Credit risk

FHFA capital changes could stimulate credit risk transfer issuance

The Federal Housing Finance Agency revaluation Capital rules for government-sponsored companies are expected to increase the use of credit risk transfers, observers said.

Fannie Mae a has not entered into any new CRT offers since March 2020, while Freddie Mac’s issuance pace has been slower than in the past. Both agencies were reacting, in part, to former FHFA director Mark Calabria revision of the GSE framework, which required them to hold more funds for these transactions.

Until the end of last year, Fannie Mae and Freddie Mac transferred some of the credit risk over $ 4.1 trillion on mortgages with an outstanding principal balance. These have a combined risk in effect of around $ 137 billion, according to an FHFA report released in August. This includes securities issues, insurance / reinsurance transactions, senior securitizations and various risk sharing transactions with lenders.

Last year, Freddie Mac’s CRT transactions totaled $ 484 billion UPB, the highest figure since the introduction of this asset class in 2013. In the first half of this year, it reached $ 419 billion. dollars.

But for 2020, Fannie Mae made just $ 164 billion, his second lowest on record; It was not until 2013 that it made fewer transactions, at $ 32 billion.

“Some reversals of [Calabria’s capital rule] could certainly be a new source of CRT, bring Fannie Mae back to the market and make CRT more economically advantageous in the first place for both companies, ”said Eric Hagen, analyst at BTIG.

Fannie Mae shut down her broadcasts just at the start of the pandemic, but the securitization market has changed dramatically since then.

“Part of the reduction in risk transfer is due to the significant widening of credit spreads for CRT and unsecured tranches since the start of the COVID-19 pandemic last year,” a report from the Barclays analysts Anuj Jain and Pratham Saxen. “However, spreads have now normalized, but the pace of risk transfer from GSEs remains slow, driven to some extent by the capital rules that came into effect earlier this year.”

Additionally, for investors in mortgage-backed securities, CRTs are a means by which investors can compare and assess the costs of capitalizing mortgage credit risk, Hagen said.

Thus, “an increase in issuance would be a welcome development for yield-hungry credit investors, while creating perhaps the most solid backdrop for lenders who (prior to March) were sharing risk with GSEs on their banks. own creations, like PennyMac, ”he said. noted, a sentiment with which Barclays analysts agree.

“We believe that these proposed changes, if implemented, should lead to increased risk transfer from GSEs, especially in a low yield environment where spread demand is very high,” said the Barclays report. .

The changes would increase capital incentives for GSEs doing CRT transactions, Keefe, Bruyette & Woods analyst Bose George said in a report.

“While the impact on risk-based capital may vary, based on information provided by GSE, we believe minimum risk-based capital is also likely to decline by around 25%, suggesting that the risk-based capital could also be around 3%. ” he wrote.

Freddie Mac has not commented on the proposed changes. However, in its official comments on the Calabria proposal which was finalized last November, the company said: “Our recommendations would encourage purchasing additional protection rather than reducing CRT use. The 10% floor should be replaced with a 25% increase. at the level of detachment necessary to obtain complete protection against loss of stress scenarios. “

Freddie Mac had also requested that the 10% haircut on third party tranches be replaced with a modified process to apply an overall efficiency adjustment, but only to certain CRT transactions that may have idiosyncratic or higher complexity risks than existing transaction structures or sizes in used by Freddie Mac.

They are apparently in line with the revised FHFA proposal, which would replace the 10% prudential floor on the risk weight assigned to any CRT exposure retained by a 5% floor and remove the requirement that Freddie Mac and Fannie Mae must apply an overall efficiency adjustment to its retained CRT exposures.

Fannie Mae’s comment letter on the Calabria proposal proposed something similar; “To better tailor the treatment of CRT to the specific risks identified, Fannie Mae recommends eliminating the minimum risk weight of 10% on retained CRT tranches and, for single-family CRTs, increasing the overall adjustment of the CRT. efficiency, ”the agency said. that its own recommendation responded to “the fear that secured loans could be refinanced from a pool when new CRT coverage is not available”.


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