The Federal Reserve may again exercise its power to drive down mortgage rates in order to stimulate the economy, but any savings for homebuyers may be at least partially offset by a new law that raises Fannie Mae and Freddie Mac’s guarantee fees and diverts that money to the Treasury.
A growing number of economists think that the Federal Reserve’s worries about housing markets — detailed in a white paper to Congress this month — mean it will soon launch "QE3," a third round of quantitative easing.
The Fed has put a lid on mortgage rates before, buying $1.25 trillion in mortgage-backed securities to help bring rates on 30-year fixed-rate loans from above 6 percent in late 2008 to just under 5 percent by the time the program wound down in March 2010.
Rates slid further in 2011 as fears about the European debt crisis made mortgage-backed securities — bonds that fund most home loans — popular with investors, pushing down yields.
With mortgage rates hovering at or near record lows this week, it might be hard to imagine home loans getting any cheaper. Freddie Mac’s weekly Primary Market Mortgage Survey showed rates for 30-year fixed-rate mortgages averaged 3.88 percent with an average 0.8 point for the week ending Jan. 12, a new low in records dating to 1971.
Rates for "plain vanilla" 30-year loans, which averaged 4.74 percent a year ago, have now been under 4 percent for seven weeks in a row.
But economists at Citigroup, Miller Tabak and Morgan Stanley think the Fed is on the verge of injecting another $750 billion to $1 trillion into the economy, and that one way to do it would be by resuming purchases of mortgage-backed securities, CNBC reported this week. Some think the move could be announced as soon as next week, when the Federal Reserve’s Open Market Committee is scheduled to meet.
In a Jan. 4 white paper describing the "extraordinary problems plaguing the housing market," the Fed said obstacles to recovery include an excess supply of vacant homes, tight mortgage credit, and the costs of an "unwieldy and inefficient" foreclosure process.
The challenge will be reconciling the size and mix of the existing housing stock with current tight lending standards, the Fed said, suggesting policymakers get behind the conversion of foreclosed properties into rentals or find ways to relax lending standards without returning to the excesses of the boom.
"The significant tightening in household access to mortgage credit likely reflects not only a correction of the unsound underwriting practices that emerged over the past decade, but also a more substantial shift in lenders’ and (Fannie Mae and Freddie Mac’s) willingness to bear risk," the Fed warned.
"Indeed, if the currently prevailing standards had been in place during the past few decades, a larger portion of the nation’s housing stock probably would have been designed and built for rental, rather than owner occupancy."
Fannie Mae and Freddie Mac’s regulator, the Federal Housing Finance Agency, is already looking at ways to convert homes repossessed by Fannie and Freddie into rentals — perhaps through bulk sales to investors.
But on the lending front, a bill passed by lawmakers in December to fund a two-month extension of the payroll tax cut may force Fannie and Freddie to raise their guaranty fees sharply this year and next, increasing the cost of taking out a mortgage.
In taking a first step to comply with HR 3765, the Temporary Payroll Tax Cut Continuation Act of 2011, FHFA last month ordered Fannie Mae and Freddie Mac to increase their guarantee fees by 10 basis points, or 0.1 percent, by April 1. The bill also imposes a new annual premium of 10 basis points on FHA loans, to be phased in over two years.
Many lenders have already incorporated Fannie and Freddie’s fee increases into their pricing. But HR 3765 — which was strongly opposed by the National Association of Realtors — may require Fannie and Freddie to increase their guarantee fees yet again.
The bill requires their regulator, the Federal Housing Finance Agency, to analyze whether the guarantee fees reflect not only the risk of losses on mortgage-backed securities that Fannie and Freddie guarantee, but the cost of capital allocated to similar assets held by other fully private regulated financial institutions.
If so, the bill requires additional Fannie and Freddie guarantee fee increases, although they can be phased in gradually over two years.
Bank of America Merrill Lynch analyst Ralph Axel expects that Fannie and Freddie will have to raise guarantee fees again before they are consistent with private-market pricing, as stipulated by lawmakers.
"I don’t know where they’re going to bring the fees up to — I think that’s really the big question," Axel said, noting that FHFA has promised to release its assessment of the situation early this year.
"But I think there’s a lot of misunderstanding in the market about this 10 basis points — that that’s going to be it," he said of the increase scheduled to take effect April 1.
In March 2008, Fannie and Freddie implemented an upfront "adverse market charge" of 25 basis points, equivalent to an ongoing guarantee fee of about 5 basis points, on average. A basis point is one hundredth of a percent.
According to FHFA, the average total guarantee fee charged by Fannie and Freddie on single-family mortgages increased from 22 basis points in 2009 to 26 basis points in 2010.
The Congressional Budget Office estimates that the guarantee fee increases mandated by Congress will generate more than $3 billion in revenue per year for the Treasury, or a total of $35.7 billion through 2021.
Instead of being collected by Fannie and Freddie, any revenue from fee increases will go directly to the government for 10 years, and can’t be applied to pay down the debts Fannie and Freddie have amassed since they were placed in conservatorship in 2008.
That may be by design. An unnamed House Republican staffer told MarketWatch that lawmakers who want to see Fannie and Freddie abolished are worried that if they become profitable, they could buy themselves out of conservatorship.
The fact that the government will pocket the revenue from the fee increases instead of Fannie and Freddie means they are at an increased risk of being downgraded by rating agencies, Axel said, because it may demonstrate reduced political willingness for long-term government support.
"The final price for the deal was not well-publicized and was actually very high for Fannie and Freddie and very rewarding to (Fannie and Freddie) critics among both parties," Axel said in a Jan. 6 research note.
Axel said it’s increasingly likely the government will have to convert parts of Fannie and Freddie’s operations — such as the MBS guarantee business and "real estate owned" (REO) disposition — into explicit government agencies.
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