WASHINGTON – The Federal Housing Finance Agency has opened the door to experimenting with front-end credit risk transfer transactions, but it is not wide enough for some market players.
Trade groups representing small mortgage lenders are concerned that their members will be shut out of front-end transactions and subject to pricing dictated by larger institutions.
"It isn't the kind of risk sharing that we have been advocating for," said David Stevens, president and chief executive of the Mortgage Bankers Association. "In order for risk transfers to actually work, we need a solution that is accessible and usable by all lenders large and small."
The FHFA issued a request for comment on Wednesday on whether and how to offer front-end risk transfers, in which a private mortgage insurance company or investor could bid on the credit risk of newly pooled loans. Fannie Mae and Freddie Mac have so far engaged only in back-end risk transfers, where the loans were closed and seasoned.
Many in the industry argue that front-end deals could help with pricing transparency and assist in housing finance reform.
But it's unclear where small lenders would fit into these deals. In the FHFA's request for comment, the agency acknowledges that small lenders would likely enter into collateralized recourse agreements, which would be difficult for them. The agency suggested that smaller lenders could participate in upfront credit risk transfers through loan aggregators.
But the MBA and other trade groups are concerned about that approach.
"Small lenders should be treated equally so they can do business with the government-sponsored enterprises directly," Stevens said. "That is something we want to continue pushing for."
The MBA wants the FHFA to experiment with deeper mortgage insurance so the small lenders can remain competitive in the marketplace.
The Community Home Lenders Association said it is also worried about the FHFA plan.
"CHLA has been warning for years about the significant risk that upfront risk sharing poses for the ability of small and midsized nonbank lenders to competitively securitize and originate GSE loans," said Scott Olson, the group’s executive director.
The group would accept upfront risk sharing done by mortgage insurance firms on a loan loss basis, "as long as there are protections such as a prohibition on volume discounts and a requirement to serve all seller-servicers," Olson said.
Small lenders currently benefit from a marketplace where they can sell loans directly to Fannie and Freddie and the government-sponsored enterprises cannot offer discounts on guarantee fees to large lenders. But that level playing field could change if risk-sharing transfers become the norm.
Front-end credit risk transactions would directly affect the pricing of newly pooled loans, and the FHFA wants to be sure their counterparties have the financial stability to meet their obligations when loans go bad.
The FHFA also wants a "level playing field so that any [guarantee-fee] concessions offered as part of a credit risk transaction will not favor large mortgage originators over small ones," an FHFA spokesperson said.
The FHFA issued a request for input that "explicitly included information and questions on how small lenders could participate in these kinds of programs in its request for input and looks forward to exploring the ideas submitted," the spokesperson added.
But the U.S. Mortgage Insurers argue that the FHFA is not giving them an avenue to participate in up-front credit risk transfers.
"The MI industry has taken substantial steps to be well positioned to provide more private capital in front of the GSEs' risk exposure with increased and enhanced capital and reliability standards," said Lindsey Johnson, the group's president and executive director.
The trade group points out that mortgage insurance companies have raised $9 billion in new capital since the financial crisis and are well positioned to raise additional capital.
"A strong case exists for expanding mortgage insurance coverage down to 50% of the value of the loan and doing it on the front end, before the risk ever reaches the GSEs' balance sheets, as part of the next phase of experimentation," Johnson said.
Amy DeBone, a policy analyst at Compass Point Research & Trading in Washington, expects the plan will ultimately prove a hard sell for mortgage insurance firms.
"The industry must clear a number of political and procedural hurdles before this opportunity becomes a reality, and any progress between the FHFA, GSEs and PMIs will be made at a measured pace," she said in a research note Friday.