[Federal Register Volume 83, Number 137 (Tuesday, July 17, 2018)]
[Proposed Rules]
[Pages 33312-33430]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-14255]
[[Page 33311]]
Vol. 83
Tuesday,
No. 137
July 17, 2018
Part II
Federal Housing Finance Agency
-----------------------------------------------------------------------
12 CFR Parts 1206 and 1240
Department of Housing and Urban Development
-----------------------------------------------------------------------
Office of Federal Housing Enterprise Oversight
-----------------------------------------------------------------------
12 CFR Part 1750
Enterprise Capital Requirements; Proposed Rule
Federal Register / Vol. 83 , No. 137 / Tuesday, July 17, 2018 /
Proposed Rules
[[Page 33312]]
-----------------------------------------------------------------------
FEDERAL HOUSING FINANCE AGENCY
12 CFR Parts 1206 and 1240
DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT
Office of Federal Housing Enterprise Oversight
12 CFR Part 1750
RIN 2590-AA95
Enterprise Capital Requirements
AGENCY: Federal Housing Finance Agency; Office of Federal Housing
Enterprise Oversight
ACTION: Notice of proposed rulemaking.
-----------------------------------------------------------------------
SUMMARY: The Federal Housing Finance Agency (FHFA or the Agency) is
proposing a new regulatory capital framework for the Federal National
Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage
Corporation (Freddie Mac) (collectively, the Enterprises), which
includes a new framework for risk-based capital requirements and two
alternatives for an updated minimum leverage capital requirement. The
risk-based framework would provide a granular assessment of credit risk
specific to different mortgage loan categories, as well as market risk,
operational risk, and going-concern buffer components. The proposed
rule would maintain the statutory definitions of core capital and total
capital.
FHFA has suspended the Enterprises' capital requirements since the
beginning of conservatorship, and FHFA plans to continue this
suspension while the Enterprises remain in conservatorship. Despite
this suspension, FHFA believes it is appropriate to update the Agency's
standards on Enterprise capital requirements to provide transparency to
all stakeholders about FHFA's supervisory view on this topic. In
addition, while the Enterprises are in conservatorship, FHFA will
expect Fannie Mae and Freddie Mac to use assumptions about capital
described in the rule's risk-based capital requirements in making
pricing and other business decisions. Feedback on this proposed rule
will also inform FHFA's views in evaluating Enterprise business
decisions while the Enterprises remain in conservatorship.
DATES: Comments must be received on or before September 17, 2018.
ADDRESSES: You may submit your comments on the proposed rule,
identified by regulatory information number (RIN) 2590-AA95, by any one
of the following methods:
Agency Website: www.fhfa.gov/open-for-comment-or-input.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments. If you submit your
comment to the Federal eRulemaking Portal, please also send it by email
to FHFA at [email protected] to ensure timely receipt by FHFA.
Include the following information in the subject line of your
submission: Comments/RIN 2590-AA95.
Hand Delivered/Courier: The hand delivery address is:
Alfred M. Pollard, General Counsel, Attention: Comments/RIN 2590-AA95,
Federal Housing Finance Agency, Eighth Floor, 400 Seventh Street SW,
Washington, DC 20219. Deliver the package at the Seventh Street
entrance Guard Desk, First Floor, on business days between 9 a.m. and 5
p.m.
U.S. Mail, United Parcel Service, Federal Express, or
Other Mail Service: The mailing address for comments is: Alfred M.
Pollard, General Counsel, Attention: Comments/RIN 2590-AA95, Federal
Housing Finance Agency, Eighth Floor, 400 Seventh Street SW,
Washington, DC 20219. Please note that all mail sent to FHFA via U.S.
Mail is routed through a national irradiation facility, a process that
may delay delivery by approximately two weeks. For any time-sensitive
correspondence, please plan accordingly.
FOR FURTHER INFORMATION CONTACT: Naa Awaa Tagoe, Senior Associate
Director, Office of Financial Analysis, Modeling & Simulations, (202)
649-3140, [email protected]; Andrew Varrieur, Associate Director,
Office of Financial Analysis, Modeling & Simulations, (202) 649-3141,
[email protected]; or Miriam Smolen, Associate General Counsel,
Office of General Counsel, (202) 649-3182, [email protected].
These are not toll-free numbers. The mailing address is: Federal
Housing Finance Agency, 400 Seventh Street SW, Washington, DC 20219.
The telephone number for the Telecommunications Device for the Hearing
Impaired is (800) 877-8339.
SUPPLEMENTARY INFORMATION:
Comments
FHFA invites comments on all aspects of the proposed rule and will
take all comments into consideration before issuing a final rule.
Copies of all comments will be posted without change, and will include
any personal information you provide such as your name, address, email
address, and telephone number, on the FHFA website at http://www.fhfa.gov. In addition, copies of all comments received will be
available for examination by the public through the electronic
rulemaking docket for this proposed rule also located on the FHFA
website.
Table of Contents
I. Introduction
A. Rationale for Proposing a Capital Rule
B. Overview of the Proposed Rule
C. Legislative Authority and History
D. The Enterprises' Pre-Conservatorship Business and the
Financial Crisis
E. Enterprises' Business Model and Changes in Conservatorship
F. Comparison of Enterprises and Large Depository Institutions
G. Dodd-Frank Act Stress Test Process
H. Important Considerations for the Proposed Rule
II. The Proposed Rule
A. Components of the Proposed Rule
B. Impact of the Proposed Rule
C. Risk-Based Capital Requirements
1. Overall Approach
2. Operational Risk
3. Going-Concern Buffer
4. Single-Family Whole Loans, Guarantees, and Related Securities
a. Credit Risk
b. Credit Risk Transfer
c. Market Risk
d. Operational Risk
e. Going-Concern Buffer
f. Impact
5. Private-Label Securities
6. Multifamily Whole Loans, Guarantees, and Related Securities
a. Credit Risk
b. Credit Risk Transfer
c. Market Risk
d. Operational Risk
e. Going-Concern Buffer
f. Impact
7. Commercial Mortgage-Backed Securities
8. Other Assets and Guarantees
9. Unassigned Activities
D. Minimum Leverage Capital Requirements
E. Definition of Capital
F. Temporary Adjustments to Minimum Leverage and Risk-Based
Capital Requirements
III. Paperwork Reduction Act
IV. Regulatory Flexibility Act
Table Reference for Section II
Table 1: Fannie Mae's Capital Requirement Comparison to Peak
Cumulative Capital Losses
Table 2: Fannie Mae's Single-Family Credit Risk Capital Requirement
Comparison to Lifetime Single-Family Credit Losses
Table 3: Freddie Mac's Capital Requirement Comparison to Peak
Cumulative Capital Losses
Table 4: Freddie Mac's Single-Family Credit Risk Capital Requirement
Comparison to Lifetime Single-Family Credit Losses
Table 5: Fannie Mae and Freddie Mac Estimated Risk-Based Capital
Requirements as of September 30, 2017--by Risk Category
Table 6: Fannie Mae and Freddie Mac Combined Estimated Risk-Based
Capital
[[Page 33313]]
Requirements for the Enterprises as of September 30, 2017--by Asset
Category
Table 7: Fannie Mae and Freddie Mac Estimated Minimum Leverage
Capital Requirement Alternatives as of September 30, 2017
Table 8: Operational Risk Capital Requirement
Table 9: Single-Family New Originations Base Credit Risk Capital (in
bps)
Table 10: Single-Family Performing Seasoned Loans Base Credit Risk
Capital (in bps)
Table 11: Single-Family Non-Modified Re-Performing Loans Base Credit
Risk Capital (in bps)
Table 12: Single-Family Modified Re-Performing Loans Base Credit
Risk Capital (in bps)
Table 13: Single-Family Non-Performing Loans Base Credit Risk
Capital (in bps)
Table 14: Single-Family Risk Multipliers
Table 15: CE Multipliers for New Originations, Performing Seasoned
Loans, and RPLs When MI Is Non-Cancellable
Table 16: CE Multipliers for New Originations, Performing Seasoned,
and Non-Modified RPLs When MI Is Cancellable
Table 17: CE Multipliers for Modified RPLs With 30-Year Post-Mod
Amortization When MI Is Cancellable
Table 18: CE Multipliers for Modified RPLs With 40-Year Post-Mod
Amortization When MI Is Cancellable
Table 19: CE Multipliers for NPLs
Table 20: Counterparty Financial Strength Ratings
Table 21: Parameterization of the Single-Family Counterparty Haircut
Multipliers
Table 22: Single-Family Counterparty Risk Haircut (CP Haircut)
Multipliers by Rating, Mortgage Concentration Risk, Segment, and
Product
Table 23: Fannie Mae and Freddie Mac Combined Estimated Total Risk-
Based Capital Requirements for Single-Family Whole Loans,
Guarantees, and Related Securities as of September 30, 2017
Table 24: Fannie Mae and Freddie Mac Combined Estimated Credit Risk
Capital Requirements for Single-Family Whole Loans and Guarantees as
of September 30, 2017--by Loan Category
Table 25: Fannie Mae and Freddie Mac Combined Estimated Risk-Based
Capital Requirements for Private-Label Securities as of September
30, 2017
Table 26: Multifamily FRM Base Credit Risk Capital (in bps)
Table 27: Multifamily ARM Base Credit Risk Capital (in bps)
Table 28: Multifamily Risk Multipliers
Table 29: Multifamily Counterparty Risk Haircut Multipliers by
Concentration Risk
Table 30: Fannie Mae and Freddie Mac Combined Estimated Total Risk-
Based Capital Requirements for Multifamily Whole Loans, Guarantees,
and Related Securities as of September 30, 2017
Table 31: Fannie Mae and Freddie Mac Combined Estimated Credit Risk
Capital Requirements for Multifamily Whole Loans and Guarantees as
of September 30, 2017--by Loan Category
Table 32: Fannie Mae and Freddie Mac Combined Estimated Risk-Based
Capital Requirements for Commercial Mortgage-Backed Securities as of
September 30, 2017
Table 33: Fannie Mae and Freddie Mac Estimated Risk-Based Capital
Requirements for Deferred Tax Assets Assuming Core Capital Equal to
Risk-Based Capital Requirement
Table 34: Fannie Mae and Freddie Mac Estimated Risk-Based Capital
Requirements for Deferred Tax Assets Assuming Core Capital as of
September 30, 2017
Table 35: Fannie Mae and Freddie Mac Combined Estimated Risk-Based
Capital Requirements for Other Assets as of September 30, 2017
Table 36: Bifurcated Minimum Leverage Capital Requirement
Alternative Comparison to the Proposed Risk-Based Capital
Requirements
I. Introduction
A. Rationale for Proposing a Capital Rule
FHFA's predecessor agency, the Office of Federal Housing Enterprise
Oversight (OFHEO), last adopted capital rules for Fannie Mae and
Freddie Mac in 2001. The Housing and Economic Recovery Act of 2008
(HERA) gave FHFA greater authority to determine capital standards for
the Enterprises. Each Enterprise was placed into conservatorship
shortly after the enactment of HERA. FHFA suspended the statutory
capital classifications and regulatory capital requirements during
conservatorship, due to the Enterprises having entered the control of
the conservator. Today, the Senior Preferred Stock Purchase Agreements
(PSPAs) with the U.S. Department of the Treasury (Treasury Department)
limit each Enterprise's ability to hold capital.
Prior to proposing this rule, FHFA has taken other steps to assess
adequate capital assumptions for the Enterprises while they operate in
conservatorship. Despite the Enterprises' limited ability to hold
capital, FHFA identified the need to develop an aligned risk
measurement framework to better evaluate each Enterprise's business
decisions while they are in conservatorship. FHFA's purpose in pursuing
this effort was to ensure that the Enterprises make prudent business
decisions when pricing transactions and managing their books of
business. The initial framework developed as a result of this effort is
called the Conservatorship Capital Framework (CCF) and was put into
place in 2017 under FHFA's oversight as conservator.
The CCF is the foundation for FHFA's proposed capital regulation.
Although the capital requirements in the rule would need to be
suspended after adoption of a final rule because the Enterprises remain
in conservatorship and are supported by the Treasury Department through
the PSPAs which limit their ability to retain capital, the updated rule
would achieve several objectives. The proposed rule serves to
transparently communicate FHFA's views as a financial regulator about
capital adequacy for the Enterprises under current statutory language
and authorities. The fact that FHFA has suspended the Enterprises'
capital requirements does not eliminate FHFA's responsibility, as a
prudential regulator, to articulate a view about Enterprise capital
requirements. It also prepares the Agency to modify the capital
standards for future housing finance entities, even if they are
significantly different from the Enterprises, upon completion of
housing finance reform by Congress and the Administration, instead of
starting from the outdated OFHEO rules. In addition, publication of
this proposed rule will enable the public to provide input on these
important issues.
While the Enterprises currently operate under the PSPAs with the
Treasury Department, the proposed rule does not take the PSPAs into
account. The proposed risk-based capital requirements are designed to
establish the necessary minimum capital for the Enterprises to continue
operating after a stress event comparable to the recent financial
crisis. In a reformed housing finance system, policymakers would need
to determine whether to retain support like that provided by the PSPAs
for future housing finance entities.
In proposing this rule, FHFA is not attempting to take a position
on housing finance reform. Similarly, this proposed rule is not a step
towards recapitalizing the Enterprises and administratively releasing
them from conservatorship. FHFA's position continues to be that it is
the role of Congress and the Administration to determine the future of
housing finance reform and what role, if any, the Enterprises should
play in that system.
Publication of this proposed rule will assist with FHFA's
administration of the conservatorships of Fannie Mae and Freddie Mac by
potentially refining the CCF. As with other proposed rules, the
rulemaking provides the public with an opportunity to comment on the
proposed capital requirements. As FHFA reviews the public comments and
works to finalize the rule, the Agency expects to adopt material and
appropriate changes into the existing CCF.
[[Page 33314]]
B. Overview of the Proposed Rule
FHFA is proposing a regulatory capital framework for the
Enterprises that would implement two components: A new framework for
risk-based capital requirements and a revised minimum leverage capital
requirement specified as a percentage of total assets and off-balance
sheet guarantees. FHFA's proposed rule is based on a capital framework
that is generally consistent with the regulatory capital framework for
large banks, but reflects differences in the charters, business
operations, and risk profiles of the Enterprises. The proposed rule
uses concepts from the Basel framework with appropriate modifications
for the Enterprises. FHFA's proposed framework recognizes that the
Enterprises are monoline businesses with assets and guarantees heavily
concentrated in residential mortgages with risk profiles that differ
from large diversified banks.
In order to fulfill their charter responsibilities of providing
stability to the secondary mortgage market, the Enterprises must remain
as functioning entities both during and after a period of severe
financial stress. To achieve this objective, the proposed risk-based
capital framework targets a risk-invariant minimum capital level after
surviving a stress event, referred to as the going-concern buffer.
The Enterprises' assets and operations are exposed to different
types of risks. The proposed risk-based capital framework would address
the key exposures by explicitly covering credit risk, including
counterparty risk, as well as market risk and operational risk. The
proposed framework would define the requirements by risk factor for
each key group of the Enterprises' assets and guarantees.
In establishing risk-based capital requirements and updating the
minimum leverage requirement, FHFA is seeking to ensure that the two
sets of requirements complement one another. For the risk-based capital
requirements, FHFA is proposing a comprehensive framework that provides
a detailed assessment of the Enterprises' risk of incurring unexpected
losses. Instead of applying the Basel standardized approach of a 50
percent risk weight for all mortgage assets regardless of different
product features or terms, FHFA's proposed risk-based capital
requirements would use a series of approaches, which include base
grids, risk multipliers, assessments of counterparty risk, and capital
relief due to credit risk transfer transactions, to produce tailored
capital requirements for mortgage loans, guarantees, and securities.
These asset-specific capital requirements would then be applied across
each Enterprise's book of business to produce total risk-based capital
requirements.
By differentiating between the types and features of mortgage
assets, guarantees, and securities purchased by the Enterprises, FHFA
believes the proposed risk-based capital requirements would represent a
substantial step forward in articulating the relative risk levels of
mortgage loans and quantifying the associated capital requirements for
the Enterprises.
In coordination with the proposed risk-based capital requirements,
FHFA is also proposing two alternative minimum leverage capital
requirements. Each of these alternatives would update the existing
minimum leverage requirements established by statute for the
Enterprises. Under the first alternative, the ``2.5 percent
alternative,'' the Enterprises would be required to hold capital equal
to 2.5 percent of total assets (as determined in accordance with
generally accepted accounting principles (GAAP)) and off-balance sheet
guarantees related to securitization activities, regardless of the risk
characteristics of the assets and guarantees or how they are held on
the Enterprises' balance sheets. Under the second alternative, the
``bifurcated alternative,'' the Enterprises would be required to hold
capital equal to 1.5 percent of trust assets and 4 percent of non-trust
assets, where trust assets are defined as Fannie Mae mortgage-backed
securities or Freddie Mac participation certificates held by third
parties and off-balance sheet guarantees related to securitization
activities, and non-trust assets are defined as total assets as
determined in accordance with GAAP plus off-balance sheet guarantees
related to securitization activities minus trust assets. The
Enterprises' retained portfolios would be included in non-trust assets.
In proposing these two alternatives, FHFA seeks to obtain feedback
about how to balance the following considerations.
On the one hand, FHFA seeks to establish a minimum leverage
requirement that would serve as a backstop capital requirement to guard
against the potential that the risk-based capital requirements would be
underestimated or would become too low in the future following periods
of sustained, strong economic conditions. A meaningful minimum leverage
requirement would also guard against the risk that the risk-based
capital measure significantly underestimates necessary capital levels.
