MBA conference remarks as prepared for delivery

Michael A.Stegman
October 19, 2015
We are now into the eighth year of Fannie Mae and Freddie Mac's
conservatorship. We cannot forget that the actions taken early in the
financial crisis to backstop the GSEs stabilized the housing market,
protected the capital markets, and supported the broader economy. But as I
have said many times, the status quo is unsustainable. Taxpayers remain at
risk, market participants are uncertain about the government's longer-term
footprint in the mortgage market, and decisions on mortgage access and
pricing are being made by the government, and not market participants. The
American people deserve a better and more responsive mortgage finance
The critical flaws in the legacy system that allowed private shareholders
and senior employees of the GSEs to reap substantial profits while leaving
taxpayers to shoulder enormous losses cannot be fixed by a regulator or
conservator because they are intrinsic to the GSEs' congressional
charters. And these charters can only be changed by law. That is why we
continue to believe that comprehensive housing finance reform is the only
effective way forward.
So, before talking about what we would like to see happen on GSE reform in
this Congress, let me first say a word or two about what this
Administration does not support. Recapitalizing the GSEs with taxpayer
funds and administratively-or legislatively-releasing them from
conservatorship with a business model that conflicts with their public
mission- in essence turning back the clock to the run up to the crisiswould be both an exercise of bad policy judgment, and poor stewardship of
the taxpayers' interest; willfully recreating the very system that helped
do this nation so much harm.
None of us should be misled by the increasingly noisy chorus of the
advocates of recap and release, many of whom have placed big bets against
reform so they can make a profit, and are doing everything they can to
make sure that those bets pay off. Nor should their promise that recap and
release would generate a pot of money for affordable housing be taken
seriously. Recapitalizing the GSEs would not itself provide any resources
for affordable housing. Nor can a related - or even unrelated - sale of
Treasury's investment in the GSEs provide any resources for affordable
housing. The proceeds of the sale of any GSE obligations acquired by
Treasury must by law be "dedicated for the sole purpose of deficit
If there's one thing we learned from the financial crisis, it is that when
private companies have a perceived government guarantee that privatizes
gains and socializes losses, that's a lose-lose proposition for American
Rather than freeing recapitalized GSEs from conservatorship with their
flawed charters intact, we should pursue more comprehensive approaches to
reform such as those members have introduced over the past two years
including mutualizing Fannie and Freddie, expanding GNMA's function to
include securitization of an "agency"-type MBS where the cost of a
government guarantee against catastrophic losses is priced in the private
The prospect of a recap and release scenario gaining momentum has even led

a bipartisan group of Senators to introduce legislation that includes a
measure to prevent administratively allowing the GSEs to exit
conservatorship. This demonstrates that, amidst the increasing interest in
recap and release, the Administration is not alone in having concerns
about returning to a flawed model without Congressional consideration of
responsible alternatives.
So, if recap and release is the wrong path, what's the right one?
A better strategy is to build upon bipartisan agreements on the features
of a future secondary market system that were hammered out in the Senate
Banking Committee last year: preservation of the TBA market; an explicit,
paid for government guarantee of catastrophic losses for investors in
qualifying MBS; maintaining a clear separation of the primary and
secondary markets; ensuring the flow of mortgage credit in both good times
and bad; separating the securitization plumbing from private credit risk
taking; ensuring that community lenders have the same access to the
secondary market as big banks; and making the benefits of government
guaranteed MBS available to all households - both those who choose to rent
and those with the ability and desire to own.
Members in Congress also reached bipartisan consensus on a transparent way
to serve those the private market cannot serve without subsidy, through an
annual 10 basis point assessment on the outstanding balance of
government-guaranteed MBS-which once fully implemented, would generate
about 15 times more resources a year for affordable housing than FHFA is
expected to raise through the GSEs' current affordable housing levy-though
we were pleased to see the Director begin collections on the affordability
fee and look forward to effectively implementing the dollars through the
Housing Trust Fund and the Capital Magnet Fund.
But there is much more work to be done on ensuring that the future system
would serve all communities fairly, which can best be assured through a
statutory duty to serve. Regrettably, the Committee could not agree upon
such a provision during last year's negotiations, and we will continue to
fight for it.
There are many ways to pressure test critical components of the future
system before they get baked into law, including through administrative
actions by the conservator. For example, FHFA is expanding and
diversifying risk-taking among private actors, further focusing GSE
businesses on meeting the mortgage finance needs of middle class
households and those aspiring to join the middle class, and developing a
securitization infrastructure that can serve as the backbone for the
broader mortgage market over time. These initiatives not only help de-risk
the enterprises and protect taxpayers while the GSEs are in
conservatorship, they can also ease the path to the kind of system I have
described and for which there is broad bipartisan consensus.
But they don't go far enough. FHFA could do more to help ground the next
Congressional debate on the future mortgage finance system in real
experience. With more transparency and more focus on testing policy and
design choices, the FHFA could help demonstrate the most effective ways of
executing a duty to serve that ensures broad and fair access to credit
beyond the three statutory requirements of manufactured housing, rural
housing, and rental preservation; help demonstrate how to most effectively
push credit risk into the private market while preserving access to
credit; help to ensure an expanded supply of affordable rental housing;
how best to build infrastructure for a broadly accessible and stable

