Investor Update
March 22, 2016

Public Policy Luncheon: Women in Housing and Finance

Thank you for inviting me to your monthly policy luncheon.  The Women in Housing and Finance forums create important opportunities for dialogue across different sectors of the housing and finance arena.  I’m also delighted that Mary Ellen Taylor, a past president of Women in Housing and Finance, is a valued member of our staff at the Federal Housing Finance Agency (FHFA), and I want to thank her for joining me here today.

In a speech last month at the Bipartisan Policy Center, I described a number of steps that Fannie Mae and Freddie Mac (the Enterprises) have taken to make progress in the years since FHFA placed them into conservatorship.  Today, I want to focus on just one of those areas, the progress made in the area of loss mitigation.

The crisis that started more than eight years ago was precipitated by a combination of widespread predatory and unsustainable lending, a precipitous drop in house prices, and massive job losses.  This lethal combination left families all across the country trapped in mortgages they couldn’t afford and struggling to make their mortgage payments. 

As a result, a staggering number of borrowers became delinquent on their mortgages.  Just looking at Enterprise loans alone, the number of borrowers behind on their mortgage payments peaked in the first quarter of 2010, with about five percent of all Enterprise borrowers being at least 90 days delinquent on their mortgage.  This totaled over 1.5 million borrowers, a shocking number to consider.

House price declines pushed many borrowers “underwater,” a term that aptly describes borrowers who have a mortgage balance greater than the market value of the borrower’s home.  FHFA’s house price index shows that, on average across the country, house prices dropped over 20 percent from their peak during the pre-crisis period to their lowest point during the crisis.  By the end of 2011, these declines left 4.6 million borrowers with Fannie Mae and Freddie Mac backed loans underwater.  While most underwater borrowers remained current on their mortgage payments, over 580,000 underwater borrowers were at least 90 days delinquent in December 2011, roughly half of all Enterprise borrowers who were seriously delinquent at that time.  

In this crisis environment, the Enterprises and the broader industry did not have the necessary programs, systems, or capacity needed to help struggling borrowers sufficiently.  In fact, I think it’s safe to say that loss mitigation as we know it today did not exist prior to the crisis.  The strategy that had almost always been relied upon heavily in the industry when a borrower defaulted was to proceed to foreclosure or other liquidation options as quickly as possible.   

Once the crisis began, it soon became apparent that the industry needed better solutions that were capable of helping borrowers avoid foreclosure.  The U.S. Department of the Treasury worked to create a single set of standards for the industry by creating the Making Home Affordable program.  FHFA also started to work extensively with the Enterprises to align their servicing policies and develop successful loss mitigation tools that included loan modifications and streamlined refinance options.  These changes supported multiple FHFA objectives:

• They helped more borrowers avoid foreclosure and stay in their homes;
• They helped support the financial stability of the Enterprises by reducing the Enterprises’ losses;
• By reducing vacant homes and foreclosures, they helped stabilize the value of other homes in neighborhoods and communities; and
• They helped stop the freefall of house prices and helped stabilize the economy. 

We have continued to pursue these objectives during what is now almost eight years of conservatorships. 

Over those eight years things have changed a lot, and the loss mitigation challenges we face have evolved.  Broadly speaking, the national housing market has significantly improved.   House prices across most parts of the country have rebounded.  Serious delinquency rates on Enterprise loans have dropped to about 1.5 percent.  This represents a 70 percent decline from the first quarter of 2010 to the end of 2015, although delinquencies still remain elevated relative to pre-crisis levels.  The number of underwater homeowners with an Enterprise loan has dropped by more than 80 percent since its peak at the end of 2011.  The vast majority of the remaining underwater borrowers are current on their mortgage, although about nine percent are seriously delinquent. 

But this rising tide has not lifted all areas equally.  Negative equity remains a significant issue in states hit hardest by the crisis, and it remains especially an issue in lower-income and minority communities.  Throughout the country, there are still communities or neighborhoods that struggle with home values that have not recovered, weak sales markets, and vacant and abandoned properties. 

Addressing the Ongoing Effects of the Foreclosure Crisis

At FHFA, our work is on both sides of this equation – continuing to implement strategies to help borrowers still caught in the long, persistent reach of the foreclosure crisis and working to create post-crisis programs that will survive the end of the Home Affordable Modification Program (HAMP) and the Home Affordable Refinance Program (HARP).

