March 29, 2015
Why Freddie Mac Resisted Refis
Posted on Oct 26, 2012
By Jesse Eisinger, ProPublica
Glauber was concerned about Freddie incurring such losses, because taxpayers were ultimately on the hook. “Bob’s position would have been if it has a cost, it is not consistent with conservatorship,” Koskinen said.
Bammann, a former executive of JPMorgan Chase, and Wisdom voiced similar objections. Wisdom criticized the refi program, saying that it was “policy, not business,” according to the executive.
Board member Nicolas Retsinas, who served in various housing policy positions for the Clinton administration, argued consistently for an expansive refinancing policy, according to people familiar with the meetings. He argued that in calculating the costs of the refi program, Freddie should take into account the benefit from lowering defaults and foreclosures and the improved housing market and stronger economy that would come from refinancings.
Retsinas declined to comment.
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Koskinen, a Democrat who served in the Clinton administration, said it was prudent for the board to discuss the costs of a refi program. “The board’s view was you could decide to categorize it or ignore it but couldn’t say it didn’t exist. The intellectually honest thing was to say, ‘How large was that cost?’” he said.
Freddie Frustrates Its Regulator
Early in the Great Recession, support for a mass refi program was bipartisan. Refis help borrowers who are current on their loans, scoring them prevailing rates.
Columbia economist Glenn Hubbard, now an economic advisor to Republican presidential nominee Mitt Romney, co-authored op-eds in the Wall Street Journal and later in the New York Times with his colleague Mayer, proposing a mass refi program. Many congressional Republicans supported it.
But the Wall Street Journal editorialized against it in February 2009, arguing a mass refi program amounted to undue government interference with the marketplace and would cause huge losses for taxpayers. Republicans turned against it.
The Obama administration and the Federal Housing Finance Agency (FHFA), which oversees Fannie and Freddie, didn’t fix HARP for years.
Under conservatorship, the FHFA has the responsibility to regulate the companies and to approve their major business decisions. Ed DeMarco, the acting head of the agency, has become a political lightning rod, criticized for having been too timid in helping the housing market. Critics contend he underestimated how much such an overall improvement would eventually help Fannie and Freddie’s bottom lines.
At the same time, DeMarco has been frustrated by Freddie Mac, according to people who are familiar with his tenure.
“Freddie is the party of ‘no.’ Fannie is the party of ‘let’s make it work,’” said a person familiar with DeMarco and the FHFA.
The FHFA was frustrated when Freddie Mac announced its guidelines in November 2011 because they restricted refis more tightly than Fannie’s did.
One example: Freddie was not going to allow certain well-situated borrowers into HARP, borrowers with a “loan-to-value” ratio of 80 or below. In other words, if a borrower had a $100,000 home and had a mortgage loan of $80,000 or less, he or she would not be eligible.
That wasn’t the only restriction. Freddie sometimes required properties to be re-appraised, which added cost and delay. And it hindered the ability for borrowers to get a refi from a new bank rather than from the one that had given them the original loan. “We were adding barriers to the homeowner,” says the Freddie executive.
Freddie’s risk management operation, the division in charge of making sure Freddie doesn’t take decisions likely to incur heavy losses, was particularly active in raising concerns over allowing more refis. For example, when Freddie insures a mortgage, it retains the right to void its guarantee and force the bank that made the loan to be responsible for it under certain circumstances, such as if the bank had done poor underwriting and the borrower’s income was misrepresented. Facilitating refis under HARP could require giving up those rights. Wisdom, the risk officer, argued that Freddie should not give up such rights lightly, because surrendering them could cost Freddie dearly.
But since many borrowers on these Freddie-backed loans had been making regular payments for a number of years, others argued there would likely be only a relatively small number of cases in which Freddie would need to force banks to take back loans. Thus, Freddie wouldn’t be giving up anything of much value.
Freddie Mac produced a memo in the fall of 2011, which was described to ProPublica, estimating that HARP would cause hundreds of millions of dollars in losses. The memo estimated big losses on the portfolio as well as from giving up the rights to return the loans. It minimized the benefits to Freddie’s insurance business from an improved housing market and improved economy. It also minimized the costs to the company of trapping homeowners in mortgages with interest rates so high they would eventually default.
That analysis appears to have been overly cautious. A recent New York Federal Reserve study estimated how much refinancings can help reduce future defaults and found that the benefits were greater than expected. “We were too conservative and that’s been subsequently borne out,” says the Freddie executive.
DeMarco has said he instructed Freddie and Fannie not to take into consideration portfolio losses. In a letter to Sen. Robert Menendez (D-NJ) in May, DeMarco wrote that “FHFA specifically directed both [Fannie and Freddie] to exclude from consideration changes in their own investment income as part of the HARP evaluation process.”
The existence of the memo raises a question of whether Freddie ignored that instruction from its regulator. It also raises the question of why FHFA did not act immediately to prevent Freddie from imposing its tighter rules.
DeMarco and the FHFA did not respond to requests for comment.
Freddie’s 80 percent loan-to-value barrier had spillover effects. Mortgage experts say it led banks to reject out of hand borrowers who were close to that threshold. If a borrower initially appeared to qualify for a refi, but then the appraisal of the home pushed him below the barrier, Freddie would reject the refi and the mortgage company would have wasted time and money. So banks avoided a wide swath of homeowners whose loan-to-value ratio was near 80 percent.
At the FHFA, “nobody was happy with Freddie under 80 percent but we decided to deal with it later. And we dealt with it,” says a person familiar with the FHFA’s efforts.
Today, more refis are being done under HARP and the barriers at Freddie have started to come down. The new CEO, Donald Layton, deserves some credit, says the Freddie executive: “Don made important changes in the program and is willing to override narrow risk management. He took a broader view of the benefits and wasn’t focused wholly on the costs.”
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