An underestimation of capital could occur for different reasons,
including the potential for model estimation error, the possibility
that loans perform differently than similar loans did in the historical
periods used to estimate the models, the emergence of new products that
are inadequately capitalized because of a lack of historical
performance data as occurred during the financial crisis, and the
possibility that the proposed risk-based capital approach would
overestimate the amount of capital relief attributed to CRT
transactions. A leverage backstop would also protect against a reduced
risk-based capital measure during times of overly aggressive house
price appreciation and low unemployment, which would result in lower
capital requirements and the release of capital when loan-to-value
ratios fall. In the absence of a meaningful minimum leverage capital
requirement, aggressively low risk-based capital requirements could
result in the Enterprises facing difficulty raising capital in
worsening economic conditions when capital is most needed. A leverage
backstop would also mitigate the risk of rapid deleveraging for
institutions that depend on short-term funding, though, as discussed
herein, this rationale applies more to large depository institutions
than to the Enterprises. Lastly, a leverage backstop would provide a
floor beyond the proposed going-concern buffer and operational risk
capital requirement for the amount of capital released as a result of
credit risk transfer transactions.
On the other hand, FHFA also seeks to avoid setting a minimum
leverage requirement that is too high and would regularly eclipse the
risk-based capital requirements, which could have adverse consequences.
Because leverage requirements generally require firms to hold the same
amount of capital for any type of asset irrespective of the asset's
risk profile, a binding leverage requirement could incent firms to hold
riskier assets on their balance sheets. Instead of reducing risk to the
Enterprises, a high leverage requirement that surpasses risk-based
capital requirements could encourage the Enterprises to forgo lower-
risk assets in favor of those with higher-risks because the same
capital requirement would apply for either asset. In addition, a
binding leverage requirement could lead an Enterprise to reduce or halt
its CRT transactions. This could occur because the proposed risk-based
capital requirements provide capital relief for CRT transactions,
whereas the minimum leverage capital requirements in this proposed rule
do not provide capital relief for CRT transactions. As a
[[Page 33315]]
result, a binding leverage ratio could reduce an Enterprise's economic
incentive to engage in these transactions, potentially resulting in
greater concentration of credit risk at the Enterprise.
Each of these proposed capital requirements are discussed in
section II.
C. Legislative Authority and History
Effective July 30, 2008, HERA created FHFA as a new independent
agency of the Federal Government. The part of HERA that applies to FHFA
is the Federal Housing Finance Regulatory Reform Act of 2008,\1\ which
amended the Federal Housing Enterprises Financial Safety and Soundness
Act of 1992 (Safety and Soundness Act or statute).\2\ The 1992 statute
created OFHEO, one of FHFA's predecessor agencies.
---------------------------------------------------------------------------
\1\ Public Law 110-289, Div. A, July 30, 2008, 122 Stat. 2659.
\2\ Public Law 102-550, Title XIII, October 28, 1992, 106 Stat.
3941.
---------------------------------------------------------------------------
HERA transferred to FHFA the supervisory and oversight
responsibilities of OFHEO over Fannie Mae and Freddie Mac. HERA also
transferred the oversight responsibilities of the Federal Housing
Finance Board over the Federal Home Loan Banks (Banks) and the Office
of Finance, which acts as the Banks' fiscal agent, and certain
functions of the Department of Housing and Urban Development (HUD) with
respect to the affordable housing mission of the Enterprises. In
addition to transferring supervisory responsibilities to FHFA, HERA
gave the Agency greater authority than OFHEO had to determine the
capital standards for the Enterprises.
1992 Statute and OFHEO Risk-Based Capital Rulemaking
As originally enacted, the 1992 statute specified a minimum capital
requirement in the form of a leverage ratio for the Enterprises and a
highly prescriptive approach to risk-based capital requirements for the
Enterprises. The statute required that OFHEO establish a risk-based
capital stress test by regulation such that each Enterprise could
survive a ten-year period with large credit losses and large movements
in interest rates. The statute specified two interest rate scenarios,
with falling and rising rates, and provided the interest rate paths for
each scenario. The statute set parameters for a benchmark loss
experience for default and loss severity, but provided OFHEO discretion
to determine other aspects of the capital test.
To implement this statutory language, OFHEO developed a risk-based
capital standard for the Enterprises, and issued a series of Federal
Register notices to solicit public comment. Initially, the Agency
issued an Advance Notice of Proposed Rulemaking (ANPR) to seek comment
on a number of issues related to the rule's development. Those comments
were considered when OFHEO subsequently developed two Notices of
Proposed Rulemaking (NPRs). The first NPR contained the methodology for
identifying the benchmark loss experience and the use of OFHEO's House
Price Index (HPI). The second NPR proposed the remaining specifications
of the stress test. OFHEO also issued a notice to give interested
parties an opportunity to respond to comments received by the Agency
from the second NPR. OFHEO's Final Rule included consideration of the
comments received in the first and second NPRs, as well as the reply
comments.
Suspension of Capital Requirements During Conservatorship and Existing
Regulatory Capital Requirements
On September 6, 2008, the Director of FHFA appointed FHFA as the
conservator for each Enterprise, pursuant to authority in the Safety
and Soundness Act. Conservatorship is a statutory process intended to
preserve and conserve the assets of the Enterprises and to put the
companies in a sound and solvent condition. FHFA suspended the capital
classifications and the regulatory capital requirements applicable at
that time, and they remain suspended.\3\
---------------------------------------------------------------------------
\3\ Press Release, ``FHFA Announces Suspension of Capital
Classifications During Conservatorship,'' Oct. 9, 2008.
---------------------------------------------------------------------------
Although the capital requirements are suspended while the
Enterprises are in conservatorship, this section reviews the Enterprise
capital standards in the prior OFHEO rule, which, though suspended, has
not yet been replaced.\4\ The OFHEO regulations on the Enterprises'
minimum capital (leverage ratio) and risk-based capital requirements
would be superseded by this rulemaking.
---------------------------------------------------------------------------
\4\ 12 CFR part 1750.
---------------------------------------------------------------------------
The Enterprises are required by statute to maintain the capital
necessary to meet certain minimum leverage and risk-based capital
levels. Under HERA, the Enterprises continue to operate under the
regulations issued by OFHEO until those regulations are superseded by
regulations issued by FHFA. The OFHEO rule's minimum leverage and risk-
based capital requirements are applied simultaneously, but are not
additive. The Enterprises must meet both requirements in order to be
classified as adequately capitalized.
If any Enterprise is classified as other than adequately
capitalized, it triggers a series of prompt corrective actions. Since
the ability of the Enterprises to obtain adequate capital was fatally
impaired due to the financial crisis, capital support for the
Enterprises was provided by the PSPAs with the Treasury Department when
the Enterprises were put into conservatorship. Accordingly, FHFA
suspended the capital classifications as well as the OFHEO capital
regulation.
The minimum leverage capital requirement specified in the Safety
and Soundness Act is equal to 2.5 percent of on-balance sheet assets
and 0.45 percent of off-balance sheet obligations. These levels are
applied to the retained portfolio and guarantee business,
respectively.\5\ The statute, today as in 1992, requires the minimum
leverage capital requirement to be met with core capital, which per the
statute is composed of outstanding common stock (par value and paid-in
capital), retained earnings, and outstanding non-cumulative perpetual
preferred stock.
---------------------------------------------------------------------------
\5\ Due to changes in GAAP after the statute was enacted,
guaranteed mortgage-backed securities held by third parties are now
consolidated by each Enterprise onto its balance sheet. However, for
minimum leverage capital purposes, FHFA has interpreted the statute
as continuing to apply the 0.45 percent capital requirement to these
loans. See Regulatory Interpretation 2010-RI-1, Jan. 12, 2010.
---------------------------------------------------------------------------
The statute, as amended by HERA, also requires the Enterprises to
meet a risk-based capital standard, to be prescribed by FHFA by
regulation. The OFHEO capital rule contains a stress test, which is to
be applied to each Enterprise's book of business. As prescribed by the
1992 statute, the stress test is designed such that each Enterprise
could survive a ten-year period with large credit losses and large
movements in interest rates. There are two interest rate scenarios,
with falling and rising rates, and interest rate paths for each
scenario. The test has parameters for a benchmark loss experience for
default and loss severity, and uses the House Price Index produced by
OFHEO (which FHFA now produces).
The statute, both in 1992 and today, requires the risk-based
capital requirement to be met with total capital, which is the sum of
core capital and a general allowance for foreclosure losses, plus
``[a]ny other amounts from sources of funds available to absorb losses
incurred by the enterprise, that the Director by regulation determines
are appropriate to include in determining
[[Page 33316]]
total capital'' (a determination that OFHEO never made).
The statute, both in 1992 and today, defines a critical capital
level, which is the amount of core capital below which an Enterprise is
classified as critically undercapitalized. The critical capital level
is 1.25 percent of on-balance sheet assets (retained portfolio) and
0.25 percent of off-balance sheet obligations (guarantee business).
Under the statute, both in 1992 and today, an Enterprise is
considered adequately capitalized when core capital meets, or exceeds,
the minimum capital requirement and total capital meets, or exceeds,
the risk-based capital requirement. An Enterprise is considered
undercapitalized if it fails the risk-based requirement, but meets the
minimum capital requirement. It is significantly undercapitalized when
it fails both the minimum and risk-based capital requirements, but
still has enough critical capital. It becomes critically
undercapitalized when it fails both the minimum and risk-based capital
requirements, as well as the critical capital requirement.
If an Enterprise becomes undercapitalized or significantly
undercapitalized, under the prompt corrective action framework in the
statute the Enterprise is subject to heightened supervision. This
includes being required to submit a capital restoration plan, and
having restrictions imposed on capital distributions and asset growth.
A significantly undercapitalized Enterprise must also improve
management through a change in the board of directors or executive
officers. If an Enterprise becomes critically undercapitalized, then
the Enterprise may be placed in conservatorship or receivership.
HERA Amendments on Enterprise Capital Requirements
FHFA's broader capital regulation authority provided by the
amendments made by HERA creates an opportunity for FHFA to develop a
new risk-based capital standard and an increased minimum leverage
requirement. FHFA's authority to establish risk-based capital
requirements was amended under HERA by removing the specific stress
test requirements that had been mandated for OFHEO's rulemaking and
providing FHFA with the authority to establish risk-based capital
requirements ``to ensure that the enterprises operate in a safe and
sound manner, maintaining sufficient capital and reserves to support
the risks that arise in the operations and management of the
enterprises.'' \6\ While HERA did not change the minimum leverage ratio
levels specified in the statute, the legislation provided FHFA with
authority to increase the minimum leverage requirement above those
levels as necessary,\7\ and to temporarily increase the minimum capital
level for a regulated entity.\8\ FHFA issued a final regulation to
implement the temporary increase authority in 2011.\9\ Additionally, as
amended by HERA, the statute provides FHFA with the authority to
establish capital or reserve requirements for specific products and
activities as deemed appropriate by the Agency.\10\ HERA also enhanced
the Safety and Soundness Act's prompt-corrective-action provisions and
added the agency's conservatorship and receivership authorities.
---------------------------------------------------------------------------
\6\ 12 U.S.C. 4611(a)(1).
\7\ 12 U.S.C. 4612(c).
\8\ 12 U.S.C. 4612(d), implemented at 12 CFR part 1225.
\9\ 76 FR 11668 (March 3, 2011).
\10\ 12 U.S.C. 4612(e).
---------------------------------------------------------------------------
Dodd-Frank Act Stress Tests
Section 165 \11\ of the Dodd-Frank Wall Street Reform and Consumer
Protection Act of 2010 \12\ (Dodd-Frank Act) required the capital
adequacy stress testing of large financial companies with assets over
$10 billion that are supervised by a federal regulator. FHFA issued
regulations to implement this requirement.\13\ However, the Dodd-Frank
Act Stress Test is a reporting requirement, not a capital requirement.
The purpose of the test is to assist in the evaluation of capital
sufficiency, but it does not set any capital requirements for the
Enterprises.
---------------------------------------------------------------------------
\11\ 12 U.S.C. 5365(i). The stress testing requirements of the
Dodd-Frank Act have been adjusted by Title IV of the Economic
Growth, Regulatory Relief, and Consumer Protection Act, Public Law
115-174, May 24, 2018, 132 Stat. 1356, to, among other things,
reflect new asset thresholds and to reduce from 3 to 2 the number of
testing scenarios. The effect, if any, of the new requirements will
be considered and accounted for in any final rule FHFA issues.
\12\ Public Law 111-203, July 21, 2010, 124 Stat. 1376.
\13\ 12 CFR part 1238.
---------------------------------------------------------------------------
D. The Enterprises' Pre-Conservatorship Business and the Financial
Crisis
Pre-Conservatorship Business
The Enterprises' business model of supporting single-family and
multifamily housing consists of both a guarantee business and a
portfolio business. In the portfolio business, the Enterprises issue
debt and invest the proceeds in whole loans and mortgage-backed
securities. The mortgage securities held in the retained portfolio were
traditionally the Enterprises' own guaranteed mortgage-backed
securities. In the years leading up to the crisis, however, the
Enterprises became active participants in the market for private-label
mortgage securities, which exposed the Enterprises to significant fair
value losses.
The Enterprises earned net interest income on the difference
between rates on the mortgage securities (interest income) and the debt
costs (interest expense) on their retained portfolio business. The net
interest income was at risk since longer-term assets were funded by
shorter-term debt. The Enterprises managed this duration mismatch using
interest-rate swaps and ``swaptions'' in the derivatives market. By
holding leveraged positions in mortgage securities and funding them
with shorter-term debt, the Enterprises took on substantial market
risks, in addition to supporting core business functions. Sources of
this market risk include the risk of loss from changes in interest
rates and the basis risk associated with imperfect hedging.
The Enterprises also used the retained portfolios to hold whole
loans that could not be easily securitized, such as certain affordable
loans and loans being reworked through loss mitigation. In addition,
the retained portfolios were used to support the cash window for
smaller lenders. This use of the retained portfolio supported core
business functions and helped the Enterprises to fulfill their mission.
However, during the pre-conservatorship period, the purchase of
mortgage securities dominated the portfolio business.
In the guarantee business, private lenders participated in the
mortgage-backed security swap program and cash window program. Through
these programs, private lenders originated loans according to
Enterprises' standards, and either exchanged those loans for securities
that were guaranteed by either Enterprise, or sold loans directly to
the Enterprises for cash. When lenders in the swap program received
guaranteed mortgage-backed securities, they often sold those securities
to replenish funds, enabling the lenders to make more loans. When
smaller lenders sold their loans to the Enterprises for cash, the price
they received was the market price for the loans less an implied
guarantee fee. The Enterprises were able to quickly aggregate the cash
window purchases from multiple smaller lenders and issue the guaranteed
securities with a larger pool size directly. In addition, loans
purchased through Freddie Mac's cash window or Fannie Mae's whole loan
conduit (collectively referred to
[[Page 33317]]
henceforth as the cash window) noted above were aggregated and later
securitized. In both the swap and cash programs, the Enterprises
assumed the credit risk on the loans in exchange for a guarantee fee.
The lenders earned income through originating and servicing loans, and
selling MBS they received from the Enterprises; and private investors
assumed the market risk from price changes driven by movements in
interest rates.
Growth in Subprime and Other High Risk Loans
In the years leading up to the financial crisis, competition in the
primary mortgage market for revenue and market share led mortgage
lenders to relax underwriting standards and originate riskier mortgages
to less creditworthy borrowers. Many of these loans were packaged into
subprime and ``Alt-A'' private-label securities that were sold without
backing from the Enterprises. Investor appetite for these loans enabled
lenders to lower standards for underwriting, including credit scores,
which increased the potential pool of borrowers and helped to drive up
house prices. Consequently, subprime mortgages were given to borrowers
with lower credit scores and low down payments.
In addition, Alt-A loans were increasingly offered to borrowers
considered riskier than ``A'' or prime paper and less risky than
subprime. Alt-A mortgages were characterized by less than the full
documentation by the lender of a borrower's income and assets, which
markedly increased the credit risk and fueled speculation. These high-
risk loans often had features that made it increasingly difficult for
borrowers to repay the loans, including low teaser rates that would
reset, balloon payments, prepayment penalties, interest-only periods,
and negative amortization. Weak underwriting standards during this
period often included inflated appraised values, which compounded the
problems. In addition, many loans had ``risk-layering'' of more than
one higher risk attribute, significantly increasing credit exposures.
The private-label securities were divided into tranches with
different terms and credit risk attributes. Prior to 2003, the
Enterprises maintained relatively high underwriting standards. However,
as the Enterprises faced declining market shares of the total mortgage
market with the growth of the private-label market, the Enterprises
sought to increase business revenue by buying significant amounts of
the AAA-rated tranches of private-label subprime and Alt-A securities
for their retained portfolios. In addition, the Enterprises guaranteed
increasingly larger amounts of Alt-A whole mortgage loans with non-
traditional credit standards from lenders through bulk sales, outside
of the normal business standards for the guarantee business.
2007-2008 Financial Crisis
The financial crisis began in 2007 with stresses in the subprime
and Alt-A mortgage market. The crisis grew to other financial sectors
in the United States and globally. Several large financial firms failed
and others had to be supported through government intervention. After
the crisis, the Dodd-Frank Act was enacted in the United States, and
the Basel III capital standards were adopted globally to promote
financial stability.
In the build-up to the crisis, growth in subprime and Alt-A lending
drove house prices increasingly higher. The overvaluation of non-
traditional mortgages was based on the assumption that house prices
would continue to rise. However, as the market for those loans began to
weaken, house prices started to decline nationwide, further
exacerbating the problems and spreading stress to markets beyond the
housing sector. By September 2008 when the Enterprises entered
conservatorship, the average U.S. house price had declined by over 20
percent from its mid-2006 peak. Many borrowers were faced with
underwater mortgages such that the unpaid balances of the loans
exceeded the value of the homes. The economic stress affected not only
the subprime and Alt-A mortgages in the Enterprises' guarantee book,
but also the mortgages in the guarantee book that had been approved
under more traditional mortgage underwriting standards.
