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Experts: GSEs serve vital role in multifamily

The multifamily business of government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac has grown exponentially during the tenure of Federal Housing Finance Agency Director Mel Watt, whose agency oversees the GSEs. Watt's successor next year could make moves to reduce the GSEs footprint in the multifamily market substantially. Michael Berman (pictured top), a real estate finance consultant and former chairman of the Mortgage Bankers Association, and Mark Willis (pictured bottom), senior policy fellow for the NYU Furman Center for Real Estate and Urban Policy, discussed the GSEs’ important role in the multifamily sector, and make a case that the Trump administration should not be too hasty in scaling down GSE activities in the space.   

The GSEs bankrolled $140 billion last year in the multifamily sector. Is this too much?

mbermanBerman: Given what we now know from experience in 2008, 2009, 2010 and other times when there was a deep recession and extreme volatility in the capital markets, virtually everyone drops out of the multifamily lending market other than the GSEs and FHA [Federal Housing Administration]. That counter-cyclical role is important to our economy.

Further, even in prior times of ample liquidity, the GSEs and FHA provided long-term, fixed-rate capital and other important loan products, when the banks did not, and the life companies did not. So, we need the GSE lending and capital creativity, and we need them for the counter-cyclical liquidity. One important question is, how much loan volume do we need for the GSEs and their seller-servicers to maintain an infrastructure to carry the economy through those recessionary periods. On the other hand, while healthy competition during times of increased liquidity is desirable, we don’t want the GSEs to crowd out private capital while the market is flush with liquidity. So, it is a balancing act.

mwillisWillis: The GSEs serve certain parts of the market, particularly the affordable market. And that is another reason to consider what the right size is. How much of the overall market is necessary in the good times to be able to serve that particular part of the market when everyone else may withdraw from real estate lending in a recession. 

At the American Enterprise Institute conference on the future of the GSEs in July, several panelists said enterprises should just get out of the way, and private capital will fill the void. Do agree that is possible? 

Berman: I would doubt that, without Fannie/Freddie and FHA, the market could support the demand for affordable housing and workforce-housing capital. The life companies always seem to be able lend all of their annual capital allocations to multifamily. They can’t do substantially more due to their portfolio capital-allocation restraints. They only do a relatively small amount of multifamily lending per year, say $15 billion to $25 billion. 

So, that is not where the new capital is going to come from. The CMBS [commercial mortgage-backed securities] sector, as we have seen, fell off a cliff in the 2008 crash. It has come back somewhat, but is less than half the size that it was at its height. Its height was about $212 billion per year before the crash, and now it is in the range of say that $80 to $90 billion a year. But again, there is a limit to how much more CMBS could be done due to inconsistent investor demand.

So if you look at the various capital sources out there, the most promising one that could fill the void if Fannie and Freddie had lower caps or the exclusion to the caps were more restricted is probably the banks. In times of liquidity, the banks seem to have the capacity and appetite to do more multifamily lending, but it is unclear if they could fill a void of $140 billion per year. Also remember that the banks have the advantage of a federal deposit guarantee to feed their capital base, so I’m not sure that you can call them pure “private capital”.

Willis: The question is not whether during good times how much Fannie and Freddie are needed, but how significant do they need to be during the good times, so they will be there in tough times, when even the banks withdraw from lending in this market. You can’t just sit here today and say, well, the private market is functioning very well when, in fact, we know when there is a severe recession, the private institutions generally withdraw from the market and become very cautious.

Another complaint emerging from a recent American Enterprise Institute conference was that Fannie and Freddie have been guilty of mission creep, blurring the lines of what they should be involved in. What do you say to that?

Willis: I think the issue is what is the overall share of the market that creates the right balance between being available when times are tough, providing help in the targeted affordable market and not forcing out all competition as a result of the competitive advantages that they have, particularly the federal guarantee. It is more a balance, rather than sitting here arguing over a particular market or another.

Berman: I’m not sure what “blurred lines”  they are referring to. To my knowledge, the GSEs stay in the lane of the secondary market, buying loans from their seller services. On big portfolios, they play a very active role due to the risk involved. But I have not seen them entering the primary direct market in a problematic way. When you look at various sectors, such as affordable housing and seniors housing, the GSEs have provided important liquidity over the last 15 years or more. Those are areas where I would argue there historically hasn’t been a tremendous amount of capital supporting the growth of an industry to accommodate our changing population.

I think the banks do a good job, but when the economy goes south, one of the first things that happens is that the banks start to constrain that lending. As you know, key demographic studies from the Urban Institute, the Mortgage Bankers Association and the Harvard Joint Center for Housing Studies project that over the next  decade or so, the number of new households per year will be, plus or minus, a million new households — and approximately 60 to 65 percent of those are projected to be rental households. If we are looking at a demand of say 600,000 new units a year, and experts tell us we lose somewhere between 50,000 to 100,000 rental units per year through obsolescence, you are looking at somewhere between 650,000 to 700,000 units of new rental-unit demand per year. That is a big number.

We don’t produce that many units. And obviously in the single-family rental sector, which is a big piece of the market, it is currently very difficult to build new single-family rental because the numbers don’t work well.  So, if you step back and look at it from the big picture and think about economic cycles, as well as look at these demand factors, where is the capital going to come from for all that?  So I believe that we need the GSEs to help supply that capital.

If the new FHFA director reduces the GSE’s capped amount on multifamily and significantly restricts what they can do in the uncapped space, what would be that mean for the industry?

Berman: The first thing I would like to say is that is a really important question because it is not unlikely they would do that. So, it is a really good question to be asking.

Willis: At this point in the cycle, I really think there is a lot of capital out there. Maybe insurance companies have peaked out, but there is plenty of lending capacity in the banking system. So, the real question goes back to if we have a recession, and the rest of the private sector pulls back from making these kind of mortgages, what countercyclical support would we like Fannie and Freddie to provide that is so helpful and was so helpful in the last recession? That is the question here that needs to be addressed. 

Berman: Pricing competition is something that Fannie and Freddie push, because of their competitive advantage from the government wrap and their mission. The GSEs push other lenders when they are competing to tighten spreads and lower rates for borrowers. So one thing that could well happen if the GSE lending caps are lowered is that the rates for borrowers will go up. So, the cost of producing and maintaining multifamily rental housing would be higher for owners. We are obviously seeing interest rates go up generally with increased inflation and Fed actions to increase rates, but I think reducing competition from the GSEs is something else which will drive rates higher. If there is less competition, you will likely see rates go up even more than would otherwise be the case due to inflation and Fed action. 


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