No Easy Fixes for Secondary Market Barriers

NEW YORK–Eight years later, the real estate finance industry is still dealing with thousands of pages of regulations and legislative “fixes” stemming from the financial crisis.

“It keeps coming,” said Steve O’Connor, Mortgage Bankers Association senior vice president of public policy and industry relations, “and it doesn’t show signs of stopping.”

Paul Miller, managing director and head of financial services and real estate research with FBR Capital Markets & Co., Arlington, Va., said residual anger still exists on both the political and consumer side toward the real estate finance industry.

“There is still belief that the industry ran ‘rogue’ during the financial crisis, so I think the regulatory environment is going to continue, regardless of what its impact might be on the economy. I don’t see it changing anytime soon,” Miller said here at the MBA National Secondary Market Conference & Expo.

Christopher Whalen, senior managing director and head of research with Kroll Bond Ratings Agency, New York, said Congress believes it can legislate remedies. “But in many cases, it’s just not possible,” he said. “We have the [Consumer Financial Protection Bureau], which is like the Spanish Inquisition; or it’s like Game of Thrones, with the High Sparrow. ‘You have sinned, so you must atone by walking naked through the streets’…We are living in period of punishment, and even though the punishment isn’t working, they don’t care.”

Peter Carroll, executive vice president of mortgage policy and counterparty relations with Quicken Loans Inc., Detroit, said the notion that banks are still evil remains prevalent. “We talk about access to credit and responsible lending and there are two options: the FHA problem, which has its own problems; and the GSE programs, which are the more functional programs that provide some direction for us. But the private markets are still dead…we need to have vibrant, robust capital markets. It’s going to start with the jumbo markets, which don’t rely on government capital, and from there we can expand back into the conforming markets.”

Jaret Seiberg, managing director and financial services policy analyst with Guggenheim Securities LLC, New York, said the focus must remain on the Dodd-Frank Act. “At the end of the day, the Justice Department is focusing on Dodd-Frank,” he said. “We are seeing threats of litigation for the False Claims Act and other rules that are keeping the lid on access to credit.”

So, how does the marketplace return to a balance of private capital and government backing? “It’s not an easy proposition; I don’t see it changing anytime soon,” Seiberg said. “Right now, we can’t price these products right.”

“Until we get Fannie and Freddie out of the role of insurer, we can’t compete against them,” Whalen said. “They have to get out of the way of banks.”

“The GSEs have always been the core of the market,” Carroll said. “FHA was nowhere near as big as it is now. Private capital has always been about the jumbo lending and the non-conforming markets. Until we start getting private capital in scale back into the market, we’re not going to see equilibrium.”

“We did have a strong private capital market in 2004, 2005, 2006, with Fannie and Freddie serving as the traffic cop,” Miller said. “Up until that point, Fannie and Freddie controlled the market.”

“That was an abnormal time,” Whalen said. “It was the only time that the private markets pushed the GSEs out of the way.”

Then there is FHA. “I think there is a good part of the FICO market, 680-725, that is part of the FHA market right now that shouldn’t be. If we can get some private lending into that range, then I think we can have a more competitive marketplace.”

“The GSEs are like dinosaurs; they will fight over a piece of meat,” Whalen said. “FHA is the only place to take those [lower FICO score] borrowers right now…there is a lack of rationality in the discussion in Washington. We have a lot of smart people in Washington, but they are not being rational.”

Seiberg said the industry also struggles with how to get other investors into the mix. “It’s not a broad enough conversation at this point,” he said.

“Credit is being rationed by the big banks,” Miller said. “Dodd-Frank essentially criminalized foreclosures; as a result, the big banks said they aren’t going to service bad loans anymore. So now they only service loans that have a 700 credit score or above, which don’t result in foreclosure. Now the politicians are complaining that nobody with a credit score under 600 can get a home loan.”

“The banks have also seen that it’s much less risky to retain their loans and service them, rather than securitize and sell them,” Whalen said. “That is being driven by regulatory risk.”

What should be done? Should FHA lower its mortgage insurance premiums? Should the Federal Housing Finance Agency eliminate the GSEs’ guaranty fees?

“There’s a strong political argument to be made in cutting the FHA mortgage insurance premiums this fall,” Seiberg said. “It shifts more volume to FHA and signals to first-time borrowers that they have nothing to fear and might get some borrowers off the sidelines.”

As for the GSEs, “there’s no incentive for the government to change the system right now,” Seiberg said. “By holding them in conservatorship and siphoning off their profits, they are essentially generating a tax for the Treasury.”

“I don’t think Fannie or Freddie will ever be able to build up capital again,” Miller said.

What about GSE reform? “There is no consensus at all on GSE reform-zero,” Miller said. “And you also have this stock on which people are speculating. No one is going back to their constituents to say how GSE reform benefits them; we are stuck with the conservatorship for decades to come.”

“In my years with government, I learned that if there’s consensus, there’s a shot; if there’s any lack of consensus, it’s dead,” Carroll said. “Unless you come up with a credible framework that gets the entire spectrum of Washington aligned, you’re not going to see GSE reform any time soon.”

Seiberg took a different perspective. “I see FHA as a driver of change; and if the Common Securitization Platform takes hold, then you have a chance,” he said. “I think there will be progress on the ground. If you look at the example of the Glass-Steagel Act, which was unwound over time, then you see a template.”

“A draw [by the GSEs from the Treasury] could put one or both GSEs into receivership,” Whalen said. “As the banks exit and their willingness to only underwrite pristine mortgage persists, there is going to be pressure to change the current structure…now that the distressed opportunity is over, the pressure could be on to get something done.”

On the CFPB: “We’re at risk of an imbalance forming,” said Carroll, who used to work at the the agency. “There’s not enough emphasis on making sure the markets are running efficiently. I am less concerned about consumer protection and more concerned about access to credit. Given how large this market is, it’s worth the effort to make sure that the market is running correctly.”

“The only assets that underwriters want to see are the ones that pass with flying colors; they don’t want to see anything that doesn’t fit in the box,” Whalen said. “That means the community banks and even the online lenders. That would be a nightmare. But there is clearly demand; everyone is talking about mortgages.”

“Look at the Ocwen situation,” Miller said. “A small group of non-elected officials essentially told one of the world’s largest mortgage servicers that it cannot foreclose on 17,000 loans…they have clearly overstepped their bounds.” He added that the CFPB has “created a volatile lending environment in which everyone has a target on their back.”

Changing consumer perceptions won’t happen overnight, Seiberg said. “Let’s bring the American Dream of Homeownership back and not be afraid to say it.”

“People want to become homeowners,” Whalen added.