The controversy over GSE pricing is symptomatic of a bigger problem

Hot on the heels of dual controversies surrounding GSE delivery fees, the Federal Housing Finance Agency has released a new RFI regarding the GSE pricing framework. This is sure to result in a flurry of advocacy efforts attempting to prevent the g-fee increases that are disclosed within the RFI itself.  Unfortunately, this is not the most important conversation to be having.

I applaud the FHFA for releasing the RFI, as pricing is indeed a topic that should be discussed. The controversy over recent proposed changes to delivery fees indicates that the Agency and the mortgage industry are not on the same page.  We have a situation where from the FHFA's perspective, their proposed (and now withdrawn) introduction of a risk-based DTI fee combined with the flattening of risk-based credit score/LTV matrices is logical. Meanwhile, the mortgage industry's outrage and puzzlement was so great that it spilled into mainstream media outlets that have ignored the GSEs for the past 15 years.

What the RFI reveals is what I have told anyone willing to listen: the Enterprise Regulatory Capital Framework is going to dramatically transform GSE pricing in ways the industry hasn't begun to contemplate. Understanding the ERCF means being able to mentally reconcile increasing risk-based pricing (the DTI-based fee) and decreasing the level of risk-based pricing (the credit score/LTV matrices).  What's more, people need only read Fannie Mae and Freddie Mac's comment letters during the rulemaking process to understand that g-fees will ultimately experience a dramatic increase as a result of the ERCF.

So why are people so surprised?

Part of the blame falls to the FHFA. The 2018 proposed rule wasn't perfect, but it would have resulted in g-fees that would have been relatively unchanged in the aggregate. The 2020 re-proposal was a different beast. Simply put, while the ERCF was billed as being more equitable and less volatile, the FHFA failed to adequately disclose the impact of the ERCF on g-fees. How do I know this? Because the shock on the part of the mortgage industry appeared about as genuine as you're going to find in matters relating to public policy. The FHFA was uniquely well positioned to be able to adequately disclose the impact on g-fees. After all, Fannie Mae and Freddie Mac told us of the potential for price increases in their comment letters, and the FHFA has proven itself quite capable of analyzing g-fees.

That being said, we can't let the industry off the hook. While many participants were entirely correct that the ERCF was complex and hard to understand, and that more transparency was needed, most missed the obvious fact that was staring them in the face. With the 2020 re-proposal, capital requirements went up by 70% from the 2018 version when applied to identical books of business. If capital requirements were to increase by a magnitude of even half that, it would be naïve to think that pricing would remain unchanged – and yet g-fee increases did not appear to be the greatest concern, or of concern at all in some cases. The standard advocacy playbook was apparently inadequate to engage in a discussion of the math contained within the ERCF.

As long as the ERCF is in place and the GSEs are expected to earn a viable rate of return, prices are going to have to increase. Unfortunately, we don't have much in the way of specifics, and by the time there is a g-fee report to Congress that could shed light on the situation, we'll be well past the deadline for responding to the RFI.

One solution to this problem is to revisit the ERCF. Again. It's been done for a variety of subjects, so it is not without precedent.

The ERCF is the victim of an identity crisis. If it is to be a risk-based capital rule, then strip out some of the elements that undermine this, including the excessive amount of buffers. While we're at it, we probably should have a real conversation centered around the countercyclical adjustment where we lay all the cards on the table.

In 15 years of conservatorship, no Administration has attempted to create a line of demarcation between the FHA and the GSEs. A truly risk-based approach could be the start of this, and rulemaking can be used to properly incentivize the GSEs to find a way to get mission-centric business done without creating a Frankenstein's monster of a capital rule.

Fixing the ERCF should be a prerequisite to changing pricing. Director Thompson has demonstrated a willingness to engage the industry and listen. It's time for industry leaders to complete their overdue homework and present proposals that will result in a consistent capital regime that is understandable and transparent.