At yesterday's American Securitization Forum Sunset Seminar on the future of mortgage finance, panelists warned that if GSEs are withdrawn at this time, the housing market  will continue its downward spiral.

Chris Flanagan, head of U.S. mortgage and structured finance research at Bank of America Merrill Lynch, said that the drastic removal of government support will be "very dangerous for the housing market." This is considering too the continued decline in mortgage balances, the tightening of mortgage credit and the shift to whole loans.

“What’s happening with home prices is the big elephant in the room,” he said. And without the GSEs  the question has to be asked “where the source of credit will be — it’s very unclear to me who,” he stated.

Aside from being a significant source of funding, investors also like the liquidity that agency securities bring.

Nancy Mueller Handal, managing director at Metropolitan Life Insurance Co., said that from an investor’s perspective, they are interested in purchasing securities that are highly liquid such as agency MBS and Treasurys.

Non-agencies, she said, have very little trading going on so they “learned to bifurcate" their investments. Most institutional investors use agency MBS as a liquidity trade, Mueller Handal stated.

She added that non-agencies are not fungible in the same way as their agency counterparts and the loans in the private-label mortgage market have the “propensity to have second liens.”

With private label MBS, she said that investors haven't seen much reform in terms of the alignment of interest between the investor and servicer.

For example, in terms of second liens, there is the well-documented fact that servicers perform functions to the detriment of first liens. There is also the problem of adverse collateral selection. 

There has to be some way, she said, to give investors access to deal documents so that they can exercise their rights under the reps and warranties. She also said that she would like to  have a third party review delinquencies in new securitizations other than servicers.

Aside from servicing problems that need to be addressed, Martin Hughes, president of Redwood Trust, said that the rating agencies still don’t have uniform requirements for the deal process particularly in terms of originators and servicers. When they were putting together the Redwood Trust deals the firm tried to “get one list together” so they can address the different agencies’ requirements in an orderly manner.

Mueller Handal said that for her part as an investor she would like a more common language in ratings so that investors would know that a triple-A is a triple-A. This consistency also allows securities to become more fungible.

Stark said that there are no problems bringing mortgage deals to market, but the problem lies in getting and selling bonds, which can be an “arduous process.”

“Everyone needs some form of protection,” Stark said. “No one is not being sued.” He agrees that there should be a common language among parties in the deal.

Having these rules, however, will take time. Providing more loan files and having a third party asses deals are also going to cost more money, which ultimately will fall on the borrower to pay, he said

QRM Discussion

Panelists also discussed  the issue of the qualified residential mortgage (QRM).

Peter Wallison, co-director of the American Enterprise Institute’s (AEI) financial policy studies, said that the QRM was designed to limit the number of people eligible to buy a house. However, as a result Fannie Mae, Freddie Mac and the Federal Housing Administration were had to “dumb down” or reduce the quality of the mortgages in their programs so that more people can be made homeowners.

Mueller Handal, on the other hand, said that Fannie Mae and Freddie Mac already retain 100% of the risk so they don’t have to be subject to the QRM requirements. Additionally, these agencies can right size the risk through loan-level price adjustments or LLPAs and guaranty fees.

Argument for PLS

Hughes argued that, despite the difficulties already mentioned, the private label securitization market needs to start even in just tiny increments.

However, it is obvious that things are not the same. Ryan Stark, a director at Deutsche Bank Securities, said that the apparatus that supported the private label market at its zenith is very different from what it is now. The current apparatus, he said, will be unable to support that kind of volume.

Flanagan said that 2005-2006 was the "high-water year for private label" where the government share dropped dramatically.

Wallison reiterated AEI’s proposal to develop a private-label market based on private mortgage insurance where borrowers, for instance, who have an 80% LTV with the insurance are able to get to a 60% LTV. He said that these can price only 25 to 40 basis points above FNMAs.

However, participants said that the problem with this type of product is remains to be the lack of liquidity.

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