The financial crisis had a major impact on the value of the
private-label securities held by the Enterprises in their retained
portfolios. From 2002 to 2008, Fannie Mae purchased $240 billion of
subprime and Alt-A private-label single-family mortgage securities.
From 2006 to 2008, Freddie Mac purchased $160 billion of these
securities.\14\ When the financial crisis hit, the Enterprises suffered
sharp declines in the value of these securities, due to weakening
collateral and credit rating downgrades.
---------------------------------------------------------------------------
\14\ See FHFA's Report to Congress for private-label security
holdings, serious delinquency rate, and credit loss data.
---------------------------------------------------------------------------
The SFAS 157 accounting standard issued in 2006 for fair value
accounting required that tradable assets such as mortgage securities
that were purchased with the intent to resell in either a short time
frame (trading securities) or in a longer time frame (available-for-
sale securities) be valued according to their current market value
rather than historic cost or some future expected value. When the
market for private-label securities collapsed, the value losses had a
major financial effect on the holders of these securities. Upon
entering conservatorship, the Enterprises ceased buying both subprime
and Alt-A securities, and began to wind down those positions.
In addition to the private-label security losses in the portfolio,
the guarantee book experienced severe stress from the financial crisis.
Fannie Mae's single-family serious delinquency rate rose from 0.65
percent in 2006 to 2.42 percent in 2008, peaking at 5.38 percent in
2009. Subsequently, the delinquency rate fell below 2.00 percent by
2014 and to 1.24 percent at the end of 2017. Freddie Mac's delinquency
rate rose from 0.42 percent in 2006 to 1.83 percent in 2008, peaking at
3.98 percent in 2009. At the end of 2017, ten years after the start of
the financial crisis, Freddie Mac's delinquency rate had fallen to 1.08
percent.
The serious delinquency rates from the financial crisis translated
into high credit losses for the Enterprises and a sharp increase in
real estate owned properties (REO) \15\--properties acquired through
foreclosure. Fannie Mae's credit losses as a percent of its guarantee
book increased from 0.02 percent in 2006 to a peak of 0.77 percent in
2010. REO increased from 0.09 percent in 2006 to a peak of 0.53 percent
in 2010. Freddie Mac experienced a similar loss and REO experience. Its
credit losses grew from 0.01 percent in 2006 to a peak of 0.72 percent
in 2010, and REO grew from 0.04 percent to 0.36 percent over this
period.
---------------------------------------------------------------------------
\15\ When a borrower is unable to repay a mortgage, and a loan
goes through the foreclosure process, the lender takes possession of
the property that was pledged as collateral. When the property is
conveyed to an Enterprise, it becomes real estate owned (REO) on the
Enterprise's book.
---------------------------------------------------------------------------
As asset prices fell and other large financial firms failed, it
became increasingly difficult for the Enterprises to issue debt to fund
their retained portfolios, to raise new capital to cover the mark-to-
market losses from private-label securities, and to build reserves for
projected credit losses from credit guarantees. In the financial
crisis, it became apparent that the Enterprises were not adequately
capitalized to absorb these types of shocks.
In response to the substantial deterioration in the housing market
that
[[Page 33318]]
left Fannie Mae and Freddie Mac unable to fulfill their mission without
government intervention, FHFA used its conservatorship authority in the
newly amended Safety and Soundness Act. On September 6, 2008, the
Director of FHFA appointed FHFA as the conservator for each Enterprise
to preserve and conserve the assets of the Enterprises and to put the
companies in a sound and solvent condition. The goals of
conservatorship are to restore confidence in the Enterprises, enhance
the Enterprises' abilities to fulfill their missions, and mitigate the
systemic risk that contributed directly to the instability during the
financial crisis.\16\
---------------------------------------------------------------------------
\16\ https://www.fhfa.gov/Conservatorship.
---------------------------------------------------------------------------
As conservator, FHFA directs the operations of each Enterprise. The
Agency has empowered the Enterprises' boards of directors and senior
management to manage most day-to-day operations of the Enterprises, so
that the companies can continue to support the mortgage markets without
interruption. The approach that FHFA uses to exercise control and
manage the conservatorships of Fannie Mae and Freddie Mac is discussed
in the next section.
While the Enterprises are in conservatorship, the Treasury
Department provides Fannie Mae and Freddie Mac with financial support
through PSPAs. This support is unprecedented, and was necessary for the
Enterprises to be able to meet their outstanding obligations and to
continue to provide liquidity to the mortgage market. The initial PSPAs
in September 2008 included an initial issuance to the Treasury
Department of preferred stock with a liquidation preference of $1
billion each in Fannie Mae and Freddie Mac and warrants for a 79.9
percent common equity stake in each Enterprise.
Quarterly draws were designed to allow each Enterprise to maintain
positive net worth. The maximum permitted amount was set at $100
billion for each Enterprise. The dividend rate on senior preferred
stock purchased by the Treasury Department was set at 10 percent. In
addition, the PSPAs provided for a ``periodic commitment fee'' to
compensate the Treasury Department for its continuing commitment to
purchase further senior preferred stock, up to a maximum commitment
amount, as necessary to maintain the solvency of the Enterprises. (The
Treasury Department regularly waived that fee, and in the August 2012
third amendment to the PSPAs, the fee was indefinitely suspended for so
long as the ``net worth sweep'' established by that amendment remained
in effect.) The PSPAs also included a requirement for each Enterprise
to reduce the size of the retained portfolio by at least 10 percent
each year, but allowed a $250 billion portfolio per Enterprise to
support core business functions. The first amendment to the agreement
in May 2009 doubled the maximum cumulative draw per Enterprise to $200
billion, and a second amendment in December 2009 replaced the maximum
draw amount with a formulaic approach.
The third amendment to the agreement in August 2012 replaced the 10
percent dividend and the periodic commitment fee with a variable
structure, under which the net income of each Enterprise in excess of a
small capital buffer (the ``Applicable Capital Reserve Amount'') is
swept to the Treasury Department. In many quarters, the payment equals
quarterly net profits. With this amendment, all of the Enterprises'
earnings are used to benefit taxpayers. The third amendment also
provided for the uniform reduction of the Applicable Capital Reserve
Amount from $3 billion to $0 at the end of 2017. In addition, the third
amendment increased the rate of reduction in the size of the retained
portfolios. Each Enterprise must reduce its portfolio by 15 percent per
year, which is a faster reduction rate than the previous 10 percent
annual reduction. This reduces the maximum retained portfolios to $250
billion by the end of 2018.
In December 2017, the PSPAs were revised to restore the Applicable
Capital Reserve Amount to $3 billion. FHFA considers this capital
reserve amount to be sufficient to cover normal fluctuations in income
in the course of each Enterprise's business.\17\
---------------------------------------------------------------------------
\17\ https://www.fhfa.gov/Media/PublicAffairs/Pages/Statement-from-FHFA-Director-Melvin-L-Watt-on-Capital-Reserve-for-Fannie-Mae-and-Freddie-Mac.aspx.
---------------------------------------------------------------------------
E. Enterprises' Business Model and Changes in Conservatorship
FHFA uses four key approaches to manage the conservatorships of
Fannie Mae and Freddie Mac. First, it establishes the overall strategic
direction for the Enterprises in the Strategic Plan for the
Conservatorships and an annual scorecard. Next, within the scope of the
Strategic Plan and annual scorecard, FHFA authorizes the board of
directors and senior management of each Enterprise to carry out the
day-to-day operations of the companies. Third, for certain actions
which FHFA has carved out as requiring advance approval by the Agency,
it reviews and considers those requests. Finally, FHFA oversees and
monitors the Enterprises' activities.
FHFA's conservatorship strategic plan has three goals: (1) To
maintain foreclosure prevention activities and new credit availability
in a safe and sound manner, (2) to reduce taxpayer risk through
increasing the role of private capital, and (3) to build a new
securitization infrastructure. The annual scorecards provide more
specific direction for meeting these goals. FHFA reports to the public
on its yearly activities through a number of reports, including an
Annual Report to Congress, scorecard progress reports, credit risk
transfer progress reports, and updates on the implementation of the
common securitization platform and single security.
As discussed earlier, the Enterprises' business model before
conservatorship of supporting single-family and multifamily housing
traditionally consisted of both a guarantee business and a portfolio
business. In the guarantee business, lenders may exchange loans for a
guaranteed mortgage-backed security, which may then be sold by the
lender into the secondary market to recoup funds to make more loans, or
they may sell loans directly to an Enterprise through the cash window.
The Enterprises purchase loans through the cash window from multiple
smaller-volume lenders to aggregate and later securitize and guarantee.
Loans purchased through the cash window are held in portfolio until
they are securitized and become part of the guarantee business. The
Enterprises charge a guarantee fee to cover the costs of providing the
guarantee. In the portfolio business, the Enterprises invest in assets
such as whole loans or mortgage-backed securities, and funds those
purchases with debt issuances.
Consistent with the terms of the PSPAs with the Treasury
Department, the portfolio business has been reduced substantially in
size during conservatorship, with the guarantee business assuming a
much larger role. While the portfolio business involves both credit and
market risk, in the guarantee business the Enterprises assume the
credit risk and the market risk is borne by private investors in the
guaranteed mortgage-backed securities. In conservatorship, consistent
with direction provided by FHFA in its strategic plan and annual
scorecard, the Enterprises have developed programs to transfer a
significant portion of the credit risk in the single-family guarantee
business to the private sector.
In addition to reducing the size of the retained portfolios, the
Enterprises have also strengthened underwriting and
[[Page 33319]]
eligibility standards, aligned certain business processes, and worked
toward implementing a common securitization platform.
Guarantee Fees
The Enterprises charge fees to lenders in return for guaranteeing
the credit risk on mortgage-backed securities. In response to the
housing crisis and in conservatorship, the Enterprises have made a
number of changes to these guarantee fees. As a result, the average
single-family guarantee fee increased from 22 basis points in 2007 to
57 basis points in 2016.
In 2008, to better align fees with credit risk, the Enterprises
increased ongoing guarantee fees and added two new upfront fees: A fee
based on the combination of a borrower's credit score and loan-to-value
ratio, and a 25 basis point adverse market charge. In late 2008 through
2011, the Enterprises gradually raised fees and further refined their
upfront fee schedules. In late 2011, as mandated by the Temporary
Payroll Tax Cut Continuation Act of 2011,\18\ FHFA directed the
Enterprises to increase guarantee fees by 10 basis points on average to
offset the cost to the Treasury Department of a temporary payroll tax
cut enacted by Congress.
---------------------------------------------------------------------------
\18\ Public Law 112-78, Dec. 23, 2011, 125 Stat. 1280.
---------------------------------------------------------------------------
In 2012, FHFA directed the Enterprises to raise fees by an
additional 10 basis points on average to better compensate taxpayers
for the Enterprises' credit risk. Fees were raised in a manner that
helped eliminate volume-based discounts and thereby provide a level
playing field for lenders of all sizes.
In 2013, FHFA announced another round of fee increases but
subsequently suspended the implementation of those changes in order to
perform a comprehensive review of the Enterprises' guarantee fees.
After completing that review in 2015, FHFA directed the Enterprises to
implement certain adjustments. These adjustments included the
elimination of the adverse market charge in all markets and targeted
increases for specific loan groups. The set of fee changes was
approximately revenue neutral with little to no impact for most
borrowers.
In 2016, in response to findings in its ongoing quarterly guarantee
fee reviews, FHFA established minimum guarantee fees by product type to
help ensure the continued safety and soundness of the Enterprises.
Retained Portfolio
Under the PSPAs with the Treasury Department and direction from
FHFA, the unpaid balance of each Enterprise's mortgage portfolio is
subject to a cap that decreases by 15 percent each year until the cap
reaches $250 billion. The Enterprises have made significant progress on
reducing their retained portfolios, and toward using the portfolios to
support core business activities rather than as a source of investment
income. The Enterprises have reduced their retained portfolios by over
60 percent since 2009, and both Enterprises are ahead of schedule in
meeting the 2018 maximum portfolio limits.
Most of the portfolio reduction has resulted from prepayments and
regular amortization of mortgages. The Enterprises have also sold less-
liquid assets, such as private-label securities and non-performing and
re-performing loans, in order to transfer risk to private investors.
The Enterprises also securitized certain re-performing mortgages held
on their books and sold those securities into the market. Fannie Mae's
holdings of Fannie Mae-guaranteed securities fell from $229 billion at
the end of 2008 to $49 billion in 2017, and holdings of other
securities fell from $133 billion to $5 billion over the same period.
Freddie Mac's retained portfolio experienced similar declines, as
holdings of Freddie Mac-guaranteed securities fell from $425 billion in
2008 to $132 billion in 2017, and other mortgage securities fell from
$269 billion to $14 billion over the same period.
The Enterprises' retained portfolios now primarily support the core
business activities of aggregating loans from single-family and
multifamily lenders to facilitate securitization, and holding
delinquent loans in portfolio to facilitate loan modifications in order
to keep borrowers in their homes and reduce Enterprise losses. The
portfolios also support certain affordable products that cannot be
easily securitized. In addition, the Enterprises' retained portfolios
may be used to support underserved markets under Duty-to-Serve Plans
that the Enterprises have begun to implement in 2018.
Credit Risk Transfer
The Enterprises have significantly expanded their practice of
transferring credit risk to the private sector in recent years. Credit
risk transfer (CRT) has long been a part of each Enterprise's
multifamily business. In 2016, the Enterprises transferred a portion of
credit risk to private investors on over 90 percent of their combined
multifamily acquisition volume. In 2013, the Enterprises began to
develop programs to transfer a portion of the credit risk on their
single-family new-acquisition businesses. The purpose is to reduce the
risk to the Enterprises and taxpayers of future borrower defaults where
it is economically sensible to do so.
FHFA assesses the Enterprises' CRT programs using certain core
principles. The transactions must transfer a meaningful amount of
credit risk to private investors to reduce taxpayer risk, and the cost
of the credit risk transfers must be economically sensible in relation
to the cost of the Enterprises self-insuring the risk. In addition, the
transactions may not interfere with the Enterprises' core business,
including the ability of borrowers to access credit. The CRT programs
are intended to attract a broad investor base, be scalable, and
incorporate a regular program of issuances. In transactions where
credit risk may not be not fully collateralized, the program
counterparties must be financially strong and able to fulfill their
commitments even in adverse market conditions.
Loans targeted for single-family CRT include fixed-rate mortgages
with loan-to-value ratios greater than 60 percent and original term
greater than 20 years. These loans carry the majority of the
Enterprises' credit risk exposure. Loans targeted for credit risk
transfer have grown from 42 percent of total Enterprise acquisitions in
2013 to 62 percent of acquisitions in the first half of 2017. The
Enterprises continue to assume the full credit risk on less risky loans
with lower loan-to-value ratios and shorter terms, as well as on
certain higher risk legacy loans where the economics do not favor CRT
transactions. The Enterprises also transfer risk on loans outside of
the targeted loan population.
The single-family CRT programs, implemented since 2013, supplement
the more traditional credit enhancements required by the Enterprises'
charters. The charters require loans with loan-to-value ratios above 80
percent to have loan-level credit enhancement, most often obtained
through private mortgage insurance. From 2013 through the first half of
2017, the Enterprises transferred a portion of the credit risk through
their single-family CRT programs on $1.8 trillion of mortgages with a
combined risk in force of $61 billion, or 3.4 percent of the credit
risk. During the same period, primary mortgage insurers also covered a
portion of credit risk on $837 billion of unpaid principal
[[Page 33320]]
balances (UPB) through traditional loan-level insurance.
Since 2013, the CRT programs have become a core part of the single-
family business. In the second quarter of 2017, the Enterprises
transferred risk on $213 billion of mortgages, with risk in force of $6
billion or nearly 3 percent of risk. Debt issuances accounted for 70
percent of the risk in force, insurance and reinsurance transactions
accounted for 25 percent, and lender risk sharing accounted for the
remaining 5 percent. Front-end reinsurance transactions increased from
2 percent of the risk in force in the first quarter of 2017 to 4
percent in the second quarter. In the first half of 2017, loans
targeted for CRT represented 62 percent of the Enterprises' single-
family loan production.
Enterprise debt issuances have been the primary risk transfer
vehicle to date. Fannie Mae uses a structure called Connecticut Avenue
Securities (CAS), while Freddie Mac issues Structured Agency Credit
Risk (STACR) securities. CAS and STACR have been designed to track the
performance of a reference pool of loans previously securitized in
Enterprise guaranteed MBS. These debt transactions are fully
collateralized, since investors pay for the notes in full and absorb
credit losses through a reduction in the principal due on the
underlying notes. The Enterprises typically retain the first 50 basis
points of expected losses in most transactions because purchasing
protection for this portion may not offer economic benefits. While debt
transactions have been the primary CRT method, the Enterprises have
worked to broaden their investor base through other structures, and to
compare executions across different structures and market environments.
Insurance and reinsurance transactions are considered part of the
Enterprises' CRT programs and are separate from the Enterprises'
charter requirements for loans with loan-to-value ratios above 80
percent. These transactions generally involve pool-level policies that
cover a specified amount of credit risk for a large pool of loans.
Fannie Mae uses a structure called Credit Insurance Risk Transfer
(CIRT), while Freddie Mac uses the Agency Credit Insurance Structure
(ACIS). These structures are partially collateralized, and the
Enterprises distribute risk among a group of highly-rated insurers and
reinsurers to reduce counterparty and correlation risk.
