Head of FHFA may offer easing of credit standards for mortgages

The new head of the Federal Housing Finance Agency, Mel Watt, who leads the two government sponsored enterprises (“GSE”) Fannie Mae and Freddie Mac, has recently indicated that he will be promoting new policies which should lead to easing of mortgage credit standards somewhat. The following are excerpts from the monthly interes rate newsletter of HSH.com:

“Low interest rates are fine, but an incomplete expression when it comes to stimulating housing. Tight underwriting standards are keeping at least some folks at bay, or otherwise adding to already diminished affordability, what with add-on Loan-Level Pricing Adjustments and fees. While there will remain sizable groups who are poorly aligned with any standards for some time due to bankruptcy, foreclosure, poor credit or extraordinary debt loads, at least some folks on the lower end of the spectrum may find a touch more willingness to make them a loan as time progresses.

That will occur thanks to FHFA head Mel Watt, who in his first speech in his new capacity provided some clues as to how he will conduct Fannie and Freddie as long as they are under his purvey. In addition to espousing a change in philosophy, one of operating the GSEs as though they will continue to exist as opposed to preparing them to be wound down (as his predecessor Ed DeMarco did), he directed his charges to change at least some of their policies as they pertain to failing loans and forcing “buybacks” of these to lenders. At the moment, a loan is generally subject to buybacks for up to about five years; if a borrower had any lates within the first three years or was late at the 60th payment, the loan would be subject to repurchase by the lender, with no ability for the lender to quibble. The new policy allows for up to two 30 day lates within the first 36 months, cares nothing of the 60th payment, and provides a review process to determine if the loan failed because of something the lender did or did not do.

This is a sea change, especially for lower-credit borrowers, who are the most likely to have occasional troubles making payments (generally how they got lower scores in the first place). It encourages lenders to make more loans to these more marginal borrowers, since, provided they did their due diligence correctly, the lender may not be held liable for the troubles a borrower encounters in the future, and even provides for a way out of liability if they did nothing wrong but the borrower failed anyway. It’s a small but important step, especially since these borrowers have only the low-rate but fairly high-cost FHA program to consider at the moment.

If we had to guess, it might be that Mr. Watt will next look to make changes in the Loan-Level Pricing Adjustment (risk-based add-ons to rates and fees) in place at the GSEs. There have been some ruminations that GSE guarantee fees might be raised again at some point, which would increase the cost of credit broadly, but making changes to LLPAs could largely ameliorate those effects to borrowers. We’ll see. “