FHFA: Fannie & Freddie Credit Risk Transfers “Untested”

A Federal Housing Finance Agency report highlighted the dangers of low interest rates for Fannie Mae and Freddie macsingle-family credit risk transfers.

Despite increased investor uncertainty at the onset of the pandemic, GSE-backed mortgages have exceeded expectations, the report notes. Although the markets experienced a significant liquidity disruption in March 2020, questions remain about the strength of stressed CRTs.

The CRT structure remains “untested by a generalized serious loss event”, the report Remarks. Greater credit risk coverage may be needed, he argued.

The FHFA report also raised concerns about how a period of rapid prepayments followed by an increase in delinquencies could impact the credit risk protection of GSEs.

In a low interest rate environment – showing few signs of slowing down – borrowers rushed to refinance, which reduced credit risk coverage for GSEs. As the credit risk coverage is exhausted, the mortgages remaining in the pool tend to be the riskiest.

“The risk is that, as a structure’s credit risk coverage is paid off, the riskier mortgages are the most likely to stay in the benchmark pool because they are generally the least likely to prepay. », Says the FHFA report.

After taking a break in March 2020, Freddie mac took over the CRT show in July 2020. At the end of 2020, the overall proportion of Freddie Mac risk transfer to the unpaid principal balance had exceeded the levels of December 2019. Fannie Mae, however, as of February 2021, had still not resumed issuing from CRT.

Freddie Mac implemented the CRT structure in 2013 to reduce the taxpayer’s exposure to his mortgage risks, shifting the risk of credit losses on the mortgages he insures to investors.

In return for taking part of this risk, Fannie Mae and Freddie Mac pay the investors. These investors can choose from four bands of risk exposure, the first being the safest and the fourth taking the highest risk of loss. GSEs keep the riskiest tranche, offering the least risky tranches to investors.

From 2013 to February 2021, GSEs lost $ 126 billion in risk, at a net cost of $ 15 billion. The report estimates that the net cost to GSEs could reach $ 32 billion over the remaining life of active CRTs. In a “highly stressed” scenario, with market conditions comparable to those of the 2008 financial crisis, the net cost to GSEs would be $ 20.6 billion.

The mortgage principal balance underlying the CRT transactions stood at $ 1.7 trillion, as of February 2021, just under a third of the total principal outstanding balance of individual GSE families.

About Teresa G. Wilson

Check Also

What a Fed rate hike means for your wallet

ATLANTA, Ga. (CBS46) — The Federal Reserve is raising interest rates for the fifth time …

Leave a Reply

Your email address will not be published.