Say goodbye to Fannie and Freddie…sort of.

Posted by Paul Lebowitz on Wednesday, September 2, 2009 · 4 Comments 

Say Goodbye to Fannie and Freddie…sort of.

Meet the MCGE, that’s pronounced McGee, and it aims to provide a form of stability guarantee for investors who are currently quite risk averse when it comes to buying pools of mortgages. This could mean a floor under or at very least a stabilization of the mortgage securitization market. That in turn could mean a return of the money flow to the mortgage market by Wall Street investors. And that my friends could mean price stability in the local Westport Mortgage housing market…sort of.

Simply put, the MCGE buys mortgages from banks, pools them into securities, pays an insurance premium to a new government fund and then sells them to investors with government guarantees against the default of those securities. So the investors take the interest rate risk but they are not taking a credit risk. The MCGE takes the credit risk, but the new insurance fund guarantees the principal and interest payment on the mortgage securities should something bad happen at the MCGE.

The U.S. Mortgage Bankers Association said on Wednesday it will ask Congress to transform mortgage lenders Fannie Mae, Freddie Mac into several smaller, privately held companies that would issue mortgage securities with a government guarantee.

The proposed framework from the industry group would give successor entities to Fannie Mae and Freddie Mac the authority to create securities backed by certain types of mortgage.

The new companies would guarantee the securities against defaults on underlying mortgages and pay fees into a federal insurance fund that would make good on interest and principal payments to bondholders if the companies were unable to make them. “The government has an important, limited role to play to ensure a stable flow of funds for mortgages.” said Michael Berman, MBA’s vice chairman and chairman of the Council on Ensuring Mortgage Liquidity.

The MBA plan calls for government agencies, rather than the new companies, to assume the “mission” of promoting affordable housing that Congress has long assigned to Fannie and Freddie.

The number of new companies would be initially limited to two or three, the MBA said.

Here is the MBA press release:

The centerpiece of MBA’s recommendation is the creation of a new line of mortgage-backed securities (MBS). Each security would have two components – a loan level guarantee provided by privately-owned, government-chartered and regulated mortgage credit-guarantor entity (MCGE) and a security-level, federal government-guaranteed wrap.

According to MBA Vice Chairman Michael Berman, the chief architect of the plan, who says, “The key here is to virtually eliminate taxpayer risk and keep the risk in the private sector.”

Berman says the MCGEs would be highly regulated, kept to a certain size, and would use other tools to manage their risk, like private mortgage insurance, credit default swaps, etc. When asked, Berman stated that certain types of loans would be eligible.

“In our view it should be a core set of products. For the initial blueprint, it would be the conforming types of products both single family and multi-family that the GSE’s currently use, but clearly we want them to be proven, historically proven kinds of products, and the regulator would be sure that the subprime types of products, payment options arms, etc. would not be approved for the MCGEs to moderate their risk.”

Would there be jumbos involved or just conforming?

“Part of our proposal is purposely painted with white spaces in the canvas. We have not tried to fill in everything. We believe this is the beginning of the dialogue and we are looking for input. We clearly do not want the MCGEs to usurp the whole market. We believe that there continues to be a place, and needs to be a place, for private label securities as well as for FHA and VA.”

As you can see, it’s careful, but it would also involve dismantling the behemoths, Fannie and Freddie, and transferring the intellectual capital there, as well as the servicing relationships and the systems, i.e. the good assets, to the MCGEs and cordoning off the bad assets to be dealt with otherwise. Sort of like the good bank, bad bank model of the S&L crisis.

The MBA has already shopped this across DC, stopping at Treasury, the White House and the Federal Reserve. Berman says the Administration is, “in a listening mode,” but he adds, “they did say that they did feel this was the first plan that had really connected all the dots, and they listened carefully and asked lots of questions.

The former head of Ginnie Mae, Joe Murin, calls the proposal “reasonable.” He doesn’t love the idea that it’s government backed, but admits, “There are things that you have to do when you have to do them. Right now, we are not going to have a robust housing market until we have a robust mortgage market, and the only way that is going to happen is to move away from what we have today, and design an environment that we have for the future. We don’t want to nationalize Fannie and Freddie; that is just my opinion.”

So get ready for the McGee for all the McMansion’s…sort of.