secondary market, and other issues that will be essential for Congress to
get right when they next come back to the table to consider comprehensive
FHFA defines its mission this way: Ensuring "the Housing
Government-sponsored Enterprises operate in a safe and sound manner so
they serve as a reliable source of liquidity and funding for housing
finance and community investment." We think it is also important for FHFA
to help prepare the housing finance system for a more sustainable future
that protects taxpayers, ensures that community lenders have the same
access to the secondary market as big banks, and that provides more
certainty that a successor system would provide improved level of access
and affordability to mortgage credit and support for affordable housing.
We must do better than the status quo.
Let me be clear. I am not talking about Congress undertaking partial or
piecemeal housing finance reform. What I am suggesting is that in
recognition of the diminishing congressional appetite for achieving
bipartisan comprehensive reform, and the reality of a lengthy transition
period as part of legislated reform, it makes sense that we take a closer
look about whether thecconservator and/or the Congress should require the
FHFA to undertake more concerted efforts to compare the current affordable
housing goals regime against alternative approaches, design tests of
alternative credit risk transfer mechanisms, , and to expend funds to
prepare the common securitization platform as a market utility for
multi-users. These actions could also incorporate greater transparency on
the part of FHFA.
Over the last two and one half years, the Enterprises have ramped up and
diversified so-called backend risk transfer deals, where a portion of
credit risk associated with specified mortgage loans is syndicated to
capital markets investors subsequent to their purchase and guarantee by
the GSEs. A hallmark of back-end credit risk transfer deals is that
seller-servicers delivering loans to the GSEs are charged full G-fees. A
portion of these fees is then paid to the private market investor(s)
depending on the return they require given market conditions and
collateral quality to assume a portion of the credit risk. Borrowers are
uninvolved with back-end credit risk transfer deals because they occur
after the loans are sold to the GSEs and do not benefit from potential
economies that may arise from the GSEs sharing collateral risk with
private investors. Front-end credit risk transfer pilots could determine
whether the cost of lender recourse, reinsurance, or deeper MI coverage
plus reduced G-fee is less or more than the standard applicable G-fee
charged by the Enterprises today, which is an important data point for the
market and for a future system.
Also, to promote more transparent and efficient markets, and help inform
the next round of legislative deliberations, it is important that there be
more public visibility into such issues as how and where the enterprises
currently set acceptable default rates for the last loan in. This is not
only important to current policy conversations around access to credit,
but a topic of significant interest in last year's legislative debate
about how to define the outer bounds of the credit box in a reformed
system in which the government would be guaranteeing the tail risk
associated with specified pools of MBS.
FHFA could also increase transparency into GSE credit and asset management
policies and practices. This would include, for example, policy makers and

market participants learning more about how the GSEs model their cost of
capital to protect against unexpected losses as this represents the
predominant portion of guarantee fees. As long as Fannie Mae and Freddie
Mac have different proprietary economic capital models, they will have
different views of risk that lead to different decisions regarding pricing
mortgage credit risk, and asset disposition strategies.
Finally, providing the public with more granular data on the consumer
outcomes of non performing note sales is also in the public interest. The
winning bidder(s) in each NPL sales auctions should be required to file
quarterly reports with FHFA following the sale that would include at
minimum the results of loss mitigation efforts and borrower outcomes,
including among other loan-level data, terms of loan modifications, short
sales, and foreclosures, and subject to privacy considerations,
information on borrower demographics and geography.