Compliance & Regulation

The preferred stock ratings of Fannie Mae and Freddie Mac have been downgraded from A1 to Baa3 by Moody's Investors Service, and their Bank Financial Strength Ratings have been downgraded from B-minus to D-plus. The downgraded ratings remain on review for possible further downgrade. Moody's said the downgrades of the financial strength ratings reflect its view that the government-sponsored enterprises' flexibility to manage volatility in their mortgage risk exposures is "constricted" because they now have "limited access to common and preferred equity capital at economically attractive terms." The downgrades of the preferred stock ratings reflect a greater risk of dividend omission stemming from two issues, Moody's said. First, the GSEs' mortgage portfolio performance is "worse and more volatile than Moody's expected," which could lead them to breach the capital requirements governing their ability to pay a preferred dividend. Second, there is uncertainty about how the preferred stock would be treated if the Treasury provides either GSE with support, Moody's said. In addition to the downgrades, Moody's affirmed the GSEs' Aaa senior long-term debt and Prime-1 short-term debt ratings with stable outlooks, while their Aa2 subordinated debt ratings were affirmed, but the outlook was changed from stable to negative.

To encourage more loan modifications, the Federal Housing Administration will allow servicers to increase the interest rate on the loan to reduce the investor's loss when it is sold or repooled. The FHA set the maximum interest rate increase at 200 basis points above the 10-year Treasury rate, according to FHA mortgagee letter 2008-21. Mortgage servicing consultant Bob Lyons noted that it is difficult to sell modified loans at par in today's market environment and that servicers have to consider that in deciding to do a loan modification. The FHA is "trying to give them a little more latitude," he said, provided the borrower can afford payments and it results in a performing loan. Mr. Lyons' firm, Lyons McCloskey, is based in Fairfax Station, Va. The FHA is also encouraging servicers to undertake loan modifications even after the borrower has filed for foreclosure. According to the mortgagee letter, servicers can add legal fees and other expenses related to a canceled foreclosure action into the principal amount of a modified loan.

The Federal Deposit Insurance Corp. has created a program to systematically modify troubled home loans from IndyMac Federal Bank. FDIC Chairman Sheila Bair said the program is designed to create affordable and sustainable mortgage payments for borrowers and increase the value of the loans by rehabilitating nonperforming loans and turning them into performing ones. She said the program will primarily target IndyMac's alternative-A borrowers. The FDIC said it plans to send 4,000 modification proposals to eligible borrowers this week and thousands more in the weeks to come. The modifications will be designed to create payments that represent 38% debt-to-income ratios for the borrowers. Interest rates may be reduced to below the Freddie Mac survey rate for a period of five years. IndyMac was closed and taken over by the FDIC and the Office of Thrift Supervision on July 11.

North Carolina Gov. Mike Easley has signed a bill that bars lenders from paying yield-spread premiums on subprime mortgages starting Oct. 1. North Carolina is the first state to ban YSPs, which is a form of mortgage broker compensation that is based on the interest rate of the mortgage. Consumer groups like the Center for Responsible Lending supported passage of House Bill 2188, and they contend that YSPs provide brokers with an incentive to steer borrowers into higher-interest-rate subprime mortgages. "By getting rid of yield-spread premiums, we are eliminating one of the root causes of the foreclosure crisis," said CRL senior counsel Chris Kukla. Roy DeLoach, executive director of the National Association of Mortgage Brokers, noted that the North Carolina law simply allows the lenders to pocket the YSP without disclosing it to the consumer. "Consumers are going to pay more money in the long run," Mr. DeLoach said.

The Democratic Party supports passage of new lending standards to protect homebuyers and provide struggling homeowners access to bankruptcy courts to get their mortgage restructured, according to a draft of the party platform. "We will pass a Homebuyers Bill of Rights, including establishing new lending standards to ensure that loans are affordable and fair, providing adequate remedies to make sure the standards are met and ensuring that homeowners have accurate and complete information about their mortgage options," the draft says. The platform also calls for reform of the bankruptcy laws to "restore balance between lender and homeowner rights." A homeownership protection plan offered by Sen. Barack Obama, the presumptive Democratic presidential nominee, would repeal the current law that prevents bankruptcy courts from modifying mortgage payments. "Obama believes that the subprime mortgage industry, which was engaged in dangerous and sometimes unscrupulous business practices, should not be shielded by outdated federal law," the plan says.

