Fitch: GSEs Likely to Have High Ratings Post-Reform
If–and when–housing finance reform eventually becomes effective, the resulting entities that securitize and/or guarantee U.S. mortgages will be appropriately capitalized, have ample access to capital markets and be regulated such that high investment-grade ratings will likely be warranted, said Fitch Ratings, New York.
The report, U.S. Housing Finance (Potential Paths of Reform for Fannie Mae and Freddie Mac), said legacy government-sponsored enterprise corporate securities will likely continue to benefit from either indirect or explicit support from the U.S. government.
“The timing and scope of prospective reform remains unclear,” Fitch said. “The U.S. government is unlikely to vacate its role of supporting the residential mortgage market given how entrenched Fannie Mae and Freddie Mac remain in housing finance and the importance of the 30-year mortgage to the U.S. housing market.”
Fitch noted currently, the GSEs’ ratings are directly linked to the U.S. sovereign rating, benefiting from the implicit guarantee and meaningful financial support of the U.S. government. Key to ongoing ratings support is the U.S. Treasury’s guarantee to inject funds into the GSEs to avoid being considered technically insolvent by the Federal Housing Financial Agency.
The report also noted in December, FHFA and Treasury agreed to allow the GSEs to retain a $3 billion capital reserve under their respective senior preferred stock purchase agreements, which has potentially limited the urgency for near-term housing finance reform. “This, along with improved credit and earnings performance and disagreements over future GSE structures, has prolonged the status quo,” Fitch said. “The $3 billion reserve should be sufficient to cover income volatility during the normal course of business, as seen when interest-rate volatility results in valuation adjustments within the GSEs’ derivative portfolios.”
In the absence of congressional action, FHFA has made multiple efforts to reduce taxpayer exposure to the housing GSEs by promoting increased private-market participation. For instance, private-market participation has been substantially increased through the credit risk transfer market, under which the GSEs have transferred a portion of credit risk on nearly $2 trillion of unpaid principal balances. Other FHFA reforms include the common securitization platform, currently used for all of Freddie Mac’s existing single-family, fixed-rate securitizations, which Fannie Mae will begin using in 2019.
“These efforts have resulted in the housing GSEs having very different business models and risk profiles than they did leading up to the financial crisis and are also likely a reason for why reform efforts have been prolonged,” Fitch said.
While the regulatory outcome remains uncertain, by and large, Fitch believes the intent of many of the reform paths is to preserve liquidity in housing finance. “Under any reform scenario, legacy unsecured GSE debt will retain its implicit government support and that the entities that emerge will not likely meaningfully utilize unsecured debt,” Fitch said.
