Last month, we witnessed one of the biggest news stories in real estate in the last few years, as the White House released its white paper on phasing out the mortgage giants Fannie Mae & Freddie Mac. In typical fashion, the Obama administration laid out 3 different options for the future handling of the GSE’s and their involvement in the secondary market, but didn’t take a firm stance one way or the other. Rather than leading on the issue with a strong opinion as to the best course of action, they’d prefer to wait for public opinion, lobbyists and the news media to help shape the debate and to ultimately decide what happens.
The three options presented by the government offer varying degrees of privatization. The first is “largely private” in which the only government involvement would be the promotion of mortgage financing for low-income households through FHA, VA, and USDA. The second option is a hybrid of both privatization and government involvement, in which the government would only step in during an emergency. In addition to its existing roles for FHA, VA, and USDA, the privatized system would be backstopped by a federal mortgage insurance facility that ramps up to scale only in times of credit crisis. The third and final option is another hybrid, which includes a full-time federal re-insurance. In this scenario, the otherwise privatized system would include a federal catastrophic re-insurance for private guarantors of mortgage-backed securities.
Most experts believe that the end result will most likely be somewhere between option two and option three. However, the most important thing in this entire discussion is to remember that it’s imperative that this be done in a very deliberate, gradual way so as not to destroy the housing market as it struggles to recover. The reason? Private market residential mortgage backed securities are almost non-existent since the “Great Recession”, and so there would be no one to fill the massive gap that the GSE’s would leave in their wake if they disappeared.
A few years ago, private label residential mortgage backed securities made up more than 50% of mortgage financing for originations, a staggering 1.3 trillion dollar market. However, that’s now dropped to a measly 5%. Translation in layman’s terms? Fannie & Freddie are pretty much the only game in town. So removing them altogether from the secondary mortgage market would raise loan fees, jack up interest rates, reduce the number of qualified buyers, decrease sales, increase inventories, and basically see the world as we know it end for all eternity. Well, that last part might be a little bit of an exaggeration, but it would be really bad.
We all know that we need to reduce Fannie and Freddie’s footprint, and we also must end their reign as the king and queen of the secondary mortgage market, but as we said before, it needs to be done gradually and over time. Thankfully, it looks as if the administration agrees with us on the timing issue, as Treasury Secretary Timothy Geithner stated that whichever of the three proposals is chosen, “it will take MANY years for the big changes to be implemented.” He also added that the main point of all this is, “Homeowners need to hold more equity in their homes.”
YES!!! Finally something out of this group in Washington that Woody & I actually agree with. If we’ve learned anything in this financial crisis, hopefully it’s that we spend too much, don’t save enough, rely too heavily on debt, and have overleveraged everything in our lives. Thankfully, it looks like everyone from main street, wall street, and hopefully Pennsylvania avenue, are finally getting the wake-up call.
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