Before I talk about our work that looks toward the future, let me turn to what we are continuing to do to address those borrowers with unresolved delinquencies.   

Non-performing loan sale programs at Freddie Mac and Fannie Mae.  In 2014, FHFA began efforts with Freddie Mac and Fannie Mae to develop solutions for the deeply delinquent, non-performing loans (NPLs) in the Enterprises’ portfolios.  The Enterprises’ ability to purchase non-performing loans out of mortgage-backed securities helps facilitate loss mitigation.  But, holding deeply delinquent loans on their balance sheets for extended periods of time poses a number of risks to the Enterprises, including both credit risk and asset liquidity risk.  In addition, these long-term delinquencies are obviously very harmful for individual borrowers, who have increasing arrearages and protracted uncertainty about the status of their mortgage as they face what may appear to them to be the inevitability of foreclosure.

To address this problem from both the borrower perspective and the Enterprise perspective, we have worked with the Enterprises to develop programs to sell their non-performing loans to new buyers and new servicers.  We believe this will help mitigate the Enterprises’ losses on the loans and avoid the cost of retaining these loans on their books.  And, as I will describe in more detail, we also think that it will increase the likelihood of a positive result for many seriously delinquent borrowers.  

As of the end of February of this year, Fannie Mae and Freddie Mac had sold over 29,000 mortgages with a total unpaid principal balance of $5.8 billion through their NPL sales.  To put this in context, approximately 200,000 Enterprise borrowers were at least one-year delinquent on their mortgages at the end of 2015.  While this one-year mark is usually the minimum delinquency threshold for loans to be included in Enterprise NPL sales, most of the loans sold to date were even more delinquent than one year.  On average, loans included in Enterprise NPL sales have been 3.1 years delinquent.  Almost half of the loans in the NPL pools have been 3 or more years delinquent.  Nine percent have been at least 5 years delinquent.

These long-term delinquencies have persisted despite multiple attempts to reach these borrowers and offer them loss mitigation solutions.   The Enterprises’ requirements obligate servicers to engage in sustained outreach to help borrowers avoid foreclosure wherever possible.  Severely delinquent borrowers have generally been solicited for loss mitigation by their servicer multiple times, and servicers are required to make continuous attempts at quality right party contacts.  For a variety of reasons, however, this outreach is often unsuccessful.  

Selling these seriously delinquent loans to new owners is a way to create a fresh start for loss mitigation purposes.  Purchasers of these loans have a financial interest in working with borrowers to avoid foreclosure and to help borrowers re-perform on their mortgage.  The new owners generally contract with specialty servicers that have extensive experience and better track records at offering loss mitigation solutions to seriously delinquent borrowers, and we believe they will be more likely to get better results.  Given the impasse with the prior servicer, borrowers may be more likely to respond to outreach and loss mitigation solicitations by a new servicer using new techniques. 

For these reasons, we started the NPL programs with the belief that the process, done the right way, would produce better foreclosure prevention results compared to what had been happening.  To help ensure the success of our commitment to NPL sales, in March of 2015 FHFA put in place a number of enhanced requirements for the Enterprises’ NPL sales.  These requirements included loss mitigation standards and a mandate that the new servicer must make renewed attempts to reach borrowers about their options.

Under our requirements, new buyers and new servicers must offer a waterfall of loss mitigation options that start with loan modifications.  For borrowers with loans originated before 2009, the new buyer and new servicer must begin by giving the borrower another chance to get a HAMP modification.  For borrowers with more recent loans, the new buyer and new servicer must offer a proprietary modification that provides each borrower an opportunity to sustainably re-perform on their mortgage.  Foreclosure may be used by these new buyers and servicers only as a last resort. 

Like FHFA’s work in the Neighborhood Stabilization Initiative, our NPL sales requirements also emphasize the importance of working with nonprofit organizations and minority and women-owned businesses.  To provide better opportunities for non-profit organizations to purchase these loans, each Enterprise has developed a process for offering small pools of non-performing loans that are geographically concentrated.  This is designed to make the bids more affordable and the loans more manageable for smaller bidders and local non-profits.

Our enhanced requirements also require buyers and servicers to collect and provide information about borrower outcomes.  These requirements have been in effect for about one year, and we are now in the process of evaluating the results to assess outcomes and to determine whether further adjustments should be made.  Consistent with what FHFA has adopted as our standard practice, we will be transparent about these results and will provide details on any changes that result from our review. 

