Small Lenders Worry GSE Moves Will Leave Them Behind

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As Fannie Mae and Freddie Mac continue to experiment with up-front risk sharing deals, some small mortgage lenders are worried they will be left out of the action.

Several community lender groups are raising concerns that private mortgage insurance companies could offer volume discounts to attract large lenders, which would place midsize and smaller lenders at a competitive disadvantage.

To level the playing field, the groups want the Federal Housing Finance Agency to prohibit loan volume discounts and other concessions that could disadvantage small lenders.

"Without that protection, pricing differentials could re-emerge as the PMIs offer better pricing to very large lenders to the detriment of small lenders," said Scott Olson, the executive director of the Community Home Lenders Association, in an interview.

The government-sponsored enterprises have already been engaging in backend deals where investors take a first-loss position on a pool of loans after it has been originated and closed. Such deals haven't upset the balance of the securitization market, and don't impact a small lender's ability to securitize loans or sell them to the GSEs.

But front-end deals, in which investors bid on risk-sharing arrangements before the loans are closed and sold to Fannie or Freddie, are different. Such deals require a lender to have a commitment from a mortgage insurer or securities firm first before they can close a loan. That can create a "choke point" for small lenders, said Olson.

"Due to the scale needed to execute front-end transactions, their appeal and availability is limited to a small number of large institutions," wrote Ron Haynie, a senior vice president at the Independent Community Bankers of America, in an Oct. 11 comment letter to FHFA.

Many small lenders distrust the GSEs. Before they were seized by the government in 2008, the GSEs had a history of favoring certain lenders through discounts on guarantee fees and other concessions.

And there were accusations this summer that Freddie lowered its guarantee fee to attract certain large-scale originators and the FHFA was forced to take action to stop the practice.

"We have taken steps to ensure that Fannie Mae and Freddie Mac conduct business in accordance with FHFA guidance and do not compromise their safety and soundness by competing with one another for market share by unnecessarily reducing guarantee fees," an FHFA spokesman said.

Upfront credit risk transactions involve guarantee fee reductions because the winning bidder is accepting a portion of the credit risk, which worries small banks.

"The GSEs to us display a rather disturbing tendency to favor big lenders," said Glen Corso, the executive director of the Community Mortgage Lenders of America, in an interview.

The group is concerned large banks with securities arms could dominate the market if they are allowed to bid on risk sharing and then turn around and sell the recourse risk to other investors.

"That is what we are leery about. There has to be equal access, equal pricing and true recourse that stays with the originating lender," Corso said.

But other industry representatives see upfront risk-sharing as an attractive option, arguing it will benefit institutions of all sizes.

The U.S. Mortgage Insurers contend front-end risk sharing will attract investors and private capital to cover losses on GSE-guaranteed mortgages. It will "work very well for small lenders" and have minimal implementation costs, the group claims.

The Mortgage Bankers Association wants the FHFA to continue to build on its credit risk transfer programs and accelerate the transfer of credit risk to private investors. But it acknowledges the FHFA needs to ensure fair access for smaller lenders.

To increase their participation, the GSEs should conduct such transactions more frequently with smaller pool sizes, the group says.

"FHFA must do more to ensure that the market can build on these programs to accelerate the transfer of risk from taxpayers to private investors while remaining open to participants of all sizes and business models," wrote David Stevens, the head of the MBA, in an Oct. 11 comment letter. "Many smaller- and midsize lenders are interested in investing directly in mortgage credit they produce and have approached the GSEs to do so, with mixed success."

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