In senior/subordinate transactions, an Enterprise sells a group of
mortgages to a trust that securitizes the cash flows into different
bond tranches. Prior to 2017, super conforming loans that would
otherwise have backed Freddie Mac mortgage-backed securities were used
as collateral in Freddie Mac's single-family senior/subordinate
transactions called Whole Loan Securities (WLS). The subordinate and
mezzanine tranches, which are not guaranteed, absorb the expected and
unexpected credit losses. The senior bonds, which were guaranteed by
the Enterprise, have historically traded at a slight discount to
comparable Freddie Mac mortgage-backed securities. In order to provide
a more scalable and economic solution, in 2017 Freddie Mac introduced a
revised structure to its WLS, called STACR Securitized Participation
Interests (SPI). This new structure allows for the issuance of
mortgage-backed securities rather than guaranteed senior certificates
to improve the pricing execution in the credit risk transfer. The STACR
SPI trust will continue to issue unguaranteed credit certificates as
subordinate and mezzanine tranches. In contrast to synthetic CRT
structures, the senior/subordinate structure is eligible for purchase
by real estate investment trusts (REITs).
Another form of single-family risk structure is lender front-end
CRT, where the credit risk is transferred prior to or simultaneous with
the Enterprise loan acquisition. Lender front-end risk transfer can be
structured through the issuance of securities with the lender holding
the credit risk by retaining the securities, or by selling the
securities to credit risk investors. Alternatively, in traditional
lender recourse transactions, the lender may forgo securities issuance
and simply retain the credit risk. The lender will often, but not
always, fully collateralize its obligation. While the Enterprise
charter requirement for loan-level credit enhancement is typically
through private mortgage insurance, the charters allow the Enterprises
to accept lender recourse as an alternative, so lender retention of
credit risk has been used to a lesser extent in the past. However, this
lender recourse has not always been fully collateralized.
While the newest forms of single-family CRT started in 2013, risk
sharing has been an integral part of the Enterprises' multifamily
business for many years. Fannie Mae's primary multifamily risk-transfer
program exists through its Delegated Underwriting and Servicing (DUS).
In this program, lenders typically share up to one-third of the credit
losses on a pro-rata basis with the Enterprises. In an effort to
broaden its program offerings, Fannie Mae completed the first non-DUS
CRT in 2016 when it transferred a portion of its credit risk to the
reinsurance industry. Freddie Mac's multifamily risk-transfer program
generally exists through its K-Deal program in which Freddie Mac
purchases loans that are put into diversified pools, and placed into
multiclass securities for sale to private investors. The subordinate
and mezzanine bond tranches are not guaranteed by Freddie Mac. Instead,
the subordinate or ``B-piece'' holders are in the first-loss position
in the event of a mortgage default. If losses exceed the ``B-piece''
level, holders of the mezzanine bond tranche assume the additional
losses. The subordinate and mezzanine tranches are sized such that
virtually all credit risk is transferred to the investors in those
securities. The senior bonds comprise the remainder of the K-Deal and
are guaranteed by Freddie Mac.
Underwriting Standards and Qualified Mortgages
The Enterprises are required to emphasize sound underwriting
practices in their purchase guidelines. Since entering conservatorship,
the Enterprises have continued to refine automated underwriting systems
to better assess risk, reduce risk layering, improve the use of
compensating factors, and enable access to credit in a safe and sound
manner. The Enterprises launched the Uniform Mortgage Data Program to
standardize data in the mortgage industry to help improve loan quality
and mortgage risk management. The Enterprises also revamped the
Representation and Warranty Framework to reduce lender uncertainty
around requirements to repurchase loans from the Enterprises and to
support access to credit.
In the Dodd-Frank Act, Congress adopted ability-to-repay
requirements for nearly all closed-end residential mortgage loans.
Congress also established a presumption of compliance with these
requirements for a certain category of loans called Qualified Mortgages
(QM). The Consumer Financial Protection Bureau (CFPB) adopted an
ability-to-repay rule to implement these provisions.
A loan is generally considered a Qualified Mortgage if: (1) The
points and fees do not exceed 3 percent of the loan amount, (2) the
term does not exceed 30 years, (3) the loan is fully amortizing with no
negative amortization, interest-only, or balloon features, and (4) the
borrower's debt-to-income (DTI) ratio does not exceed 43 percent. CFPB
also defined a special transitional class of QM loans that are not
subject to the 43 percent DTI limit if they are eligible for sale to
either Enterprise.
[[Page 33321]]
Before the CFPB rule became final, the Enterprises had already
improved underwriting standards and eliminated purchases of the higher
risk products such as negative amortization and interest-only loans. In
2013, after the CFPB rule became final, FHFA directed each Enterprise
to acquire only loans that meet the points and fees, term and
amortization requirements of the CFPB's rule for Qualified Mortgages.
Loss Mitigation
FHFA has also worked with the Enterprises to develop effective loss
mitigation programs to minimize losses and enable borrowers to avoid
foreclosure whenever possible. The Enterprises aligned their loss
mitigation standards and developed updated loan modification and
streamlined refinance products. The Enterprises are also pursuing
efforts to stabilize distressed neighborhoods through the Neighborhood
Stabilization Initiative. Better underwriting standards, improved loss
mitigation, and an improving economy have resulted in the Enterprises'
serious delinquency rates falling to their lowest level since the
Enterprises entered into conservatorship in 2008.\19\
---------------------------------------------------------------------------
\19\ Fannie Mae's single-family serious delinquency rate fell
from 2.42 percent at the end of 2008 to 1.24 percent at the end of
2017. Freddie Mac's single-family serious delinquency rate fell from
1.83 percent to 1.08 percent over the same period.
---------------------------------------------------------------------------
Common Securitization Platform and Single Security
During conservatorship, the Enterprises have worked to build a new
single-family securitization infrastructure. This includes development
of a common securitization platform (CSP) and a single Enterprise
mortgage-backed security. Fannie Mae and Freddie Mac established Common
Securitization Solutions, LLC (CSS) as a jointly-owned company to
develop and operate the platform. The platform will replace some of the
proprietary systems used by the Enterprises to securitize mortgages and
perform the back office functions.
In 2015, FHFA announced a two-part process for the CSP and single
security. Release 1, which was implemented in 2016, uses the CSP to
issue Freddie Mac's existing single-class securities. Release 2, the
implementation of which is planned for the second quarter of 2019, will
enable the issuance of the single security called the Uniform Mortgage
Backed Security (UMBS) through the CSP. The single security initiative
will increase the liquidity of the TBA market for newly issued
mortgage-backed securities and will eliminate the differences in
pricing between Fannie Mae and Freddie Mac securities.
Governance and Supervision
When FHFA placed the Enterprises into conservatorship, it replaced
most members of the boards of directors and many senior managers.
Through conservatorship and regular supervisory oversight, the Agency
required the Enterprises to improve risk management, update legacy
systems, and improve data management. As part of its supervision
function, FHFA issues advisory bulletins, which communicate FHFA's
supervisory expectations to the Enterprises on specific supervisory
matters and topics. In addition, through its supervision program,
FHFA's on-site examiners conduct supervisory activities to ensure safe
and sound operations of the Enterprises. These supervisory activities
include the examination of the Enterprises to determine whether they
comply with their own policies and procedures and regulatory and
statutory requirements, and whether they comply with FHFA directives
and meet the expectations set in FHFA's advisory bulletins.
F. Comparison of Enterprises and Large Depository Institutions
FHFA has reviewed and used the regulatory capital standards
applicable to commercial banks as a point of comparison in developing
the proposed capital requirements for the Enterprises. In conducting
this evaluation, it was important for FHFA to consider both
similarities and differences in the Enterprise and bank business
models. This section reviews capital requirements for depository
institutions and then discusses the differences in Enterprise and bank
business models.
Bank Capital Requirements
Basel Accords
The Basel Accords set the international framework for bank capital
requirements. The initial framework, Basel I, was replaced by Basel II,
which was in place during the financial crisis. After the financial
crisis, regulators adopted standards consistent with Basel III. Each
country has a different way of applying the Basel standards to meet
their national legal framework. The Federal Reserve Board (Board),
Office of the Comptroller of the Currency, and Federal Deposit
Insurance Corporation have federal regulatory and supervisory
jurisdiction over banks in the United States.
The Basel Accords have evolved over time. The 1988 Basel Accord,
also known as Basel I, was implemented by the Group of Ten (G-10)
countries in 1992. In Basel I, credit risk was addressed by using
simple ratios, there was little attention given to market risk, and no
provision was made for operational risk. The Basel II update was
initially published in 2004 to make the capital calculation more risk
sensitive. Basel II had three pillars: Risk-based capital requirements,
supervisory review, and market discipline. For the risk-based capital
requirements under Basel II, credit risk, market risk, and operational
risk were all quantified based on data, and credit risk could be
quantified using either the standardized approach or internal ratings
based (IRB) approach. Under the supervisory review pillar, Basel II
provided a framework for supervisory review of systemic, concentration,
and liquidity risk among others. Under the market discipline pillar,
Basel II included a set of disclosure requirements to allow market
participants to better understand an institution's capital adequacy.
When the U.S. banking regulators issued the final Basel II rules in
late 2007 and in 2008, the regulators required each bank to follow the
set of rules that was the most conservative for the bank. The largest
banks were required to use the internal ratings based approach, while
the smaller banks were given a choice between using the standardized
approach or the internal ratings based approach.
Basel III was developed in response to the financial crisis and was
agreed to by Basel members in 2010-11. Basel III strengthened the
requirements in Basel II and introduced bank liquidity requirements to
reduce the risk of a run on a bank. Basel III also added capital
buffers as extra capital cushions on top of regulatory capital
minimums, to absorb unexpected shocks. Basel III is being phased in
through 2019.
U.S. Risk-Based and Leverage Capital Requirements for Banks
Under current regulations implemented by U.S. regulators to align
with Basel III, U.S. banks must meet certain leverage and risk-based
capital requirements to be considered adequately capitalized. These
capital adequacy standards protect deposit holders and the stability of
the financial system. Two types of capital are measured: Tier 1 and
Tier 2. Tier 1 capital comprises common stock, retained earnings, non-
cumulative perpetual preferred stock, and accumulated other
comprehensive income (AOCI). Common equity Tier 1 capital excludes
cumulative preferred stock. Tier 2 capital is supplementary
[[Page 33322]]
capital consisting of items such as, but not limited to, cumulative
preferred stock, subordinated debt, and certain reserves that provide
less protection.
Banks must also meet certain risk-based capital ratios and leverage
ratios under existing regulations. As part of the risk-based capital
standard for credit risk, the capital ratio is the ratio of capital to
risk-weighted assets (RWA). Basel allows banks to choose between two
methods for calculating their capital requirement for credit risk, and
U.S. regulators have implemented both methods under existing
regulations: The standardized approach and the internal ratings based
approach. Under the standardized approach, regulators require use of
prescribed risk weights for every type of exposure to determine the
credit risk RWA amount. Mortgages have a risk weight of 50 percent
under the standardized approach, regardless of the loan-to-value ratio,
credit score, and other risk attributes. The largest banks in the U.S.
are required to use the internal ratings based (IRB) approach to
determine the risk weights of asset classes. In the IRB approach, the
capital charge for a mortgage varies based on the risk attributes of
the specific mortgage loan using the credit model and loss experience
of the bank. However, when calculating minimum capital requirements,
under the Dodd-Frank Act's Collins Amendment large U.S. banks must
compute their risk-weighted assets using both a standardized approach
and the advanced approach, and must use the higher of these two numbers
when computing pre-stress risk-based capital ratios. Because the
standardized approach often results in a higher ratio, the Collins
Amendment effectively makes the standardized approach the binding
requirement for large U.S. banks, and serves to place all banks,
regardless of size, on equal footing in terms of minimum risk-based
capital requirements. In contrast to the risk-based capital ratios, the
leverage ratios compare capital to assets without any weighting for
risk.
Prompt Corrective Action Framework
The Federal Deposit Insurance Act requires insured depository
institutions and federal banking regulators to take prompt corrective
action to resolve capital deficiencies as defined under the prompt
corrective action framework.\20\ To be considered well capitalized,
banks must have a total risk-based capital ratio of 10 percent, Tier 1
risk-based capital ratio of 8 percent, common equity Tier 1 risk-based
capital ratio of 6.5 percent, and Tier 1 leverage ratio of 5 percent.
To be considered adequately capitalized, banks must have a total risk-
based capital ratio of 8 percent, Tier 1 risk-based capital ratio of 6
percent, common equity Tier 1 risk-based capital ratio of 4.5 percent,
and Tier 1 leverage ratio of 4 percent. Lower levels of capital result
in a bank being classified as undercapitalized, significantly
undercapitalized, or critically undercapitalized. At the extreme lower
end, a bank would be placed into receivership.
---------------------------------------------------------------------------
\20\ 12 CFR 324.403.
---------------------------------------------------------------------------
The banking regulators also mandate three capital buffers relative
to the risk-based capital ratios: The capital conservation buffer, the
countercyclical capital buffer, and the global systemically important
bank (G-SIB) surcharge. Banks must meet applicable buffers to avoid
restrictions on capital distributions.
The capital conservation buffer requires banks to maintain each of
the three risk-based capital ratios (Common Equity Tier 1, Tier 1, and
Total Capital) at levels in excess of 2.5 percent above the minimum
required levels. The countercyclical capital buffer requires banks to
maintain an additional amount of excess capital during economic periods
of non-stress. The countercyclical buffer has a potential range of 0
percent to 2.5 percent, and is currently set to zero. As it is
structured, the countercyclical capital buffer functions as an
extension of the capital conservation buffer. The G-SIB surcharge is
applied in addition to the capital conservation buffer, but only on the
largest banks identified as globally systemically important. The G-SIB
surcharge is based on defined criteria that determine the size of the
bank's systemic footprint, which represents the risk that the bank
poses to the global financial system in excess of risk posed by
financial institutions not subject to the surcharge. The different
buffers are being phased-in through 2019.
In addition to the risk-based capital requirement, federal banking
regulators have also established a 4 percent Tier 1 leverage ratio that
measures the Tier 1 capital available relative to average consolidated
assets. This measure does not capitalize off-balance sheet exposures.
Bank regulatory capital rules also require calculation of a
supplementary leverage ratio (Tier 1 capital/total leverage exposure)
for banks that are subject to that requirement starting in January
2018.\21\ The supplementary leverage ratio is 3 percent of on-balance
sheet assets and off-balance sheet exposures and applies to those
banking institutions that must adhere to the advanced approach. In
addition, those institutions with more than $700 billion in total
consolidated assets are also subject to the enhanced supplementary
leverage buffer of an additional 2 percent, totaling 5 percent when
combined with the supplementary leverage ratio of 3 percent.\22\ Banks
must meet each of these minimum regulatory capital ratios, as required,
after making all capital actions included in the capital plan, under
both the baseline and stress scenarios over the nine-quarter planning
horizon.\23\
---------------------------------------------------------------------------
\21\ The supplemental leverage ratio includes off-balance sheet
exposures for large banks.
\22\ The Federal Reserve Board and the Office of the Comptroller
of the Currency (OCC) recently proposed a rule that included changes
to the enhanced supplementary leverage ratio standards. See https://www.gpo.gov/fdsys/pkg/FR-2018-04-19/pdf/2018-08066.pdf.
\23\ See Table 1 at https://www.federalreserve.gov/publications/comprehensive-capital-analysis-and-review-summary-instructions.htm.
Some banks, depending on their size and complexity, must meet
additional buffers--capital conservation buffer, countercyclical
buffer and globally systemically important bank surcharge--but these
are not included in the stress test assessment.
---------------------------------------------------------------------------
Comprehensive Capital Analysis and Review (CCAR) and Capital Plan
Requirements
In addition to the requirements that are tied to a prompt
corrective action framework, the Federal Reserve Board's annual CCAR
also assesses the capital adequacy of large bank holding companies with
at least $50 billion in assets. The CCAR review is based on a going-
concern structure, where the bank holding company must hold enough
capital to withstand a severely adverse scenario, continue to lend, and
meet creditor obligations over a nine-quarter period of time. The CCAR
stress tests are tied to the Board's capital plan requiring that these
bank holding companies submit a capital plan to the Federal Reserve
each year. The bank holding companies are required to report the
results of stress tests conducted under supervisory scenarios provided
by the Board and under a baseline scenario and a stress scenario
designed by the bank holding company.
The Board's qualitative assessment of each bank holding company's
capital plan considers the institution's capital planning process,
including the stress testing methods, internal controls, and
governance. The quantitative assessment of the plan is based on the
supervisory and institution-run stress tests that are conducted in part
under the Dodd-Frank Act stress test rules.\24\
[[Page 33323]]
The Board may object to a capital plan based on the qualitative and
quantitative assessments, and, as a result, may restrict capital
distributions.\25\ However, the stress test results do not trigger
prompt corrective actions as described above under the Federal Deposit
Insurance Act.
---------------------------------------------------------------------------
\24\ The DFAST and CCAR capital analyses use the same
projections of income, assets and RWA, but use different capital
action assumptions to project post-stress capital levels.
\25\ The Federal Reserve Board recently published a notice of
proposed rulemaking that would create a single, integrated capital
requirement by combining the quantitative assessment of the CCAR
with the buffer requirements in the Board's regulatory capital rule,
and eliminate the CCAR quantitative objection in the process. See 83
FR 18160 (April 25, 2018).
---------------------------------------------------------------------------
Under CCAR, during anticipated stress periods defined by the stress
test scenarios required by the Board, banks are expected to maintain
capital levels above the minimum risk-based and leverage capital ratios
for adequately capitalized institutions under the prompt corrective
action framework described earlier.\26\
---------------------------------------------------------------------------
\26\ The stress test uses RWA based on the standardized
approach, but these large banks may use the model-based internal
ratings-based approach for capital adequacy under the prompt
corrective action framework.
