review after being rebuffed by DeMarco.
A few cities in California are considering the use of eminent domain to seize mortgages as a way to prevent foreclosures and blight. Chicago Mayor Rahm Emanuel also is reviewing the concept.