MBA, Trade Groups Urge FHFA to Use Caution on Changes to GSE UMBS Pooling Practices

The Mortgage Bankers Association, in a letter to Federal Housing Finance Agency Director Mark Calabria, urged caution on a proposed “waterfall approach” to pooling practices used by Fannie Mae and Freddie Mac in the Uniform Mortgage-Backed Security market, saying in its current form the proposal could have a “negative effect” on market liquidity, raise borrowing costs and reduce access to credit.

In a separate letter, MBA and a number of industry trade groups raised similar concerns, saying the FHFA Request for Input includes proposals “that could fundamentally change the [mortgage-backed securities] markets in ways that will have negative consequences for all of our members as well as for mortgage borrower,” and that such proposals should not be implemented.

The Jan. 21 letters come in response to a FHFA RFI issued earlier Nov. 4 offering proposals for pooling practices by Fannie Mae and Freddie Mac in the Uniform Mortgage-Backed Security market. The final rule implementing the UMBS, which was issued by FHFA in early 2019, provides authorities by which FHFA can both monitor alignment of cash flows and require changes in Enterprise policies or practices to address any notable misalignment.

Among the proposals in the RFI: a new “waterfall approach” for allocating loans to standardized multi-lender pools, specified pools, and special-purpose/single-lender pools; and an increase in the share of loan production that is delivered into multi-lender pools by virtue of incentives provided to, or requirements levied on, originators.

MBA Senior Vice President Residential Policy and Member Engagement Pete Mills noted MBA has consistently supported development of the UMBS and recognizes the many short- and long-term benefits that come from transitioning to the new system, including enabling a more efficient, resilient and liquid secondary mortgage market. However, he said if the “waterfall approach is implemented, it would significantly alter the structure of the UMBS market, with major implications for borrowers, lenders and investors.

“MBA believes the proposed changes are likely to have a negative effect on market liquidity and could thereby raise borrowing costs and reduce access to credit,” the letter said. “Further, it is not clear that there are problems or inefficiencies in the current market that provide justification for the scale of the proposed changes. MBA therefore strongly urges FHFA not to implement the proposal as envisioned in the RFI.

The letter notes the smooth initiation of the UMBS market presents an unlikely basis for the pooling changes proposed in the RFI. “Indeed, it is not immediately clear why a relatively well-functioning market warrants such substantial changes,” MBA said. “FHFA only notes that the Enterprises may undertake different pooling practices for their single-lender and multi-lender pools, which could lead to divergences in prepayment rates. This observation does not constitute sufficient justification for a major restructuring of a large market that is critically important to the health of broader financial markets and the global economy. Before FHFA moves forward on any elements of this proposal, MBA believes the Agency must provide a more thorough explanation of the problem it is seeking to address and a more robust justification for the merits of this particular solution.”

MBA also disagreed with FHFA’s contention that the proposal would result in pooling practices similar to those under the Ginnie Mae II program. “It is unclear, however, why FHFA would seek to replicate the Ginnie Mae model for the pooling practices of the Enterprises,” MBA said. “Both historical experience and current market conditions reveal that the conventional market has exhibited deeper liquidity over a sustained period, relative to the Ginnie Mae market. Differences in liquidity and market depth are partially attributable to factors other than pooling practices, but there is little evidence to suggest that the Ginnie Mae model would prove to be preferable to the conventional model.”

Additionally, MBA expressed concerne that the proposal “could weaken investor demand due to this restricted range of pool types. The significant diversity of investors in the conventional MBS market is the driver of the deep liquidity in this market. A diverse range of investors features a diverse range of preferences, and regulatory limits on pooling parameters could prevent the creation of pools that are demanded by certain investors.”

MBA said it supports establishing reasonable thresholds to determine when prepayment rates are outside of ranges found to be acceptable by FHFA and the Enterprises. It said FHFA and the Enterprises should also use measures referenced in the RFI that can be taken through existing authorities, including corrective actions with respect to individual loan officers, required repayment of premiums paid for loans, and limits on premium pricing. UMBS liquidity would be better protected through this type of targeted approach to addressing high prepayment rates rather than through wholesale changes to the market structure.

“While MBA understands and supports FHFA’s need to proactively respond to any future misalignment in prepayment rates across securities issued by the Enterprises, this proposal envisions large-scale changes to market structure when narrower remedies would likely achieve better results,” MBA said. “MBA encourages FHFA to reconsider any changes to existing pooling practices and instead take a more targeted approach to aligning prepayment rates that will not have a potentially negative effect on pooling options, market diversity, and product availability to borrowers.”

In a separate letter, MBA and other industry trade groups voiced similar concerns.   

“While the initial operational transition from separate forms of MBS issuance by Fannie Mae and Freddie Mac (the Enterprises) to the UMBS was relatively smooth, we believe there is room for improvement in TBA market liquidity and that fundamental misalignments that existed prior to the creation of the UMBS have not yet been sufficiently addressed,” the letter said. “Unfortunately, we do not believe that the proposals in the RFI will address these issues, and instead may worsen them.”

Specifically, the MBA/trade group letter said:

–The proposed approaches in the RFI will not improve the TBA Market and should be reconsidered. “The approaches detailed in the RFI will not result in enhanced liquidity in the TBA market, will diminish the specified pool and CMO markets, and will cause harm to virtually every market participant, leading to higher costs or reduced access to credit that will ultimately impact mortgage borrowers.”

–Ginnie Mae is not an appropriate model for conventional MBS markets.

–The proposal does not address underlying problems, such as similar bonds issued by the Enterprises do not necessarily trade at the same prices. “The proposal would only mask such problems, and it has the potential to create ever-larger pools of reduced quality in a ‘race to the bottom.’”

–Banning originators with fast prepayment rates presents challenges and requires greater detail. The RFI proposes that the Enterprises would exclude certain originators from TBA pools based upon prepayment performance. “We note that in today’s market, originators can be rewarded for producing pools desired by MBS investors, and this incentive provides a check on originator behavior. The proposal in the RFI would, at best, weaken this market mechanism.”

–Specific harms to market participants. The letter details how the RFI, in its current form, could impair TBA market functioning and liquidity for loan originators, investors, market makers and mortgage borrowers, who would bear the burden of reduced access to credit, “putting homeownership out of reach for many Americans.”

“We strongly urge FHFA to abandon the proposed mandate for a high share of loans to be securitized in multi-issuer pools,” the letter said.   

Joining MBA in the letter: the American Bankers Association; the Housing Policy Council; Independent Community Bankers of America; the National Association of Home Builders; NAREIT; the National Council of State Housing Agencies; and SIFMA.