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GSEs may need future bailouts as their reserves continue to dwindle, FHFA director warns


Federal Housing Finance Agency (FHFA) Director Mel Watt warned this week that the government’s course of eliminating Fannie Mae and Freddie Mac’s capital buffers could lead to future taxpayer bailouts of the government-sponsored enterprises (GSEs) that could destabilize the housing market.

In a speech before the Bipartisan Policy Center in Washington on Thursday, Watt said the GSEs faced the real threat of taking future draws on the U.S. Treasury because of recent volatility in their quarterly earnings.

Fannie and Freddie’s capital buffers are scheduled to be wound down to zero at the beginning of 2018, from the current level of $1.2 billion for each entity. The GSEs were bailed out during the financial crisis in 2008 and taken into conservatorship, and are now overseen by the FHFA. Through a senior preferred-purchase stock agreement with the Treasury, the GSEs aren’t allowed to build up capital, and most of their profits are swept each quarter into Treasury's coffers.

According to the most recent quarterly reports, the GSEs have returned $243 billion in dividends to the government, which is nearly $56 billion more than the combined bailout of $187.4 billion.

This week Fannie and Freddie reported strong earnings for the past fourth quarter and plan to pay a combined dividend of $4.6 billion to the Treasury. However, both GSEs have experienced quarterly swings in earnings, largely due to interest-rate volatility and their use of derivatives to hedge against changes in interest rates. In the third quarter of last year, Freddie posted a net loss for the first time in four years, although it didn’t have to take a draw.  

 Watt, a former Congressman from North Carolina who took the helm at the FHFA in 2014, warned that draws on the Treasury would chip away at the funds set aside to back the GSEs and could erode investor confidence in the GSEs. He also said it could lead Congress to make a hasty decision in efforts to reform housing finance.

"Investor confidence is critical if we are to have, as we do today, a well-functioning and highly liquid housing finance market that makes it possible for families to lock in interest rates, obtain 30-year, fixed-rate mortgages, and prepay a mortgage if they want to refinance or need to move,” Watt said in the speech. “If investor confidence in [GSE] securities went down and liquidity declined as a result, this could have real ramifications on the availability and cost of credit for borrowers.”

Watt also said the eight-year conservatorship “is not a desirable end state” and hoped that Congress would pick up reform efforts, but lamented that it didn’t seem to be a top policy priority of the presidential candidates.

“While it’s not my place to meddle in political discussions, I’m also not hearing much discussion of housing-finance reform in any of the presidential campaigns,” Watt said.

Earlier this week, the Community Home Lenders Association (CHLA), the Community Mortgage Lenders of America (CMLA) and the Independent Community Bankers of America (ICBA) — trade groups that lobby on behalf of smaller banks and nonbank lenders — urged the FHFA in a letter to allow Fannie and Freddie to retain their fourth-quarter earnings and establish a plan to rebuild  capital reserves.  

The letter also said the FHFA has the sole authority to allow the GSEs to rebuild capital reserves.

“We have not received a response from Director Watt or FHFA to our joint letter,” said CMLA Executive Director Glen Corso on Friday. “We do not have any indication from FHFA on what, if any, action they are prepared to take, nor am I aware of any discussions that are taking place between FHFA and anyone else on this subject. So I cannot tell you what FHFA’s position is.” 


 

Questions? Contact at (425) 984-6017 or victorw@scotsmanguide.com.

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