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Guarantee fees have gotten higher over time. Image: Fotolia
Guarantee fees have gotten higher over time. Image: Fotolia

Fannie, Freddie, and Mortgage Guarantee Fees

NOV 1, 2012 1:20pm ET
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As late as March 2007, when home prices were teetering on the lip of a 35 percent collapse, Freddie Mac was telling its doomed investors that competition was keeping it from raising its price for guaranteeing mortgages.

Half a decade later, with mortgage finance almost entirely sponsored by the government, the question is how high compensation for credit risk must go before the private sector returns in force.

Regulators took an important step toward finding out in August, when they announced that they had directed Freddie and its sister enterprise, Fannie Mae, to increase guarantee fees, which are generally expressed as an annual rate on outstanding principal balances, by an average of about 10 basis points.

The move had long been telegraphed by the Federal Housing Finance Agency, Fannie and Freddie's overseer and conservator since their failure in 2008, and tracked with the FHFA's objective to reactivate private lending and reduce the amount of risk being borne by its wards. It was also consonant with the vision set out by the Obama administration in a paper in February 2011, which called for such price increases to draw private investors back into the sector, and instructions from Congress, which had mandated a 10-basis-point increase to offset the cost of extending a cut in payroll taxes.

Overall, guarantee fees are as high now as they have been at any point during roughly the last decade, partly reflecting price increases Fannie and Freddie implemented in early 2008 as the housing market fell apart. (The increases announced in August will be rolled out beginning in November, and will take years to wash through Fannie's and Freddie's portfolios since existing mortgages are subject to rates set when they closed. The increases associated with the payroll tax cut were implemented in April.)

Compared with guarantee fees that averaged 27 basis points during the first half at Fannie and 24 basis points at Freddie, a pair of 10-basis-point hikes seem substantial, particularly in combination with further increases that are in the pipeline.

By the standards of the average 22 basis points for Fannie and 18 basis points for Freddie in 2006, when private lenders accounted for about 70 percent of originations and 60 percent of outstanding mortgage balances, they are even more substantial. The guarantee fee figures here are based on financial reports by the government-sponsored enterprises during about the past ten years, a period marked by multiyear restatements and massive changes in accounting practices. Also, fluctuations in g-fee figures often are largely explained by changes in interest rates, which drive the pace of refinancing and determine the periods over which upfront portions are recognized.

But, with the mortgage meltdown so close in the rearview mirror, the right price for private capital is a moving target. Much depends on regulations over legal liabilities and risk retention requirements for originators that are still in flux, in addition to the nature of government support that will succeed the current arrangement.

Some analysts expect the transition to a new system to take at least a quarter century.

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