---------------------------------------------------------------------------
Comparison of Enterprise and Bank Business Models
While the Enterprises are comparable in size to some of the largest
depository institutions, the relative risks of banks compared to the
Enterprises differ in important ways. These differences include, among
others, the sources and associated risk level of income and assets,
differences in funding risk, and the relative exposure to mortgage
assets. Each of these differences is discussed below.
First, while banks have a more diversified source of income and
assets compared to the Enterprises, the overall risk of Enterprise
mortgage assets is lower than that of banks. Banks are depository
institutions that attract customer deposits on which banks pay interest
expense, and lend those funds through loans in diversified asset
classes to other customers from whom the bank earns interest income,
thereby earning net interest income. Bank lending covers a number of
different asset classes, not just real estate lending, such as credit
cards, car loans, and business loans. Since the repeal of the Glass-
Steagall Act in 1999, banks have also been more active in earning non-
interest income through brokerage fees and other business activities.
However, traditional depository institutions still rely primarily on
net-interest income, as compared to investment banks.
The Enterprises are monoline businesses focused on mortgage assets.
For banks, mortgage assets carry a 50 percent risk weight in the Basel
standardized framework. Therefore, the Enterprises' aggregate risk
weight is lower than the average risk weight of banks with an abundance
of assets with risk weights higher than 50 percent. To derive the risk-
weighted asset density of bank assets, FHFA looked at the 31 largest
bank holding companies subject to CCAR, to calculate an average risk-
weighted asset density using end-of-quarter data from the first quarter
of 2011 through the fourth quarter of 2014. The analysis estimated an
overall risk-weighted asset density of 72 percent for the banks
compared to 50 percent for residential mortgages.
Second, banks rely on more volatile funding sources compared to the
Enterprises, which exposes banks to a greater degree of funding risk
during times of market and economic stress. Banks use short-term
customer deposits and debt as sources of funding for their business
activity, both of which can leave a bank in need of new funding sources
during times of economic uncertainty, such as during the recent
financial crisis. In such situations, a bank could find that new
sources of debt become considerably more expensive, if such sources are
available at all. This type of funding risk is commonly referred to as
rollover risk. By comparison, the Enterprises' core credit guarantee
business of purchasing and securitizing mortgage loans provides a more
stable source of funding that cannot be withdrawn during periods of
market and economic stress, and is therefore not subject to rollover
risk. Investors purchasing Enterprise mortgage-backed securities
provide the companies with match-funding for these mortgage assets. The
funding risk associated with the Enterprises' retained portfolios is
more comparable to the funding risks of banks described above.
Third, even when comparing risk specifically associated with
mortgage lending the Enterprises hold less risk compared to the
mortgage investments of banks. Banks hold a larger portion of
mortgages--both single-family and multifamily loans--as whole loans on
their balance sheets. This exposes banks to interest rate, market, and
credit risks associated with those loans. On the other hand, through
their core guarantee business of purchasing mortgage loans and issuing
mortgage-backed securities, the Enterprises transfer the interest rate
and market risk of these loans to private investors. In addition, as
mentioned above, the Enterprises also face substantially less funding
risk compared to banks because of the match funding provided through
mortgage-backed securities investors.
While the Enterprises remain responsible following securitizations
for guaranteeing the credit risk of securitized loans, they have also
developed ways to transfer significant parts of their credit risk to
private market participants. During conservatorship, the Enterprises
have developed credit risk transfer programs to transfer a portion of
the credit risk for single-family mortgage purchases to private
investors. In addition, the Enterprises' unique business models
transfer credit risk on multifamily loans to private investors. Thus,
the Enterprises have transferred a significant portion of the credit
risk associated with their whole mortgage loans, whereas comparable
whole mortgage loans are typically held by banks on their balance
sheets.
The risk associated with the Enterprises' retained portfolios is
similar in nature to risks held by banks. However, the Enterprises'
retained portfolios have declined by more than a combined 60 percent
while in conservatorship and are required by the PSPAs not to exceed
$250 billion. While the Enterprises still have legacy assets that were
purchased before conservatorship as part of their retained portfolios,
their ongoing use of retained portfolios during conservatorship has
focused on supporting their core credit guarantee business. The
Enterprises use their cash window to purchase single-family and
multifamily loans directly from lenders, often smaller lenders, and
aggregate these loans for subsequent securitization. The cash window
enables smaller lenders to access the secondary market at competitive
rates. The Enterprises also use their retained portfolios to repurchase
non-performing loans as part of loss mitigation efforts to reduce
losses for the Enterprises and taxpayers, and to help homeowners stay
in their homes whenever possible.
FHFA is also not including separate buffers in this proposed rule
beyond the proposed risk-invariant going-concern buffer for several
reasons. First, FHFA believes that the robust features it selected for
the proposed risk-based capital requirements make including a separate
buffer unnecessary. These features include (1) covering losses for
different loan categories for a severe stress event comparable to the
recent financial crisis,\27\ with somewhat more
[[Page 33324]]
conservative house price recoveries than were observed following the
recent financial crisis, (2) setting capital requirements without
including future revenue, consistent with the Basel methodology, (3)
requiring the full life-of-loan capital be put in place for each loan
acquisition, and (4) the proposed risk-based capital requirements would
include components for operational risk, market risk, and a risk-
invariant going-concern buffer. Second, FHFA has the authority to
increase capital requirements when prudent--either for risk-based
capital or minimum leverage capital requirements--by order or
regulation. Third, while bank capital buffers are used to decide
whether to restrict distributions of income, rather than changing the
level of capital that is necessary to declare a bank undercapitalized
and activate the prompt-corrective-action framework if the level is not
met, the primary intent of the FHFA capital rule would be to establish
the level of capital that should be considered ``adequate'' for the
prompt-corrective-action framework of the Safety and Soundness Act.
---------------------------------------------------------------------------
\27\ The 25 percent home price decline assumption in the severe
stress event is also consistent with assumptions used in the DFAST
severely adverse scenario over the past several years, although the
2017 DFAST cycle assumes a 30 percent home price decline in its
severely adverse scenario.
---------------------------------------------------------------------------
G. Dodd-Frank Act Stress Test Process
Section 165 of the Dodd-Frank Act required the annual stress
testing of certain financial companies with consolidated assets over
$10 billion that are supervised by a federal regulator. Consistent with
the Act, FHFA conducts stress tests of the Enterprises to determine
whether each firm has the capital necessary to absorb losses during a
period of adverse economic conditions. While in conservatorship, the
Enterprises receive financial support through the PSPAs with the
Treasury Department. Although the PSPAs restrict the ability of the
Enterprises to hold equity capital beyond their approved capital
buffers, FHFA expects the Enterprises to have procedures in place to
support sound business decisions and the Enterprises have continued to
consider capital levels and return on capital as integral parts of
their business decision-making processes.
FHFA's stress testing rule establishes the basic requirements for
the Enterprises on how to conduct the Dodd-Frank Act Stress Test
(DFAST) each year. The Dodd-Frank Act requires financial regulators to
use generally consistent and comparable stress scenarios. FHFA has
generally aligned the stress scenarios for the Enterprises with the
Federal Reserve Board's supervisory scenarios for annual stress testing
required under the DFAST rule and CCAR. Each year, FHFA provides the
Enterprises with specific instructions and guidance for conducting the
stress tests, as well as for reporting and publishing results.
The annual stress testing process includes three distinct
scenarios--baseline, adverse, and severely adverse--with each scenario
covering a nine-quarter period. The scenarios include macroeconomic
variables, interest-rate variables, and indices (e.g., unemployment
rates, mortgage rates, house price paths, and gross domestic product).
The Enterprises use these variables and indices as model inputs to
stress the retained portfolios and guarantee business.
Since the Enterprises began conducting the annual DFAST process in
2014, the severely adverse scenario has generally represented economic
conditions similar to those that occurred during the 2008 financial
crisis. Although the specific scenario variables differ from year to
year, the conditions represented by the macroeconomic, interest rate,
and asset price shocks in the severely adverse scenario are consistent
with a major market disruption similar to the disruption experienced in
the 2008 crisis.
The severely adverse scenario also includes a global market shock
component which is tailored to include particular risks faced by the
Enterprises. This shock is treated as an add-on to the macroeconomic
scenario and is taken as an instantaneous loss and reduction of capital
in the first quarter of the nine-quarter planning horizon. It is
assumed that none of these losses are recovered over the nine quarters.
The Enterprises apply the shock to portfolio assets that are subject to
fair value accounting (i.e., assets classified as held-for-trading,
available-for-sale, and held-for-sale). In addition, the global market
shock includes a default of each Enterprise's largest counterparty. The
shock assumes that each Enterprise incurs losses due to the sudden and
unexpected default of the counterparty to which it has the greatest
financial exposure. Counterparties within the scope of the largest
counterparty default component include security dealers for
derivatives, private mortgage insurers, and multifamily credit
enhancement providers.
The Federal Reserve Board releases DFAST supervisory scenarios in
January or February of each year. FHFA provides the Enterprises with
summary instructions and guidance within 30 days following the issuance
of the Federal Reserve Board's final element of its supervisory
scenarios. The instructions include submission templates for use in
compiling and reporting the DFAST results for the three stress
scenarios. The Enterprises conduct the stress tests and submit their
results to FHFA on or before May 20 each year. For capital planning
purposes, the Enterprises focus on the severely adverse scenario. FHFA
requires the Enterprises to publicly disclose the DFAST stress test
results under the severely adverse scenario between August 1 and August
15 each year.
For DFAST reporting purposes, FHFA requires the Enterprises to
report two sets of financial results for the severely adverse scenario:
One with and one without the establishment of a valuation allowance on
deferred tax assets. In general, deferred tax assets are considered a
capital component because these assets have loss absorbing capability
by offsetting losses through the reduction of taxes. A valuation
allowance on deferred tax assets is typically established to reduce
deferred tax assets when it is more likely than not that an institution
would not generate sufficient taxable income in the foreseeable future
to realize all or a portion of its deferred tax assets. A valuation
allowance on deferred tax assets is a non-cash charge resulting in a
reduction in income and the retained earnings component of capital.
In 2008, during the financial crisis, Fannie Mae and Freddie Mac
established partial valuation allowances on deferred tax assets of
$30.8 billion and $22.4 billion, respectively. The reduction in capital
from partial valuation allowances in 2008 contributed to the
Enterprises' draws from the Treasury Department. Both Enterprises
released the valuation allowances on deferred tax assets several years
later, which resulted in a benefit to income at both Enterprises. For
full transparency of the potential impact of deferred tax assets on the
Enterprises' capital positions in a stress scenario, FHFA requires the
Enterprises to disclose the severely adverse results both with and
without the establishment of a valuation allowance on deferred tax
assets. In the 2017 DFAST severely adverse scenario, for results that
do not include establishing a valuation allowance on deferred tax
assets, Fannie Mae's cumulative stress losses were $15 billion and
Freddie Mac's cumulative stress losses were $20 billion. For results
that include establishing a valuation allowance on deferred tax assets,
Fannie Mae's cumulative stress losses were $58 billion and Freddie
Mac's cumulative stress losses were $42 billion.
[[Page 33325]]
H. Important Considerations for the Proposed Rule
In summary, in developing the proposed rule, FHFA considered all
information in this proposal and developed the proposed rule with the
following factors in mind:
1. The Enterprises should operate under a robust capital framework
that is similar to capital frameworks applicable to banks and other
financial institutions, but appropriately differentiates from other
capital requirements based on the actual risks associated with the
Enterprises' businesses;
2. In proposing capital requirements, FHFA should use the
substantial expertise and experience gained during the protracted
conservatorships of the Enterprises to ensure that the capital
requirements secure the safety and soundness of the Enterprises while
also supporting their statutory missions to foster and increase
liquidity of mortgage investments and promote access to mortgage credit
throughout the Nation;
3. FHFA considers it prudent to have risk-based capital
requirements that include components of credit risk, operational risk,
market risk, and a risk-invariant going-concern buffer; that require
full life-of-loan capital for each loan acquisition; that are
calculated to cover losses in a severe stress event comparable to the
recent financial crisis, but with house price recoveries that are
somewhat more conservative than experienced following that crisis; and
that do not count future Enterprise revenue toward capital;
4. FHFA's ongoing authority under the Safety and Soundness Act to
increase by order or regulation capital requirements--either risk-based
or minimum leverage--reduces the need to put in place at this time
specific limited-purpose or countercyclical buffers; and
5. It may be necessary in the future for FHFA to revise this rule
or to develop a separate capital planning rule to more fully address
stress testing of the Enterprises, the timing and substance of which
will depend on the status of the Enterprises after housing finance
reform.
II. The Proposed Rule
A. Components of the Proposed Rule
Risk-Based Capital Requirements
The Enterprises' assets and operations are exposed to different
types of risk, and the proposed risk-based capital requirements would
provide a granular and comprehensive approach for assigning capital
requirements to individual asset and guarantee categories. The proposed
risk-based capital requirements cover credit risk, including
counterparty risk, as well as market risk and operational risk capital
requirements for each asset and guarantee category. The proposed risk-
based capital requirements also include a going-concern buffer, which
would require the Enterprises to hold additional capital beyond what is
required to cover economic losses during a severe financial stress
event in order to maintain market confidence.
The credit risk capital requirements in the proposed rule are based
on unexpected losses (stress losses minus expected losses) over the
lifetime of mortgage assets. The proposed requirements were developed
using historical loss data, including loss experience from the recent
financial crisis. In addition, the proposed rule requires the
Enterprises to hold this capital at the time of purchasing or
guaranteeing an asset, and it does not, in general, count any future
revenue toward the credit risk capital requirements.
For single-family and multifamily whole loans and guarantees, the
proposed credit risk capital requirements use look-up tables consisting
of base grids and risk multipliers to adjust capital requirements for
the risk characteristics of each type of mortgage asset. Under this
approach, an Enterprise's required capital will change with the
composition of its book of business.
The proposed rule also includes a framework through which the
Enterprises' credit risk capital requirements would be reduced to
reflect the benefit of credit risk transfer transactions that protect
the Enterprises and taxpayers from bearing potential credit losses.
FHFA's proposed approach to calculating the capital relief provided by
credit risk transfer transactions seeks to capture the credit risk
protection provided while also accounting for counterparty risk for
those transactions that are not fully funded up front.
The market risk component of the proposed risk-based capital
framework establishes specific requirements for the market risk
associated with certain Enterprise assets. The proposed approach
focuses on capturing the spread risk associated with holding different
assets in the retained portfolio: Single-family whole loans,
multifamily whole loans, private label securities (PLS), commercial
mortgage-backed securities (CMBS) and other assets with market risk
exposure.\28\ These mortgages include legacy assets acquired by the
Enterprises prior to conservatorship and assets purchased as part of
the Enterprises' ongoing aggregation function, including aggregating
single-family loans through the cash window before securitizing the
loans into MBS, and Freddie Mac's aggregation of multifamily loans
before placing the loans in K-deals or other securitizations.
---------------------------------------------------------------------------
\28\ The Enterprises are no longer acquiring PLS and CMBS, and
their holdings of these assets are currently in run-off mode.
---------------------------------------------------------------------------
The operational risk component of the proposed risk-based capital
framework establishes an operational risk capital requirement of 8
basis points for all assets and guarantees to reflect the inherent risk
in ongoing business operations.
The going-concern buffer component of the proposed risk-based
capital framework establishes a 75 basis point requirement for most
assets and guarantees, regardless of credit, market, or operational
risk capital requirements. This buffer would ensure that the
Enterprises maintain at least 75 basis points of capital on any
mortgage guarantee, whole loan, or mortgage-related security held by
the Enterprises. Based on the current size and composition of the
Enterprises' books of business, FHFA estimates that the going-concern
buffer would provide the Enterprises with sufficient capital to
continue operating without external capital support for one to two
years after a stress event.
FHFA sought to reduce model risk by developing the proposed risk-
based requirements using a combination of the results from multiple
models.\29\ The proposed capital requirements are based on the model
results from both Enterprises, and in some cases on model results from
both Enterprises and from FHFA. In all cases the models were estimated
to the extent possible using the Enterprises' historical loss data,
including experiences from the recent housing crisis. While the
proposed risk-based capital requirements reflect the Agency's view of
the relative risk of Enterprise assets, which is subject to model risk,
the two proposed alternative minimum leverage capital requirements are
intended to provide a backstop to offset and balance this risk.
---------------------------------------------------------------------------
\29\ FHFA acknowledges that multiple models could increase the
burden of ongoing model risk management. However, FHFA sought to
increase the reliability of the estimations used in the proposed
grids and multiplier framework by combining the results of multiple
models, and hence decreasing overall model risk.
---------------------------------------------------------------------------
[[Page 33326]]
Minimum Leverage Capital Requirement
The proposed rule includes two alternative minimum leverage capital
requirement proposals for consideration. Under the first approach, the
2.5 percent alternative, the Enterprises would be required to hold
capital equal to 2.5 percent of total assets (as determined in
accordance with GAAP) and off-balance sheet guarantees related to
securitization activities, regardless of the risk characteristics of
the assets and guarantees or how they are held on the Enterprises'
balance sheets. Under the second approach, the bifurcated alternative,
the Enterprises would be required to hold capital equal to 1.5 percent
of trust assets and 4 percent of non-trust assets, where trust assets
are defined as Fannie Mae mortgage-backed securities or Freddie Mac
participation certificates held by third parties and off-balance sheet
guarantees related to securitization activities, and non-trust assets
are defined as total assets as determined in accordance with GAAP plus
off-balance sheet guarantees related to securitization activities minus
trust assets. The Enterprises' retained portfolios would be included in
non-trust assets. Both the 2.5 percent alternative and the bifurcated
alternative are discussed in greater detail in the Minimum Leverage
Capital Requirements section.
In considering both the need for and the structure of an updated
minimum leverage capital requirement, FHFA has taken into consideration
several factors, including (1) how to best set the minimum leverage
requirement as a backstop to the risk-based capital requirements; and
(2) how to appropriately capture the funding risks of the Enterprises.