We are currently working with Fannie Mae and Freddie Mac to publish the first round of publicly available data on borrower outcomes from the Enterprises’ initial NPL sales.  Some advocates and municipalities have criticized or expressed concerns about Enterprise NPL sales, and we look forward to having a dialogue and ongoing engagement with stakeholders about these results and about how to improve the process.  I do think it is important, however, to emphasize that these are the most difficult delinquencies to resolve.  While we know how critical it is to have strong loss mitigation standards in place for these sales, we also know, unfortunately, that no strategy will help every deeply delinquent borrower stay in his or her home.  We certainly expect NPL sales by the Enterprises to yield better results for borrowers than simply allowing the regular process to run its course.  But everyone should also acknowledge that the long durations and adverse circumstances associated with most of these delinquencies will lead a number of them to result in foreclosures or foreclosure alternatives, such as short sales.   

Principal Reduction.  FHFA has received substantial criticism, both before and since I became the Director, for not allowing the Enterprises to offer principal reduction as a part of our loss mitigation strategy.  So, I would be remiss not to comment briefly on this.  For the two years that I have been the Director, FHFA has been methodically studying this issue.  My objective, as I have said on numerous occasions, has been to determine whether we could find a “win-win” strategy employing principal reduction that would benefit both borrowers and the Enterprises. 

Many have asked why it has taken so long to reach a conclusion.  The direct answer is that making this determination involves consideration of an extremely complicated set of factors.  These factors include, among others, balancing the decreasing number of borrowers who are both underwater and seriously delinquent with the cost and significant operational complexity for the Enterprises and servicers to implement a principal reduction program. 

It would not be an overstatement to say that this has been the most challenging evaluation the Agency has undertaken during my time as Director.  We are, however, drawing close to the end of this difficult process, and I expect to announce a decision within the next 30 days about whether we have been able to find a “win-win” principal reduction strategy or whether, on the other hand, we will take principal reduction off the table entirely.  So, while I don’t have an answer today, I invite you to stay tuned for more on this in the near future.  As always, our decision and the reasons for making it will be documented and transparent.  

Developing Post-Crisis Loss Mitigation Programs

After more than eight years since the beginning of the foreclosure crisis, it is also our obligation to look ahead to the future of loss mitigation.  Dealing with the crisis has provided us substantial information and experience to ensure that we are not “flying blind” as we transition to the post-crisis era.

Last month, FHFA hosted a loss mitigation symposium for housing experts and stakeholders to discuss the future of loss mitigation in a post-crisis environment.  Developing a strategy in advance of the expiration of some of the Enterprises’ key loan modification programs, like HAMP and HARP, is one of our conservatorship goals for the Enterprises this year.  It is also an important goal for the entire housing industry.  Consequently, our decisions about future Enterprise loss mitigation efforts must reflect broader industry experiences and must be developed with substantial feedback from industry stakeholders. 

Lessons learned during the foreclosure crisis. As we look beyond the foreclosure crisis, it is important to keep in mind the lessons we have learned about loss mitigation and how these lessons can help borrowers who may struggle to pay their mortgages in the future.  We can all honestly acknowledge that some things tried as part of loss mitigation efforts didn’t work perfectly and that it took multiple bites at the apple to figure out how best to help struggling borrowers and prevent unnecessary losses. 

Through collective efforts, the loss mitigation solutions available to borrowers have evolved over time as we have determined what strategies work best.  The HAMP program, which was established by the Treasury Department at the height of the crisis, went through a number of iterations, each designed to strengthen the core objective of making modifications affordable for borrowers.  HAMP also had the beneficial impact of helping to standardize practices across the servicing industry.   

FHFA also made a series of enhancements to the HARP program, which provides eligible borrowers with a streamlined refinance opportunity.  With these enhancements, the HARP program turned out to be a significant success at stabilizing neighborhoods, helping borrowers stay in their homes, and lowering credit risk to the Enterprises.  Through HARP, the Enterprises helped more than 3.3 million homeowners refinance their mortgage, saving them on average $2,200 a year in reduced mortgage payments.

Several years into the crisis, FHFA also launched the Servicing Alignment Initiative to develop one set of servicing rules for both Fannie Mae and Freddie Mac.  This was designed to establish consistent loss mitigation practices that helped mitigate Enterprise losses and that also helped borrowers stay in their homes whenever possible.  Part of this initiative involved developing the standard modification and the streamlined modification, which provided options for borrowers who were either ineligible for HAMP or looking for a more simplified modification process. 

