WASHINGTON — The Federal Housing Finance Agency is about to take the biggest step to date toward reforming Fannie Mae and Freddie Mac by combining the two mortgage giants' securities platforms. But questions remain about how the uniform system will work in the practice.
The two companies on Monday will issue a single security through a shared vehicle, the second and final phase of a process planned since 2012. Freddie initially issued the security in 2016, but the common securitization platform will now include both of the government-sponsored enterprises.
Backers say a uniform securitization structure will increase liquidity and encourage market participation, and that the new platform is a key component in preparing for future broader GSE reforms and for Fannie and Freddie's eventual release from federal conservatorships.
Yet skeptics note that Fannie's securities have historically had greater appeal for investors, with more liquidity and more favorable payment schedules. They say it is a gamble to force the market to treat them the same.
“It’s hard to see how a blended pool would result in anything other than Fannie essentially subsidizing Freddie,” said Joshua Rosner, the managing director of Graham Fisher & Co.
While the Uniform Mortgage-Backed Security likely represents a bigger change for Freddie than Fannie, FHFA argues that blending their platforms will increase competition and ease transition to a future system, in which the two companies either will no longer exist or will compete against other market participants.
“This is a way for the taxpayer to realize some value from the massive investment the taxpayer had already made in Fannie and Freddie, and would need to make if we were going to build this platform, so this was really about creating a go-forward infrastructure the market could build on,” said Ed DeMarco, the president of the Housing Policy Council, at an Urban Institute event on May 28.
DeMarco introduced the idea of the common securitization platform in 2012, while serving as acting FHFA director.
The single security will lower barriers to entry for new competitors to Fannie and Freddie, the agency has said. The FHFA required from the outset that the tool be developed in a way that would allow future market participants to utilize the platform.
“It’s a function that really makes sense for Fannie and Freddie to pool their resources in terms of that securitization infrastructure, rather than each of them investing separately,” said Mike Fratantoni, the chief economist at the Mortgage Bankers Association. “It made sense to make that investment once and build a utility that both Fannie and Freddie and potential future entrants could use rather than repeat that investment across multiple different enterprises.”
The launch of the single security comes as the Trump administration is said to be readying a broader blueprint for how Fannie and Freddie could be reformed and eventually released from conservatorship, either through legislation or administratively. One looming legislative proposal would convert Fannie and Freddie into private guarantors that compete with other market participants.
In finalizing the unified MBS plan, FHFA has worked to align Fannie and Freddie's prepayment speeds and payment schedules. But even though the idea is for securities issued by the two firms to be treated the same, investors could still try to deduce which securities in a blended pool are Fannie's.
"As we know, Fannie and Freddie have two different execution prices, with Freddie’s [securities] trading at a discount to Fannie’s,” said Rosner.
Fannie acknowledged the risk of losing a market advantage to Freddie in disclosure documents for its securities — or “Supers certificates” — released in May.
“If investors prefer Freddie Mac UMBS or Supers certificates over Fannie Mae UMBS or Supers certificates, our competitive position with regard to the acquisition of single-family mortgage loans and the volume of our single-family guaranty business could be adversely affected,” Fannie Mae said in a prospectus.
Fratantoni said the introduction of any new tool comes with tradeoffs, but he does not expect the majority of investors to prefer one company's securities over another.
“Some investors will for whatever reason may want to specify or stipulate that they want one agency versus the other, but I expect that on the whole that the ... execution [of trades in the To Be Announced market] is going to remain very robust and that won’t be offset by too much specified trading,” he said.
In the short term, after the common securitization platform launches, all eyes will be on how the MBS market makes the initial transition. FHFA has prepared for years in the hopes that that transition does not disrupt the country’s housing finance infrastructure.
“From a mortgage lender standpoint, this has been very seamless, and that’s really what Fannie and Freddie had really promised to the market all along, that for lenders selling their loans to either agency or servicers, sending those payments on to either agency, this was going to be a seamless process and it certainly has been thus far,” said Fratantoni.
But questions also remain about how other potential housing finance reforms would affect the operation of the common securitization platform, including whether the FHFA ultimately moves to release Fannie and Freddie from conservatorship without Congress enacting more fundamental GSE changes.
“If you see the administration begin to map out a pretty granular set of steps to get them out of conservatorship, it'll be worth watching both how they think about what happens to the CSP through that transition, and what steps they take along the way that would enable meaningful competition,” said Parrott.
Rosner said he does not see how the common securitization platform would work outside of conservatorship without a legislative fix to combat potential antitrust violations.
"On the one hand you say you want competition,” he said. “On the other hand you're trying to create uniformity and thus some degree of procyclicality between those companies, which I find a little bit troubling.”
He added that a co-mingling of the GSEs’ securities heightened risk just before the subprime mortgage crisis.
“It’s important to remember that part of the problem, in the lead-up to the crisis, was Fannie and Freddie buying each other's securities so they functionally became responsible to and for each other's future and existence," Rosner said.
DeMarco noted that the platform was designed so that it could be altered to fit within a future GSE reform structure.
“What we conceived was to set up this common securitization platform as a jointly owned subsidiary of Fannie and Freddie so they were both directly participating,” said DeMarco during Tuesday’s panel. “But we were quite clear from the beginning— our vision was that this would ultimately become either a market utility or something Congress could dispose of in the process of housing finance reform.”
Lawmakers also have the option of building different operations into the platform, said Parrott.
“It offers the possibility for policymakers to build on it over time, add functionality to it and possibly even add other users in a way that ultimately will make it a kind of central clearing house for the mortgage market generally,” he said.
Regardless of what happens long term, the new platform will benefit the housing finance system in the short term, Parrott added. “Even if it only does what it's going to be doing as of next week, assuming it does it well, then it'll be a positive for the system we have today."