The Safety and Soundness Act requires that FHFA establish, like other
financial regulators, a minimum leverage requirement that can serve as
a backstop in the event the risk-based capital standard becomes too
low. As discussed earlier, risk-based capital requirements depend on
models and, therefore are subject to the risk that the applicable model
will underestimate or fail to address a developing risk. Another factor
relevant in considering the leverage requirement's role as a backstop
is the pro-cyclicality of a risk-based capital framework. Because the
proposed risk-based requirements use mark-to-market LTVs for loans held
or guaranteed by the Enterprises in determining capital requirements,
as home prices appreciate the Enterprises would be allowed to release
capital as LTVs fall. Should home prices continue to rise and
unemployment continue to fall, as each have done over the last several
years, risk-based capital requirements such as the requirements in this
proposed rule, would be expected to fall. In this context, a minimum
leverage capital requirement would reduce the amount of capital
released as risk-based capital levels fell below an applicable leverage
requirement. In addition, and as discussed further below, FHFA has
authority to adjust components of the risk-based capital requirements
as a means of avoiding the pro-cyclical release of capital.
In the banking regulatory context, leverage requirements serve to
help mitigate the risk that short-term funding, on which many banks
rely, will become unavailable during a stress event. In proposing
minimum leverage requirements, FHFA has considered the unique funding
risks facing the Enterprises. As discussed in more detail below, in
both the single-family and multifamily guarantee business lines the
Enterprises are provided a stable source of funding that is match-
funded with the mortgage assets they purchase. While these mortgage
assets are reflected on the balance sheets of the Enterprises and
represent the vast majority of their assets, the funding for these
assets has already been provided and cannot be withdrawn during times
of market stress.
FHFA is seeking comment on all aspects of both the 2.5 percent
alternative and the bifurcated alternative proposed minimum leverage
capital requirements, including how the different approaches relate to
and complement the proposed risk-based capital measure.
B. Impact of the Proposed Rule
This section provides information about the impact of the proposed
rule both at the end of 2007 (December 31, 2007) and at the end of the
third quarter of 2017 (September 30, 2017). FHFA is providing this
information to inform commenters about the impact the proposed rule
would have on the Enterprises' capital requirements both leading up to
the crisis and under the Enterprises' current operations in
conservatorship. The summary information through the third quarter of
2017 is intended solely to provide context for commenters about what
the impact of the proposed rule would be on the Enterprises if the
Enterprises were able to build capital, and is specifically not
intended by FHFA as suggesting steps toward recapitalizing the
Enterprises while the Enterprises are in conservatorship. The summary
information also provides context about the impact of the proposed rule
on Enterprise business decisions being made while the Enterprises
operate in conservatorship. While they are in conservatorship, FHFA
expects the Enterprises to include capital assumptions in pricing and
business decisions even though the Enterprises are unable to build
capital and FHFA has suspended their regulatory capital
classifications.
Impact of the Proposed Rule at the End of 2007
In 2008, the entire net worth of both Enterprises was depleted by
losses. The Treasury Department invested in senior preferred stock of
both Enterprises in order to offset losses. To offset losses and
eliminate negative capital positions, Fannie Mae drew $116 billion from
the Treasury Department between 2008 and the fourth quarter of 2011,
while Freddie Mac drew $71 billion between 2008 and the first quarter
of 2012. Including the loss of net worth at the start of 2008, Fannie
Mae lost a total of $167 billion and Freddie Mac lost a total of $98
billion in the housing and financial crisis.\30\
---------------------------------------------------------------------------
\30\ Between the second quarter of 2012 and the third quarter of
2017, neither Enterprise required additional funds from the Treasury
Department, and the PSPA's capital reserve had been set to decline
to zero in 2018. However, in December 2017, FHFA entered into a
letter agreement with the Treasury Department on behalf of the
Enterprises to reinstate a $3.0 billion capital reserve amount under
the PSPA for each Enterprise, beginning in the fourth quarter of
2017, against income fluctuations and future losses. Since the
agreement was reached, Congress passed and the President signed the
Tax Cut and Jobs Act of 2017 on December 22, 2017, that lowered the
corporate tax rate from 35 percent to 21 percent. As a result, the
value of Fannie Mae's net deferred tax assets declined by $9.9
billion in the fourth quarter of 2017, necessitating a $3.7 billion
draw from the Treasury Department, while the value of Freddie Mac's
net deferred tax assets declined by $5.4 billion, necessitating a
draw from the Treasury Department of $312 million.
---------------------------------------------------------------------------
FHFA assessed whether the capital requirements in the proposed rule
would have required the Enterprises to hold sufficient capital at the
end of 2007, when combined with the Enterprises' revenues, to absorb
losses sustained between 2008 and the dates at which the Enterprises no
longer required draws from the Treasury Department to eliminate
negative net worth--the fourth quarter of 2011 for Fannie Mae and the
first quarter of 2012 for Freddie Mac.
FHFA compared each Enterprise's estimated minimum leverage capital
requirement under both alternatives and the risk-based capital
requirement based on the proposed rule for the entire portfolio of
business at the end of 2007 to the Enterprises' peak cumulative capital
losses as described above. The
[[Page 33327]]
peak cumulative capital losses include losses due to establishing
valuation allowances on deferred tax assets (DTAs) during the crisis.
To calculate the minimum leverage capital requirement at the end of
2007, FHFA made a simplifying assumption because accounting rules have
changed since 2007. Credit-guaranteed loans are now reported as assets,
while in 2007 most credit guarantees were not on the balance sheet as
they were netted with guarantee obligations. For purposes of this
analysis FHFA treated the credit guarantees in 2007 as assets.\31\
---------------------------------------------------------------------------
\31\ The Enterprises continue to report their capital levels
based on prior accounting rules. See Regulatory Interpretation 2010-
RI-1, Jan. 12, 2010.
---------------------------------------------------------------------------
FHFA also compared each Enterprise's single-family credit risk
capital requirement as of December 31, 2007 to the Enterprise's single-
family lifetime credit losses, where lifetime losses are defined in
this section as actual single-family credit losses through June 30,
2017 plus projected remaining lifetime single-family credit losses on
the December 31, 2007 portfolio.
A significant portion of the Enterprises' credit losses since 2007
resulted from higher risk loans which the Enterprises no longer
purchase or guarantee due to the Ability to Repay and Qualified
Mortgage rule issued by the CFPB in 2013 and due to the Enterprises'
strengthened underwriting standards. Because the Enterprises no longer
purchase these loans, FHFA also assessed whether the credit risk
capital requirement under the proposed rule would have been sufficient
to cover projected lifetime losses on loans that meet the Enterprises'
current acquisition criteria.
In sum, the amount of capital required by the Enterprises under the
proposed risk-based capital requirements would have exceeded the
cumulative losses, net of revenues earned, at both Enterprises between
2008 and the respective date at which each Enterprise no longer
required draws from the Treasury Department. In this analysis,
cumulative losses include credit losses on all loans purchased,
including those no longer eligible for purchase, and losses due to
establishing a valuation allowance on DTAs. In evaluating how the
proposed risk-based capital requirements would have applied to the
Enterprises at the end of 2007, it is important to note that the
proposed rule would establish a risk-based capital requirement for DTAs
that would offset the DTAs included in core capital in a manner
generally consistent to the U.S. financial regulators' treatment of
DTAs.\32\ In addition, the credit risk capital component of the
proposed risk-based capital requirements exceeded projected credit
losses for both Enterprises for all loans acquired or guaranteed,
excluding those that are not currently eligible for purchase.
---------------------------------------------------------------------------
\32\ See section II.C.8 for a detailed discussion of DTAs.
---------------------------------------------------------------------------
Fannie Mae
Fannie Mae's statutory minimum leverage capital requirement was $42
billion as of December 31, 2007. For comparison, and as illustrated in
the table below, Fannie Mae's estimated minimum leverage capital
requirement as of December 31, 2007 based on the proposed rule would
have been $76 billion under the 2.5 percent alternative or $68 billion
under the bifurcated alternative. Fannie Mae's estimated minimum
leverage capital requirement under either proposed alternative as of
December 31, 2007 would have been insufficient to cover Fannie Mae's
peak cumulative capital losses of $167 billion. However, Fannie Mae's
estimated risk-based capital requirement of $171 billion based on the
proposed rule would have exceeded Fannie Mae's peak cumulative capital
losses of $167 billion. We include in Fannie Mae's peak cumulative
capital losses the valuation allowance on deferred tax assets of $64
billion and revenues of $78 billion earned between 2008 and the fourth
quarter of 2011.
Table 1--Fannie Mae's Capital Requirement Comparison to Peak Cumulative
Capital Losses
------------------------------------------------------------------------
% of total
assets and off-
balance sheet
$ in billions guarantees as
of Dec 31,
2007 *
------------------------------------------------------------------------
Net Worth as of Dec 31, 2007............ $44 1.4
Equity Issuance in 2008................. 7 0.2
Cumulative Draws **..................... 116 3.8
Peak Cumulative Losses since Dec 31, 167 5.5
2007...................................
Statutory Minimum Capital Requirement as 42 1.4
of Dec 31, 2007........................
. . . Relative to Peak Capital Losses... (126) (4.1)
2.5% Alternative as of Dec 31, 2007..... 76 2.5
. . . Relative to Peak Capital Losses... (91) (3.0)
Bifurcated Alternative as of Dec 31, 68 2.2
2007...................................
. . . Relative to Peak Capital Losses... (100) (3.3)
Proposed Risk-based Capital Requirement 171 5.6
as of Dec 31, 2007.....................
. . . Relative to Peak Capital Losses... 3 0.1
------------------------------------------------------------------------
* Includes Fannie Mae MBS and Freddie Mac participation certificates
held by third parties, and off-balance sheet guarantees related to
securitization activities.
** Includes the valuation allowance on deferred tax assets of $64
billion, Treasury draws of $20 billion related to senior preferred
dividends paid to the Treasury Department between 2008 and the fourth
quarter of 2011, and revenues of $78 billion earned over the same
period.
Next, we analyzed Fannie Mae's single-family portfolio in the
fourth quarter of 2007 and stripped out the loans that would not be
acquired today under Fannie Mae's current acquisition criteria. We then
added projected future credit losses for the loans that remained to the
already realized credit losses to determine Fannie Mae's lifetime
single-family credit losses on that portfolio. In both cases, the
credit risk capital requirement would have exceeded the projected
lifetime credit losses. As illustrated in the table below, Fannie Mae's
estimated single-family credit risk
[[Page 33328]]
capital requirement of $94 billion as of December 31, 2007 based on the
proposed rule would have exceeded Fannie Mae's lifetime single-family
credit losses of $85 billion on the December 31, 2007 guarantee
portfolio for all loans purchased. In addition, excluding loans that
the Enterprises no longer acquire, Fannie Mae's credit risk capital
requirement per the proposed rule of $30 billion would have exceeded
projected lifetime losses of $21 billion.
Table 2--Fannie Mae's Single-Family Credit Risk Capital Requirement
Comparison to Lifetime Single-Family Credit Losses
------------------------------------------------------------------------
% of UPB as of
$ in billions Dec 31, 2007
------------------------------------------------------------------------
Lifetime Single-Family Credit Losses on $85 3.4
the Dec 31, 2007 Guarantee Portfolio...
Proposed SF Credit Risk Capital 94 3.7
Requirement as of Dec 31, 2007.........
. . . Relative to Lifetime Credit Losses 9 0.4
Lifetime Single-Family Credit Losses on 21 1.5
the Dec 31, 2007 Guarantee Portfolio
using Current Acquisition Criteria *...
Proposed SF Credit Risk Capital 30 2.1
Requirement using Current Acquisition
Criteria *.............................
. . . Relative to Lifetime Credit Losses 9 0.7
------------------------------------------------------------------------
* Excludes loans with the following characteristics: Debt-to-income
ratio at origination greater than 50 percent, cash out refinances with
total LTV greater than 85 percent, investor loans with total LTV
greater than or equal to 90 percent, Alt-A, Negative Amortization,
Interest-only, Low or No Documentation, and other legacy programs.
Freddie Mac
Freddie Mac's statutory minimum capital requirement was $26 billion
as of December 31, 2007. For comparison, and as illustrated in the
table below, Freddie Mac's estimated minimum leverage capital
requirement as of December 31, 2007 based on the proposed rule would
have been $54 billion under the 2.5 percent alternative or $53 billion
under the bifurcated alternative. Freddie Mac's estimated minimum
leverage capital requirement under either proposed alternative as of
December 31, 2007 would have been insufficient to cover Freddie Mac's
peak cumulative capital losses of $98 billion. However, Freddie Mac's
estimated risk-based capital requirement of $110 billion based on the
proposed rule would have exceeded Freddie Mac's peak cumulative capital
losses of $98 billion by $12 billion. We include in Freddie Mac's peak
cumulative capital losses the valuation allowance on deferred tax
assets of $34 billion and revenues of $64 billion earned between 2008
and the first quarter of 2012.
Table 3--Freddie Mac's Capital Requirement Comparison to Peak Cumulative
Capital Losses
------------------------------------------------------------------------
% of total
assets and off-
balance sheet
$ in billions guarantees as
of Dec 31,
2007 *
------------------------------------------------------------------------
Net worth as of Dec 31, 2007............ $27 1.2
Cumulative Treasury Draws **............ 71 3.3
Peak cumulative losses since Dec 31, 98 4.5
2007...................................
Statutory Minimum Capital Requirement as 26 1.2
of Dec 31, 2007........................
. . . Relative to Peak Capital Losses... (72) (3.3)
2.5% Alternative as of Dec 31, 2007..... 54 2.5
. . . Relative to Peak Capital Losses... (44) (2.0)
Bifurcated Alternative as of Dec 31, 53 2.4
2007...................................
. . . Relative to Peak Capital Losses... (45) (2.1)
Proposed Risk-based Capital Requirement 110 5.0
as of Dec 31, 2007.....................
. . . Relative to Peak Capital Losses... 12 0.5
------------------------------------------------------------------------
* Includes Fannie Mae MBS and Freddie Mac participation certificates
held by third parties, and off-balance sheet guarantees related to
securitization activities.
** Includes the valuation allowance on deferred tax assets of $34
billion, Treasury draws of $18 billion related to senior preferred
dividends paid to the Treasury Department between 2008 and the first
quarter of 2012, and revenues of $64 billion earned over the same
period.
Next, we analyzed Freddie Mac's single-family portfolio in the
fourth quarter of 2007 and stripped out the loans that would not be
acquired today under Freddie Mac's current acquisition criteria. We
then added projected future credit losses for the loans that remained
to the already realized credit losses to determine Freddie Mac's
lifetime single-family credit losses on that portfolio. After stripping
out the loans that would not be acquired under Freddie Mac's current
acquisition criteria, the credit risk capital requirement would have
exceeded the projected lifetime credit losses. As illustrated in the
table below, Freddie Mac's estimated single-family credit risk capital
requirement of $59 billion as of December 31, 2007 based on the
proposed rule would not have exceeded Freddie Mac's lifetime single-
family credit losses of $64 billion on the December 31, 2007 guarantee
portfolio for all loans purchased. However, excluding loans that the
Enterprises no longer acquire, Freddie Mac's credit risk capital
requirement per the proposed rule of $24 billion would have exceeded
projected lifetime losses of $20 billion.
[[Page 33329]]
Table 4--Freddie Mac's Single-Family Credit Risk Capital Requirement
Comparison to Lifetime Single-Family Credit Losses
------------------------------------------------------------------------
% of UPB as of
$ in billions Dec 31, 2007
------------------------------------------------------------------------
Lifetime Single-Family Credit Losses on $64 3.7
the Dec 31, 2007 Guarantee Portfolio...
Proposed SF Credit Risk Capital 59 3.4
Requirement as of Dec 31, 2007.........
. . . Relative to Lifetime Credit Losses (5) (0.3)
Lifetime Single-Family Credit Losses on 20 1.7
the Dec 31, 2007 Guarantee Portfolio
using Current Acquisition Criteria *...
Proposed SF Credit Risk Capital 24 2.1
Requirement using Current Acquisition
Criteria *.............................
. . . Relative to Lifetime Credit Losses 4 0.4
------------------------------------------------------------------------
* Excludes loans with the following characteristics: Debt-to-income
ratio at origination greater than 50 percent, cash out refinances with
total LTV greater than 85 percent, investor loans with total LTV
greater than or equal to 90 percent, Alt-A, Negative Amortization,
Interest-only, Low or No Documentation, and other legacy programs.
Impact of the Proposed Rule as of September 30, 2017
FHFA estimated the impact of the proposed rule on the Enterprises
as of September 30, 2017. Under the 2.5 percent alternative, FHFA
estimates a combined minimum leverage capital requirement for both
Enterprises of $139.4 billion as of September 30, 2017, while under the
bifurcated alternative FHFA estimates a combined minimum leverage
capital requirement for both Enterprises of $103 billion. FHFA also
estimates a combined risk-based capital requirement of $180.9 billion
or 3.2 percent of the Enterprises' portfolios as of September 30, 2017.
Credit risk capital accounts for $112.0 billion before CRT and $90.5
billion after CRT, market risk capital accounts for $19.4 billion,
operational risk capital accounts for $4.3 billion, and the going-
concern buffer accounts for $39.9 billion. The capital requirement for
the Enterprises' DTAs accounts for the remaining $26.8 billion. A
detailed breakdown of FHFA's estimated risk-based capital requirements
by risk category for the Enterprises combined, and separately for
Fannie Mae and Freddie Mac, as of September 30, 2017 is presented in
Table 5. A breakdown of FHFA's estimated risk-based capital
requirements by asset category for the Enterprises combined, as of
September 30, 2017, is presented in Table 6. A breakdown of FHFA's
estimated minimum leverage capital requirement under both proposed
alternatives for the Enterprises combined, and separately for Fannie
Mae and Freddie Mac, as of September 30, 2017, is presented in Table 7.