The period leading up to the expiration of HAMP and HARP at the end of 2016 represents an important opportunity to take a step back and apply the lessons we have learned from the crisis to help structure a post-crisis loss mitigation framework. 

• Let me talk about a few of the lessons we learned.
• We learned the importance of reaching borrowers soon after they become delinquent.
• We learned that the amount of payment reduction is the best predictor of a modification’s success.
• We learned that clear and simplified program rules make the process easier for both borrowers and servicers.
• We learned that extensive documentation requirements about borrower income and assets can quickly overwhelm borrowers and servicers and can end up becoming an insurmountable barrier to success.  This is a prime reason that the streamlined modification has been so successful.
• We learned the importance of reaching the right balance between providing borrowers with loss mitigation options and not overburdening them with too much complexity.  In short, simplicity matters.  
• And, we learned that clear and continuous contact from servicers throughout a borrower’s delinquency helps borrowers navigate what can be a stressful time and confusing process and that guidance and assistance from trusted advisors, such as housing counselors or community-based organizations, are important resources for borrowers. 

Loan modifications after HAMP.  With these lessons in mind, we are working with the Enterprises, the servicing industry, consumer groups, and other stakeholders to develop post-HAMP loan modification options for borrowers.  We want to build on the success of our recent symposium, and we will continue to have further conversations and discussions with stakeholders. 

In addition to ensuring that the Enterprises’ loss mitigation options are consistent with what we’ve learned during the crisis, we are also thinking critically about ways the post-crisis era will look different from the period we’ve just lived through.  For example, if we anticipate that interest rates will rise, this would impact how the Enterprises go about reducing borrower payments in loan modifications.  We are also considering what loss mitigation adjustments would be appropriate given the stronger economy compared to the high unemployment rate during the crisis.  Additionally, our analysis will consider the implications of loss mitigation changes for investors in the Enterprises’ credit risk transfer transactions.

We understand that it will take servicers time to implement any changes that are announced.  So now is a good time for me to highlight and remind everyone that the Enterprises’ standard and streamlined modifications will continue to be options for Enterprise borrowers going into 2017.

Future post-HARP, high loan-to-value refinance program.  As HARP winds down, we are also working to make sure that borrowers with high loan-to-value (LTV) ratio loans have a refinance option in the future.  While we hope never to see another widespread crisis of the kind we have experienced, having a solution in place will be important in the event there are regional or localized economic disruptions that lead to negative equity in future home loans.  Having a permanent program available that is capable of refinancing borrowers with underwater mortgages will add needed liquidity in the market in these situations.

FHFA and the Enterprises are currently conducting outreach to lenders, mortgage insurers, and investors to understand the operational impacts and feasibility of a high-LTV program after HARP.  During our outreach discussions, we are reminding industry participants that borrowers who previously completed a HARP refinance will not be eligible to refinance under a new high-LTV program.  When we conclude our outreach, the Enterprises will publish an announcement that reflects the eligibility guidelines and product terms that we believe will meet the needs of high-LTV borrowers in the future. 

Before HARP expires at the end of the year, however, we are making our final push for eligible borrowers to take advantage of the program.  Despite extensive outreach efforts by the Enterprises and their lender partners, over 360,000 borrowers nationwide still remain both eligible for HARP and able to benefit financially from HARP.  FHFA and the Enterprises are attempting new methods to raise borrower awareness through social media and webinars, and we are asking stakeholders to help us get the word out about HARP before the end of the year. 

Conclusion

Thank you again for having me here today.  I hope my discussion about loss mitigation at the Enterprises provides some broader insight into the different initiatives we have underway.  We are in the midst of a transition as we address the dual challenges of creating a strong post-crisis loss mitigation framework while also implementing final strategies to help borrowers and neighborhoods still adversely impacted by the crisis.  As FHFA, the Enterprises, and the broader industry conduct this work, we can all benefit from the lessons learned through adversity about how to assist struggling borrowers while minimizing losses at the Enterprises.  We look forward to engaging with the industry and other stakeholders as we continue this important work.

Contacts:
Media: Corinne Russell (202) 649-3032 / Stefanie Johnson (202) 649-3030

Consumers: Consumer Communications or (202) 649-3811

Source: FHFA