Monday was the last day to submit comments to the Federal Housing Finance Agency on its proposed rule for a new regulatory capital framework for Fannie Mae and Freddie Mac.

The Mortgage Bankers Association and the Structured Finance Association both responded to the rule with comment letters on Monday. While the MBA provided suggested adjustments to the framework, the SFA called on the FHFA to suspend implementation of the rule “until a number of fundamental threshold issues are adequately addressed.”

The FHFA proposed the rule in May as a “critical step in furtherance of FHFA’s stated intention to responsibly end the conservatorships” of the GSEs. The new framework includes risk-based capital and leverage ratio requirements with some capital buffers.  The risk-based capital requirements would include requirements for credit risk, market risk, and operational risk.

Under the rule, “an enterprise’s capital distributions and employment-based discretionary bonus payments would be subject to limits if the enterprise does not maintain regulatory capital in excess of the prescribed capital buffer amounts. The proposed rule would also make conforming amendments to definitions in FHFA’s regulations for assessments and minimum capital and would also remove the Office of Federal Housing Enterprise Oversight’s (OFHEO) regulation on capital for the Enterprises.”

MBA Response

The MBA submitted its comments in a 22-page letter outlining its concerns on the proposed rule. While the MBA acknowledged that it was appropriate and necessary for FHFA to strengthen the GSEs’ capital framework in advance of their exit from conservatorship, the organization said that the proposed framework “remains too complex and lacks transparency in key areas.”

The MBA comments also stated that “The capital framework should provide incentives for the Enterprises to maintain and expand upon positive changes to their business models over the past decade in furtherance of their vital housing missions, rather than simply operate under their pre-2008 business models (albeit with more capital).”

The MBA’s suggested adjustments to the framework include:

• The level of required capital implied by the framework is too high and may be determined too frequently by a leverage ratio rather than risk-based standards.
• The treatment of credit risk transfer mechanisms is far too punitive and would discourage broad and diversified use of these mechanisms.
• While the framework includes important features to mitigate procyclicality in the single-family market, further steps are needed to address procyclicality in the multifamily market.
• The stress scenarios used to develop the risk grids and multipliers should be based on empirical loan performance data over the same periods for both the single-family and multifamily markets.

One key comment was the suggestion that the proposed capital framework should be modified to encourage the GSEs to operate as market utilities, “with effective incentives to distribute rather than hold mortgage credit risk.”

Regarding the proposed framework’s treatment of credit risk transfer (CRT), the MBA stated ,“It is unclear why the framework is so harsh in its treatment of CRT. In certain situations, for example, use of CRT by an Enterprise not only would fail to reduce required capital under the framework, but instead would increase it. This outcome is perplexing and counterintuitive given the broad public support for CRT from FHFA and other government stakeholders. As is noted above, FHFA continues to include the growth and refinement of CRT in its objectives for the Enterprises, and senior FHFA officials continue to highlight the success of CRT in speeches and commentary.”

The MBA’s comments suggested additional reforms, including:

• Pricing discounts, favorable underwriting requirements, and credit variances based on the volume, size, or business model of single-family lenders should be prohibited.
• FHFA should facilitate the continuation of the Enterprises’ important roles in the multifamily market.
• FHFA should support and facilitate the expansion (both in volume and type) of the Enterprises’ credit risk transfer (CRT) programs in a manner that ensures similar levels of protection across differing structures.
• Acquisition of a controlling interest in an Enterprise by a mortgage lender or servicer should be prohibited in order to prevent “vertical integration.”
• The standards for the development of new products, activities, and technologies at the Enterprises should be clarified.
• FHFA should promote enhanced public access to Enterprise data beyond the data published in support of the CRT programs.
• A more explicit guarantee on the Enterprises’ single-family and multifamily MBS would promote secondary market liquidity and the broad availability of affordable mortgage credit.

Elaborating on the last point, the MBA letter states: “The MBA believes it is crucial to establish a permanent, paid-for federal government backstop on MBS issued by the Enterprises. While the most effective manner of providing such a backstop is through legislation, FHFA and Treasury could leverage the limited explicit guarantee already in place through the Senior Preferred Stock Purchase Agreements (PSPAs) to do so, as well… Restructuring the commitment under the PSPAs would enable the explicit guarantee to apply to Enterprise-backed MBS in a more direct and targeted manner.

“A more explicitly defined guarantee is a critical element of any reform effort, as it promotes the broad availability of affordable mortgage credit and the capacity of the Enterprises to support the market through all parts of the credit cycle.”

The entire comment letter from MBA can be read here.

SFA Response

The SFA took a different tack, urging the FHFA to address fundamental issues or suspend implementation of the rule in its comment letter, which stretched to 32 pages.

“The issues requiring resolution, whether in the form of the ECF Re-Proposal or otherwise, are critical not just for the two Enterprises, but for the broader system of housing services in the United States,” the SFA wrote.

“We believe it is impossible to release the Enterprises from Conservatorship in a manner consistent with their Charters absent clarity around the government’s role,” the letter continued. “In fact, a system without such clarity is simply a return to the ‘implied guarantee’ of the past… We believe this is a very dangerous approach.”

“We therefore recommend that the FHFA suspend implementation of the ECF re-proposal until these fundamental threshold issues have been adequately addressed,” SFA concluded.

Michael Bright, CEO of SFA said, “It is dishonest to comment on capital in isolation without discussing whether there will be a transparent government backstop, liquidity, or resolution mechanism given that the FHFA has repeatedly said that the goal is to release the enterprises from conservatorship.There is no reasonable amount of capital that can replicate clarity around the government’s role.”

In addition to calling for resolution and clarity on a number of issues, the SFA took issue with the proposed rule’s treatment of the CRT program.

“The capital rule unnecessarily penalizes Credit Risk Transfer (CRT) programs at the enterprises, likely eliminating valid benefits of this diversified, cost-effective risk management tool. As a result, the GSEs would be incented to hold more risk, their cost of capital will increase, and the economic benefits passed along to mortgage borrowers via lower g-fees will be reduced or eliminated,” the letter states.

Read the entirety of the SFA comment letter here.