Table 5--Fannie Mae and Freddie Mac Estimated Risk-Based Capital Requirements as of September 30, 2017--by Risk Category
--------------------------------------------------------------------------------------------------------------------------------------------------------
Fannie Mae capital Freddie Mac capital Enterprises' combined capital
requirement requirement requirement
--------------------------------------------------------------------------------------------
Share Share Share
$billions bps (%) $billions bps (%) $billions bps (%)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Net Credit Risk............................................ $70.5 ........ ........ $41.5 ........ ........ $112.0 ........ ........
Credit Risk Transferred................................ (11.5) ........ ........ (10.0) ........ ........ (21.5) ........ ........
--------------------------------------------------------------------------------------------
Post-CRT Net Credit Risk................................... 59.0 176 51 31.5 142 48 90.5 162 50
Market Risk................................................ 9.5 28 8 9.9 44 15 19.4 35 11
Going-Concern Buffer....................................... 24.0 72 21 15.9 71 24 39.9 72 22
Operational Risk........................................... 2.6 8 2 1.7 8 3 4.3 8 2
Other (DTA) * **........................................... 19.9 59 17 6.8 31 10 26.8 48 15
--------------------------------------------------------------------------------------------
Total Capital Requirement.............................. 115.0 343 100 65.9 296 100 180.9 324 100
--------------------------------------------------------------------------------------------
Total Assets and Off-Balance Sheet Guarantees, 3,353.1 ........ ........ 2,226.0 ........ ........ 5,579.0 ........ ........
$billions.........................................
--------------------------------------------------------------------------------------------------------------------------------------------------------
* The DTA capital requirement is a function of Core Capital. Both Enterprises have negative Core Capital as of September 30, 2017. In order to calculate
the DTA capital requirement, we assume Core Capital is equal to the Risk-Based Capital Requirement without consideration of the DTA capital
requirement.
** Both Enterprises' DTAs were reduced in December 2017 as a result of the change in the corporate tax rate. The risk-based capital requirement for DTAs
as of December 31, 2017 would be $10.0 billion or 30 bps for Fannie Mae and $1.2 billion or 5 bps for Freddie Mac. See Table 33 and Table 34 for more
detail.
[[Page 33330]]
Table 6--Fannie Mae and Freddie Mac Combined Estimated Risk-Based Capital Requirements for the Enterprises as of
September 30, 2017--by Asset Category
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps * Share (%)
----------------------------------------------------------------------------------------------------------------
Single-family Whole Loans, Guarantees and Related Securities.... $130.5 273 72
Multifamily Whole Loans, Guarantees and Related Securities...... 13.9 278 8
PLS............................................................. 3.4 2,336 2
CMBS............................................................ 0.02 279 0
Other (DTA)..................................................... 26.8 811 15
Other Assets.................................................... 6.3 192 3
-----------------------------------------------
Total Capital Requirement................................... 180.9 .............. 100
----------------------------------------------------------------------------------------------------------------
* Basis points (bps) are calculated based on UPB of the respective asset category.
Table 7--Fannie Mae and Freddie Mac Estimated Minimum Leverage Capital Requirement Alternatives as of September
30, 2017
----------------------------------------------------------------------------------------------------------------
$billions
-----------------------------------------------
Enterprises
Fannie Mae Freddie Mac combined
----------------------------------------------------------------------------------------------------------------
2.5% Minimum Capital Alternative
----------------------------------------------------------------------------------------------------------------
2.5% Minimum Capital Alternative Requirement.................... $83.8 $55.6 $139.5
% of Total Assets and off-balance sheet guarantees.............. 2.5% 2.5% 2.5%
----------------------------------------------------------------------------------------------------------------
Bifurcated Minimum Capital Alternative
----------------------------------------------------------------------------------------------------------------
Bifurcated Minimum Capital Alternative Requirement.............. $60.4 $43.1 $103.5
% of Total Assets and off-balance sheet guarantees.............. 1.8% 1.9% 1.9%
Requirement for Non-Trust Assets............................ $16.1 $15.5 $31.6
% of Non-trust Assets....................................... 4% 4% 4%
Requirement for Trust Assets................................ $44.3 $27.6 $71.8
% of Trust Assets........................................... 1.5% 1.5% 1.5%
-----------------------------------------------
Total Assets plus off-balance sheet guarantees.................. $3,353 $2,226 $5,579
Non-trust Assets............................................ $403 $388 $791
Trust Assets................................................ $2,950 $1,838 $4,788
----------------------------------------------------------------------------------------------------------------
C. Risk-Based Capital Requirements
1. Overall Approach
The proposed rule would establish risk-based capital requirements
across five categories of the Enterprises' mortgage guarantees and
portfolio holdings: (1) Single-family whole loans, guarantees, and
related securities, (2) private-label mortgage-backed securities (PLS),
(3) multifamily whole loans, guarantees, and related securities, (4)
commercial mortgage-backed securities (CMBS), and (5) other assets. An
additional category, ``Unassigned Assets,'' would provide an approach
to assigning capital requirements to new products or activities that do
not have an explicit treatment in this rule. Under this proposal, each
of these asset and guarantee categories may include capital
requirements for three kinds of risk: Credit risk, market risk, and
operational risk. FHFA's proposal for the credit risk and market risk
associated with the five asset and guarantee categories reflects the
Agency's view about the relative risks of these assets. The proposed
rule would also establish a risk-invariant capital requirement for
operational risk that applies across all asset and guarantee
categories. Lastly, the proposal would apply a going-concern buffer
across all asset and guarantee categories.
Each of the three risk categories (credit risk, market risk, and
operational risk), in addition to the going-concern buffer, is further
summarized below.
Credit Risk
In evaluating the credit risk faced by the Enterprises, mortgage
credit risk can be segmented into the following categories: (1)
Expected loss; (2) unexpected loss; and (3) catastrophic loss. Expected
losses result from the failure of some borrowers to make their payments
during stable housing market conditions. Even in a stable and healthy
housing market, some borrowers are likely to default on their loan as a
result of certain life events such as illness, job loss, or divorce.
Unexpected losses are the potentially much larger losses that could
occur above expected losses should there be a stressful, yet plausible,
macroeconomic event, such as a severe downturn in house price levels as
might accompany a recession. For example, the credit losses that took
place during the recent financial crisis and were in excess of the
predicted loss amounts would be considered unexpected losses.
Catastrophic losses are those losses beyond unexpected loss and would
be deemed highly unlikely to occur. In general, losses beyond those
experienced during the recent financial crisis would be considered
catastrophic losses. However, there is not a bright line marking the
transition from unexpected to catastrophic loss.
For purposes of this proposed rule, FHFA defines the risk-based
credit risk capital requirement for single-family and multifamily whole
loans and guarantees as unexpected loss. As described above, these
stress losses are forecasted under scenarios that are
[[Page 33331]]
generally comparable to stress experienced during the recent financial
crisis. The proposed rule would calculate unexpected loss as the
difference in the present value of lifetime losses under a stressful
macroeconomic event scenario and lifetime losses under an expected
scenario. Losses under the expected scenario (``expected losses'') are
netted out from losses under the stressful macroeconomic event scenario
(``stress losses'') in order to be consistent with other regulatory
regimes. In particular, the loss scenarios draw on conceptual and
methodological inputs from regulatory frameworks such as DFAST, CCAR,
and the Basel Accords. The Enterprises set guarantee fees at a level to
cover the lifetime cost of expected losses; therefore, there is no need
for the Enterprises to hold capital for expected loss.
The starting point of the proposed risk-based credit risk capital
requirement for single-family and multifamily whole loans and
guarantees would be implemented through a series of look-up tables
(``grids and risk multipliers'') that take into account loan risk
characteristics. The proposed rule would utilize look-up tables because
they are simple and transparent, are easily implemented, and allow easy
comparison to other capital standards by regulators and the public. As
an alternative to the use of look-up tables to implement the risk-based
credit risk capital requirement for single-family and multifamily whole
loans, FHFA considered using collections of econometric equations
(``models''), either the Enterprises' internal models or an FHFA-
specified model. FHFA determined that the use of a model would produce
more nuanced results than the look-up tables, but would result in
greater opacity and operational complexity. Furthermore, the use of the
Enterprises' internal models for credit risk was rejected because it
would result in inconsistent requirements between the Enterprises for
assets with the same risk characteristics.
The proposed rule would use lifetime losses, as opposed to using a
shorter horizon, in calculating the credit risk capital requirement in
order to fully capture any variation in losses due to differences in
loan risk characteristics. For example, if a seven year horizon were
used, the risk associated with the payment reset of a multifamily loan
with a ten year interest-only period would not be captured in the
credit risk capital requirement. Furthermore, the use of lifetime
losses is more conservative than a requirement based on losses over a
shorter horizon as it covers the unexpected losses over the lifetime of
the loan.
FHFA considered the inclusion of revenues into the credit risk
capital requirements to reflect the fact that the Enterprises would be
conducting new business and that vast majority of borrowers would
continue to pay their mortgage even during a stressful macroeconomic
event. For example, at the lowest point during the Great Recession,
approximately 92 percent of borrowers with Enterprise guaranteed
mortgages were current on their mortgages.\33\ On the other hand, FHFA
believes there is greater benefit to having a risk-based capital
requirement that ensures sufficient capital without considering new
revenue. Inclusion of revenues could result in very low or zero risk-
based capital requirements for specific portfolio segments. FHFA also
considered additional reasons for excluding revenues such as that Basel
capital requirements exclude revenue, and that revenue serves to build
capital during stress events so that the Enterprises can continue as
going concerns.
---------------------------------------------------------------------------
\33\ February 2010 Foreclosure Prevention and Refinance Report.
---------------------------------------------------------------------------
The proposed rule also would not incorporate the tax deductibility
of losses in order to create a simple and transparent measure of risk
and to maintain general consistency with other regulatory regimes.
Inclusion of the tax deductibility of losses would add significant
complexity to the proposed rule. Additionally, FHFA already has an
assessment of capitalization, the annual Dodd-Frank Act Stress Test
exercise which incorporates revenue, the tax deductibility of losses
and accounting impacts.
Question 1: FHFA is soliciting comments on all aspects of the
proposed risk-based capital framework. What modifications to the
proposed risk-based capital framework should be considered and why?
Market Risk
The Enterprises are exposed to market risk, including interest rate
risk and spread risk, through their ownership of whole loans and their
investments in MBS. Interest rate risk is the risk of loss from adverse
changes in the value of the Enterprises' assets or liabilities due to
changes in interest rates. Spread risk is the risk of a loss in value
of an asset relative to a risk free or funding benchmark due to changes
in perceptions of performance or liquidity. The Enterprises have
historically actively managed interest rate risk but have not fully
hedged spread risk.
The proposed rule would establish risk-based capital requirements
for the market risk associated with single-family whole loans,
multifamily whole loans, single-family mortgage-backed securities (MBS)
and collateralized mortgage obligations (CMOs), Government National
Mortgage Association (Ginnie Mae) single-family and multifamily MBS,
PLS, commercial mortgage-backed securities (CMBS), and other assets
with market risk exposure held in the Enterprises' respective retained
portfolios. While the Enterprises have legacy assets acquired prior to
entering conservatorship, such as certain private-label securities
investments, the ongoing use of the Enterprises' retained portfolios
during conservatorship is now limited to transactions that support the
Enterprises' core mortgage guarantee business activities. This includes
supporting acquisitions through the cash window primarily for smaller
lenders and buying delinquent loans out of securities in order to
facilitate loss mitigation activities that benefit both borrowers and
taxpayers. Because the Enterprises' retained portfolio activities have
been greatly limited through conservatorship, these portfolios now
represent a small share of the Enterprises' overall risk exposure, and
the proposed methodology for calculating market risk capital
requirements is therefore simple and straightforward. Although FHFA
will automatically suspend a final rule because the Enterprises are in
conservatorship and cannot build capital, the proposed rule is only
intended to address market risks for the Enterprises as they are
currently established under conservatorship. In a post-conservatorship
housing finance system, FHFA may consider additional methodologies for
calculating market risk capital requirements, and FHFA would have the
regulatory flexibility to undertake such actions outside the scope of
this proposed rulemaking.
The primary target of the risk-based capital requirement for market
risk would be spread risk, as the Enterprises closely hedge interest
rate risk at the portfolio level through the use of callable debt and
derivatives. Spread risk is a loss in value of an asset relative to a
risk free or funding benchmark. Generally, spread risk is calculated by
multiplying the amount of spread widening by the spread duration of the
asset. Spread widening is typically based on historical spread shocks.
Spread duration, or the sensitivity of the market value of an asset to
changes in the spread, is determined by using
[[Page 33332]]
models that involve assumptions about interest rate movements and
prepayment sensitivity. Prepayment sensitivity reflects the
relationship between the volume and timing of cash flows and changes in
the interest rate or the spread.
The proposed rule would establish three approaches to determining
the risk-based market risk capital requirement, each tailored to the
Enterprises' businesses. The first approach defines market risk capital
as a single point estimate provided by the proposed rule. The second
approach is a spread duration approach that defines market risk capital
by multiplying a spread shock, provided by the proposed rule, by a
spread duration generated from an Enterprise's internal models. The
third approach defines market risk capital through the exclusive use of
an Enterprise's internal models. The proposed rule would assign the
Enterprises' assets to one of the three approaches based on: (i)
Whether the asset belongs to a small and declining portfolio where
acquisition is limited as the result of conservatorship, (ii) the
relative importance of market risk to credit risk for the asset, and
(iii) the complexity of the product structure or prepayment
sensitivity.
In general, the proposed rule would assign the simplified single
point estimate to assets that are either (i) part of a small and
declining portfolio or (ii) where credit risk is the predominant risk.
A single point estimate, while simple, may inadequately capture the
market risk attributes for assets with complex structures or products
with high prepayment sensitivity. For instance, assets with complex
structures, such as CMOs, can have different prepayment risk across
different tranches, and products with high prepayment sensitivity can
have spread durations varying across a wide range of characteristics.
For products with complex structures or high prepayment
sensitivity, market risk capital results that rely on internal model
calculations (the second and third approaches) could provide more
accurate market risk capital estimates when compared with a single
point estimate. Therefore, the proposed rule would rely on an
Enterprise's internal models only when the market risk complexity is
sufficiently high that using a single point estimate would inadequately
represent the product's underlying market risk.
Market risk capital requirements resulting from the Enterprises'
internal models are derived under an established model risk management
governance process that includes FHFA's supervisory review. In
particular, FHFA issues advisory bulletins, which are public documents
that communicate FHFA's supervisory expectations to FHFA supervision
staff and to the Enterprises on specific supervisory matters and
topics. In addition, through FHFA's supervision program, FHFA on-site
examiners conduct supervisory activities to ensure safe and sound
operations of the Enterprises. These supervisory activities may include
the examination of the Enterprises to determine whether they meet the
expectations set in the advisory bulletins. Examinations may also be
conducted to determine whether the Enterprises comply with their own
policies and procedures, regulatory and statutory requirements, or FHFA
directives.
FHFA's 2013-07 Advisory Bulletin reflects supervisory expectations
for an Enterprise's model risk management. The Advisory Bulletin sets
minimum thresholds for model risk management and differentiates between
large, complex entities and smaller, less complex entities. As the
Enterprises are large complex entities that develop and maintain
internal market risk models, the Advisory Bulletin subjects them to
heightened standards for internal audit, model risk management, model
control framework, and model lifecycle management.
Question 2: FHFA is soliciting comments on alternative approaches
to determining market risk including using the global market shock
component of DFAST, discussed in section I.G. Should alternative
approaches be considered and why?
Operational Risk
The proposed rule would establish a risk-invariant capital
requirement for operational risk as discussed below. The operational
risk capital requirement would be assessed as a fixed capital
requirement on the unpaid principal balance of instruments with credit
risk or on the market value of instruments with market risk. The Basel
Basic Indicator Approach for operational risk would be used to
determine the fixed capital requirement.
Going-Concern Buffer
As also discussed below, the proposed rule would also establish a
going-concern buffer to ensure the Enterprises have sufficient capital
to support the mortgage markets during and after a period of severe
financial stress. The going-concern buffer would be assessed as a fixed
capital requirement on the unpaid principal balance of instruments with
credit risk or on the market value of instruments with market risk.
Question 3: FHFA is soliciting comments on the use of updated risk
characteristics, including LTV and credit score, in the proposed risk-
based capital requirements, particularly as it relates to the pros and
cons of having risk-based capital requirements with elements of pro-
cyclicality. Risk-based capital requirements that rely on inputs like
house prices and loan risk characteristics that change over time have
benefits and drawbacks. On the one hand, using updated risk
characteristics such as performance history to determine risk-based
capital requirements would result in a more accurate assessment of the
risks faced by the Enterprises at any particular point in time within
credit and economic cycles. On the other hand, using updated risk
characteristics would result in pro-cyclical risk-based capital
requirements, which may make it more difficult for the Enterprises to
raise capital during periods of deteriorating credit or economic
conditions.
As discussed above, the proposed rule's approach of using mark-to-
market LTVs to determine credit risk capital requirements would more
accurately represent the Enterprises' current risk profile than would
using original LTVs. This is because the current value of a house
influences both the probability that a homeowner will default on the
mortgage and the magnitude of losses if a homeowner defaults. In times
of house price appreciation mark-to-market LTVs would fall and credit
risk capital requirements would decrease, while in times of house price
depreciation mark-to-market LTVs would rise and credit risk capital
requirements would increase. Therefore, not updating LTVs during a
market downturn with decreasing house prices would, all else held
constant, result in lower risk-based capital requirements relative to
using mark-to-market LTVs. In such a scenario, not updating risk
characteristics during a stress event could result in risk-based
capital requirements being too low because original LTVs would be
understated relative to current LTVs that account for decreased home
values during the stress event. Whether using original LTVs or mark-to-
market LTVs, the proposed credit risk capital requirements in the base
grids for new originations are designed to account for a decline in
house prices comparable to the 2008 financial crisis.
