Ginnie Mae stress testing should not apply to smaller mortgage banks
The Community Home Lenders Association recently submitted a comment letter to Ginnie Mae making the case that stress testing is not an appropriate assessment tool for smaller Ginnie Mae issuers.
In January, CHLA released a report on Ginnie Mae explaining how the agency has a statutory responsibility both to facilitate access to mortgage credit for consumers and to run the program in a safe and sound manner. CHLA's comment letter concluded that stress testing is neither necessary nor appropriate to supervise smaller issuers and could unnecessarily reduce small issuer participation, thus undermining their critical access to credit role.
Why is this important? Over the last decade, nonbank lenders (also known as independent mortgage bankers or IMBs) have become the predominant issuers of Ginnie Mae securities. The increased role of small and mid-sized community-based IMB Ginnie issuers has increased competition, providing more consumer choice and personalized servicing, with an emphasis on serving borrowers not served by the large bank issuers. As Ginnie Mae noted in its 2020 plan, "... nonbanks have led the way in improving access to credit for low- and moderate-income borrowers — a critically important function in an age of overly tight credit."
CHLA is mindful of Ginnie Mae's responsibility for sound financial supervision. CHLA has publicly supported numerous steps Ginnie Mae has recently taken, including curbing the churning of VA loans, strengthening counterparty risk management (e.g., APB 18-07), and the Ginnie Mae 2020 plan (particularly the emphasis on its largest issuers). When Ginnie Mae introduced stress testing last year, applying it to its 15 larger issuers, CHLA applauded this focus on the largest issuers that constitute the bulk of Ginnie Mae's risk.
However, it appears that Ginnie Mae may now be considering stress testing for even the smallest IMB issuers. CHLA is calling on Ginnie to reject such an approach for a number of reasons.
Ginnie's largest issuers represent their most significant financial risk because they represent the majority of their issuance volume. But Ginnie's largest issuers also represent a more significant comparative risk, because it is costlier and more difficult to arrange the transfer of a large issuer’s portfolio, for the simple reason that there are far fewer servicers capable of taking over a large portfolio than a small one.
We understand that Ginnie Mae might prefer not to have to supervise a large number of smaller issuers, that there are economies of scale in regulatory supervision. However, if Ginnie Mae needs more staff or more flexible pay scales to adequately supervise all issuers, Congress should provide resources and authority for both, particularly since Ginnie is expected to make a net profit of $1.9 billion this year. Ginnie Mae is a government agency with a public purpose, and a broad, competitive market of issuers is critically important to consumers.
However, the most important reason stress testing is not appropriate for smaller issuers is that it is somewhat unprecedented to use this tool for small entities. Dodd-Frank required stress testing only for a handful of systemically important financial institutions — and in the case of banks, only to those with more than $50 billion in assets. The purpose of stress testing is to see if such entities could survive "exceptional but plausible macroeconomic shocks," in order to guard against a shock to our financial system of a failure of such mega-firms. Smaller IMBs do not, either individually or collectively, pose this risk.
Moreover, as CHLA noted in its comment letter, "Ginnie Mae already has sufficient financial tools to regulate smaller issuers." Existing bright line, transparent liquidity and net worth ratios that Ginnie Mae uses for program eligibility, combined with qualitative supervision and monitoring of an issuer's management, are more than sufficient for smaller issuers with a traditional lending business and a simple financial structure.
In fact, Ginnie Mae's use of stress testing to evaluate and potentially terminate smaller IMB issuers could have the exact opposite result of its intended financial effect. An exodus of smaller lenders out of the program would inevitably increase Ginnie Mae issuer concentration and thereby increase its financial and systemic risk.
CHLA's comment letter also emphasized that any use of stress testing with respect to smaller issuers should be fully beta tested for its impact, including any potential unintended bias or impact on smaller issuers. Ginnie Mae’s stress testing model was based on large issuers, and does not appear to adequately reflect important qualitative differences between larger and smaller issuers. Implementation before this is fully analyzed and beta tested could result in a reduced number of smaller issuers, which in turn would be difficult to reverse.
CHLA closed its comment letter by urging Ginnie Mae to proactively communicate whatever their plans are about stress testing with warehouse lenders that serve smaller IMBs. Full transparency is important to avoid these lenders reducing credit to smaller IMBs merely based on a fear about what could happen — an outcome that could actually increase Ginnie Mae risk.
An important strength of Ginnie Mae is its broad network of issuers. Let's protect homebuyers and borrowers by keeping it that way.