The Department of Housing and Urban Development says it intends to move ahead with RESPA reform and provide homebuyers with better disclosures of mortgage terms and costs even though 243 members of Congress have petitioned HUD to withdraw its rule. "The current housing finance situation has dramatically highlighted the need to move forward responsibly and expeditiously with measures to help American homebuyers," HUD Assistant Secretary Sheila Greenwood said in a letter to Reps. Ruben Hinojosa, D-Texas, and Judy Biggert, R-Ill. "This response is unacceptable," Rep. Biggert said. "Our concerns are serious, and they are shared by a broad, bipartisan coalition of industry and consumer interests." A majority of the House of Representatives signed a letter circulated by Reps. Hinojosa and Biggert that says HUD's Real Estate Settlement Procedures Act proposal is too complex and would confuse consumers and hurt small businesses. The HUD assistant secretary for congressional relations stressed that HUD is "carefully considering" the comment letters by industry groups, consumer groups, and other interested parties and that HUD "will make appropriate modifications and improvements to the rule."

Production of Federal Housing Administration jumbo mortgages continues to ramp up, and Ginnie Mae officials say they expect to guarantee another $1.9 billion in FHA jumbo mortgage-backed securities in August, up from $1.5 billion in July. Since the beginning of April, Ginnie Mae issuers have securitized $4.9 billion in FHA jumbo MBS. Currently, Ginnie Mae segregates FHA jumbos into specially designated Ginnie Mae MBS, and the jumbos are not mixed with lower-balance FHA-insured mortgages. Fannie Mae and Freddie Mac generally purchase jumbos from lenders and hold them in portfolio. (The two government-sponsored enterprises began buying jumbos in April.) According to securities filings, Fannie purchased $947 million in jumbos in the second quarter and Freddie purchased $471 million. Ginnie Mae issuers securitized $1.4 billion in FHA jumbo MBS in the second quarter. Ginnie can be found on the Web at http://www.ginniemae.gov.

Due to lax underwriting on four defaulted Federal Housing Administration loans, the HUD inspector general is recommending that Wells Fargo Home Mortgage indemnify the FHA for the full unpaid balance on the loans -- $816,000. "Wells Fargo could not provide justification for the [Delaware] branch office's noncompliance with Department of Housing and Urban Development requirements," the auditors' report says. The IG auditors found that Wells Fargo's branch office approved the underwriting of two loans without verifying the rental payment histories of borrowers and another loan that overstated the borrower's overtime income. On an FHA 203(k) rehabilitation loan, part of the loan proceeds paid for labor performed by the borrower, which violates FHA rules. The four loans were in default within two years of origination. HUD officials can accept, amend, or reject the HUD inspector general's recommendations. As one of the largest FHA lenders, "we are audited periodically by the Office of Inspector General," Wells Fargo said. When loan-level issues are uncovered, Wells Fargo, OIG, and HUD officials "arrive at the appropriate resolution, such as indemnification or reimbursement."

Originations of Federal Housing Administration single-family loans are catching up with Fannie Mae and Freddie Mac loans, according to the chief executive of a cooperative of 125 regional mortgage banking firms. "FHA is the fastest-growing product," said Scott Stern, CEO of St. Louis-based Lenders One. In January 2007, FHA lending made up only 1% of Lenders One loan production, and 60% was Fannie/Freddie conventional loans. In the second quarter of 2008, FHA product constituted 41.5% of originations, while conventional originations totaled 53.1%, Mr. Stern told MortgageWire. The co-op members originated $7.6 billion in mortgage loans in the first quarter. The Lenders One CEO noted that the FHA is getting a lot of good publicity and that the federal mortgage insurance program has not raised its fees or tightened its underwriting standards, as Fannie and Freddie and the private mortgage insurance companies have. But Mr. Stern said investors will no longer buy FHA loans with credit scores below 580. "Some won't do it below 600 or 620," he added. The FHA can be found online at http://www.fha.gov.

The Federal Home Loan Bank of San Francisco has finally launched its foreclosure prevention program, which provides matching grants to cover lender costs of refinancing or restructuring subprime mortgages into fixed-rate 30-year mortgage. The FHLBank will provide up to $25,000 for each restructuring, but the lender has to put up $2 for every $1 in grant monies. The $10 million pilot was approved by the Federal Housing Finance Board in January, but the FHLBank regulator did not give final clearance until this summer. The program is designed to help low-income homeowners who cannot afford the reset on their mortgage. The recently passed housing bill authorizes the FHLBanks to use affordable-housing funds to assist and refinance troubled borrowers. The San Francisco bank can be found on the Web at http://www.fhlbsf.com.