However, using original LTVs to determine credit risk capital
requirements would reduce the pro-cyclicality of the proposed risk-
based
[[Page 33333]]
capital requirements and smooth out the Enterprises' credit risk
capital requirements across economic and credit cycles, making the
Enterprises' capital planning more predictable. Maintaining original
LTVs for single-family loans would, for example, result in higher
credit risk capital requirements during times of house price
appreciation, such as the present time, relative to the proposed rule.
Because the credit risk capital requirements in the proposed rule are
determined using grids based on LTVs, if original LTVs were not updated
over time credit risk capital requirements would not increase as a
direct result of falling house prices during a market downturn.
Comparing the use of constant or mark-to-market LTVs under the U.S.
regulatory implementation of Basel III requires consideration of how
the standardized approach and internal ratings-based approach interact
with one another. The standardized approach maintains a 50 percent risk
weight for mortgages and does not update this risk weight as house
prices increase or decrease. The internal ratings-based approach
allows, but does not require, institutions to use updated risk factors
such as mark-to-market LTVs.
Should FHFA consider reducing the pro-cyclicality of the proposed
risk-based capital requirement? For example, should FHFA consider
holding LTVs and/or other risk factors constant? What modifications or
alternatives, if any, should FHFA consider to the proposed risk-based
capital framework, and why?
The next sections discuss the components of FHFA's proposed risk-
based capital requirements in more detail. This discussion begins with
operational risk, which applies consistently across all of the
Enterprises' mortgage loan/asset categories. The discussion continues
with the proposed going-concern buffer, which would also apply
consistently across all of the Enterprises' asset and guarantee
categories. The following sections then discuss risk-based capital
requirements for each asset and guarantee category, with subsections
that address credit risk and market risk in detail along with summaries
of the operational risk and going-concern buffer provisions.
2. Operational Risk
The proposed rule would include an operational risk capital
requirement of 8 basis points in the risk-based capital requirement.
For assets and guarantees with credit risk, the 8 basis points would be
multiplied by the unpaid principal balance of the asset or guarantee.
For assets with market risk, the 8 basis points would be multiplied by
the market value of the asset. For assets and guarantees with both
credit and market risk, the 8 basis points would be multiplied by the
unpaid principal balance.
Operational risk is the risk of loss resulting from inadequate or
failed internal processes, errors made by people and systems, or from
external events. Operational risk is inherent in each Enterprise's
business operations. Given the nature of such risks, it is challenging
to quantify or estimate operational risk at the asset level. Under the
Basel II framework, which requires banks to hold capital related to
operational risk, there are three approaches used to measure the
operational risk capital requirement: The Basic Indicator Approach, the
Standardized Approach, and the Advanced Measurement Approach.\34\
---------------------------------------------------------------------------
\34\ See the Basel Committee on Banking Supervision--
International Convergence of Capital Measurement and Capital
Standards, June 2004.
---------------------------------------------------------------------------
The Basic Indicator Approach is the simplest approach of the three,
and it is generally used by banks without significant international
operations. The Standardized Approach and the Advanced Measurement
Approach employ increasing complexity for calculating operational risk
capital requirements. The Advanced Measurement Approach is the most
advanced approach and is subject to supervisory approval.\35\ In the
proposed rule, FHFA uses the Basic Indicator Approach to calculate the
operational risk capital requirement for the Enterprises, as it is
simple and transparent, and it ensures a consistent treatment across
the Enterprises.
---------------------------------------------------------------------------
\35\ The Basel III framework replaces the collection of Basel II
approaches used to measure operational risk with a single, risk-
sensitive standardized approach based on two components: (1) A
measure of a bank's income, and (2) a measure of a bank's historical
losses. The new standardized approach would be used by all banks.
See https://www.bis.org/bcbs/publ/d424.htm.
---------------------------------------------------------------------------
The Basic Indicator Approach requires banks to hold capital for
operational risk equal to a fixed percentage (scalar) of the average
positive gross income relative to total assets over the previous three
years. The scalar of 15 percent is the fixed percentage set by the
Basel Committee on Banking Supervision (BCBS), representing the
prescribed relationship between operational risk loss and the aggregate
level of gross income. The prescribed scalar of 15 percent is
consistent with the percentage prescribed for the commercial banking
business line under the Basel Standardized Approach. Gross income is
defined as net interest income plus net non-interest income. The
measure is gross of any provisions and operating expenses, and excludes
realized profits or losses from the sale of securities and
extraordinary or irregular items.
As reflected in the table below, FHFA calculated the operational
risk capital requirement for each Enterprise based on a three-year
average of gross income from 2014 to 2016.
Table 8--Operational Risk Capital Requirement
[Three year average (2014-2016)]
----------------------------------------------------------------------------------------------------------------
Weighted
Amounts in $billions Fannie Mae Freddie Mac average
----------------------------------------------------------------------------------------------------------------
(1) Gross consolidated income................................... $17.9 $9.8 ..............
(2) Scalar...................................................... 15% 15% ..............
(3) Guarantee book of business.................................. $3,064 $1,954 ..............
-----------------------------------------------
Capital Requirement (bps) = (1 x 2)/3........................... 8.7 7.5 8.2
----------------------------------------------------------------------------------------------------------------
The Basic Indicator Approach
Banks using the Basic Indicator Approach must hold capital for
operational risk equal to the average over the previous three years of
a fixed percentage (denoted alpha) of positive annual gross income.
Figures for any year in which annual gross income is negative or zero
should be excluded from both the numerator and denominator when
calculating the
[[Page 33334]]
average. The requirement may be expressed as follows:
KBIA = [[Sigma](GI1 . . . n x [alpha])]/n
Where:
KBIA = the capital requirement under the Basic Indicator Approach
GI = annual gross income, where positive, over the previous three
years
n = number of the previous three years for which gross income is
positive
[alpha] = 15 percent, which is set by the Committee, relating the
industry wide level of required capital to the industry wide level
of the indicator.
Gross income is defined as net interest income plus net non-
interest income. It is intended that this measure should: (i) Be gross
of any provisions (e.g., for unpaid interest); (ii) be gross of
operating expenses, including fees paid to outsourcing service
providers; (iii) exclude realized profits/losses from the sale of
securities in the banking book; and (iv) exclude extraordinary or
irregular items as well as income derived from insurance.
FHFA combined the Enterprises' results to determine an operational
risk capital requirement of 8 basis points.
Question 4: FHFA is soliciting comments on the proposed operational
risk capital requirements. Should FHFA consider requiring the
Enterprises to calculate operational risk capital requirements using
the new standardized approach for operational risk included in the
Basel III framework? What additional modifications to the proposed
operational risk capital requirements should be considered and why?
3. Going-Concern Buffer
The proposed rule would include a going-concern buffer of 75 basis
points in the risk-based capital requirement. For assets and guarantees
with credit risk, the 75 basis points would be multiplied by the unpaid
principal balance of the asset or guarantee. For assets or guarantees
with market risk, the 75 basis points would be multiplied by the market
value of the asset or guarantee. For assets and guarantees with both
credit and market risk, the 75 basis points would be multiplied by the
unpaid principal balance.
The Enterprises are required by charter to provide liquidity to the
mortgage markets during and after a period of severe financial stress.
During a period of severe financial distress, the Enterprises would
need capital to offset credit and market losses on their existing
portfolios, to support the mortgage market by purchasing new loans, and
more generally, to maintain market confidence in the Enterprises'
securities. Losses on the Enterprises' existing portfolios would
deplete capital and would incent the Enterprises to withdraw from
riskier segments of the mortgage market in order to preserve capital.
Raising new capital during a period of severe housing market stress,
like that envisioned in this rule, would be very expensive, if not
impossible; therefore, the proposed rule would require the Enterprises
to hold additional capital on an on-going basis (``going-concern
buffer'') in order to continue purchasing loans and to maintain market
confidence during a period of severe distress.
To quantify the size of the going-concern buffer, FHFA looked to
the Enterprises' DFAST results for the severely adverse scenario. The
DFAST severely adverse scenario specified by FHFA incorporates an
assumption that the Enterprises will originate new business during the
stress period. DFAST results reflect the impact of the stress scenario
on the earnings and capital of each Enterprise.
FHFA calculated the amount of capital necessary for the Enterprises
to meet a 2.5 percent leverage requirement at the end of each quarter
of the simulation of the severely adverse DFAST scenario (without DTA
valuation allowance) and compared that amount to the aggregate risk-
based capital requirement. The difference between these two measures
provided an indicator for the size of the going-concern buffer. FHFA
ultimately determined that the size of the going-concern buffer should
be 75 basis points and that the going-concern buffer would be risk-
invariant. This approach is useful because it includes a severe stress,
an assumption of new business during the severe stress, and an
assumption that an Enterprise has enough capital to meet its minimum
leverage requirement during and at the end of the stress period, which
should contribute to maintaining market confidence. As further
validation of the proposed 75 basis points going-concern buffer, FHFA
compared the capital obtained by applying the proposed going-concern
buffer to the 2017 single-family book of business with the capital
required to fund each Enterprise's 2017 new acquisitions. FHFA found
the proposed going-concern buffer would provide sufficient capital for
each Enterprise to fund an additional one to two years of new
acquisitions comparable to their 2017 new acquisitions.
Question 5: FHFA is soliciting comments on the proposed going-
concern buffer. What modifications to the proposed going-concern buffer
should be considered and why?
4. Single-Family Whole Loans, Guarantees, and Related Securities
This section corresponds to Proposed Rule Sec. Sec. 1240.5 through
1240.23.
Overview
The proposed rule would establish risk-based capital requirements
for the Enterprises' single-family whole loans, guarantees, and
securities held for investment. The core of the Enterprises' single-
family businesses is acquiring and packaging single-family loans into
mortgage-backed securities (MBS) and providing credit guarantees on the
issued securities. The aim of the proposed single-family capital
requirements is to ensure the continued operation of these important
single-family business operations throughout periods of economic
uncertainty. In the context of the proposed rule, single-family whole
loans are single-family mortgage loans acquired by the Enterprises and
held in portfolio, including those purchased out of MBS trusts due to
issues related to payment performance. Likewise, single-family
guarantees are guarantees provided by the Enterprises of the timely
receipt of principal and interest payments to investors in mortgage-
backed securities (MBS) that have been issued by the Enterprises and
are backed by single-family mortgage loans. Except in cases where they
transfer the risk to private investors, the Enterprises are exposed to
credit risk through their ownership of single-family whole loans and
guarantees issued on MBS. In addition, the Enterprises are exposed to
market risk through their ownership of single-family whole loans and
mortgage-backed securities held for investment purposes.
To implement the proposed single-family capital requirements, the
Enterprises would use a set of single-family grids and risk multipliers
to calculate credit risk capital, as well as a collection of
straightforward formulas to calculate market risk capital, operational
risk capital, and a going-concern buffer.
The proposed rule would first establish a framework through which
the Enterprises would calculate their gross single-family credit risk
capital requirements. The proposed methodology is simple and
transparent, relying on a set of look-up tables (grids and risk
multipliers) that would account for many important single-family risk
factors in the calculation of gross credit risk capital requirements,
including loan characteristics such as age, payment performance, loan-
to-value (LTV), and credit score.
[[Page 33335]]
The proposed grid and multiplier framework is consistent with
existing financial regulatory regimes, and would therefore facilitate
comparison to those regimes and promote understanding of the
framework's methodology and resulting capital requirements. In
particular, the proposed rule is conceptually and methodologically
similar to regulatory frameworks such as DFAST, CCAR, and the Basel
Accords. FHFA believes that this straightforward and transparent
approach, as opposed to one involving a complex set of credit models
and econometric equations, would provide sufficient risk
differentiation across the Enterprises' single-family businesses
without obfuscating capital calculations or placing undue
implementation and compliance burdens on the Enterprises.
Next, the proposed rule would provide a mechanism through which the
Enterprises would calculate net credit risk capital requirements for
single-family whole loans and guarantees by accounting for the benefits
associated with loan-level credit enhancements such as mortgage
insurance, while also accounting for the counterparty credit risk
associated with third parties such as mortgage insurance companies.
The proposed rule would then provide a mechanism for the
Enterprises to calculate capital relief by reducing net single-family
credit risk capital requirements based on the amount of loss shared or
risk transferred to private sector investors through the Enterprises'
respective credit risk transfer programs. Collectively, the Enterprises
engage in a variety of types of single-family credit risk transfer
transactions, and this aspect of the proposed rule would account for
differences in the Enterprises' single-family business models.
The proposed rule would establish market risk capital requirements
for single-family whole loans and mortgage-backed securities held for
investment. The proposed methodology would account for spread risk
using either simple formulas or the Enterprises' internal models,
depending on the risk characteristics of the single-family whole loans
or guarantees being considered.
In addition, the proposed rule would establish an operational risk
capital requirement for the Enterprises' single-family businesses that
is invariant to risk. The proposed operational risk capital requirement
is based on the Basel Basic Indicator Approach and would require the
Enterprises to calculate operational risk capital as a fixed percentage
of total unpaid principal balances or market values, depending on
whether the Enterprises retain both credit and market risk for
particular single-family assets or merely market risk.
Finally, as described above, the proposed rule would establish a
going-concern buffer for the Enterprises' single-family businesses that
is also invariant to risk with the objective of ensuring that, when
combined with Enterprise revenue, the Enterprises have sufficient
capital to continue operating their single-family businesses during and
after a period of severe financial distress. Under the proposed rule,
the Enterprises would be required to calculate the single-family going-
concern buffer as a fixed percentage of total unpaid principal balances
or market values, depending on whether the Enterprises retain both
credit and market risk for particular single-family assets or merely
market risk.
Single-Family Business Model
The proposed rule would apply equally to both Enterprises
regardless of differences in their single-family business models.
Although the Enterprises operate independently of one another, the
common core of their single-family businesses is the acquisition of
single-family mortgage loans from mortgage companies, commercial banks,
credit unions, and other financial institutions, packaging those loans
into mortgage-backed securities (MBS), and selling the MBS either back
to the original lenders or to other private investors in exchange for a
fee that represents a guarantee of timely principal and interest
payments on those securities.
The Enterprises engage in the acquisition and securitization of
single-family mortgages primarily through two types of transactions:
Lender swap transactions and cash window transactions. In a lender swap
transaction, lenders pool similar single-family loans together and
deliver the pool of loans to an Enterprise in exchange for an MBS
backed by those single-family mortgage loans, which the lenders
generally then sell in order to use the proceeds to fund more mortgage
loans. In a cash window transaction, an Enterprise purchases single-
family loans from a large, diverse group of lenders and then
securitizes the acquired loans into an MBS to sell at a later date. For
MBS issued as a result of either lender swap transactions or cash
window transactions, the Enterprises provide investors with a guarantee
of the timely receipt of payments in exchange for a guarantee fee.
Single-family loans that have been purchased but have not yet been
securitized are held in the Enterprises' whole loan portfolios. In
addition, the Enterprises also repurchase loans that have been
delinquent for four or more consecutive months from the MBS they
guarantee.
The Enterprises are exposed to credit risk through their ownership
of single-family whole loans and the guarantees they issue on MBS. The
Enterprises may incur a credit loss when borrowers default on their
mortgage payments, so the Enterprises attempt to mitigate the
likelihood of incurring such a loss in a variety of ways. One way to
reduce potential credit losses is through the use of credit
enhancements such as primary mortgage insurance. Credit enhancement is
required by the Enterprises' charter acts for single-family loans with
loan-to-value ratios over 80 percent.\36\ In addition to loan-level
credit enhancements, the Enterprises may, and indeed often do, engage
in pool-level credit risk transfer transactions (CRT) in order to
transfer a portion of their retained single-family credit risk to
investors.
---------------------------------------------------------------------------
\36\ The charter acts permit three types of credit enhancement
for such high-LTV loans, but private mortgage insurance is by far
the most commonly used.
---------------------------------------------------------------------------
Rule Framework and Implementation
The proposed rule would establish risk-based capital requirements
for the Enterprises' single-family businesses, including requirements
for their whole loans, guarantees, and securities held for investment.
Using the proposed requirements, the Enterprises would calculate the
minimum amount of funds needed to continue their single-family business
operations under stressed economic conditions, as discussed in detail
below. The proposed single-family capital requirements would have the
following components: Credit risk capital, including relief for credit
risk transfers; market risk capital; operational risk capital; and a
going-concern buffer. Each component is discussed in detail in the
ensuing subsections.
a. Credit Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.5 through
1240.13.
Single-Family Whole Loans and Guarantees
The proposed rule would establish credit risk capital requirements
for the Enterprises' conventional single-family whole loans and
guarantees. For reasons discussed below, loans with a government
guarantee would not be subject to the credit risk capital requirement.
The single-family credit risk capital requirements would
[[Page 33336]]
determine the minimum funding necessary to cover the difference between
estimated lifetime credit losses in severely adverse economic
conditions (alternatively referred to as stress losses) and expected
losses. As adverse economic conditions are not explicitly defined, the
loss projections that underpin the credit risk capital requirements in
the proposed rule are based on several different economic scenarios.
Each Enterprise used economic scenarios that they defined to
project loan-level credit risk capital. In addition, FHFA leveraged the
baseline and severely adverse scenario defined in the Dodd-Frank Act
Stress Tests (DFAST) to project expected and stress losses. The DFAST
scenarios are well understood economic conditions updated annually by
the Federal Reserve Board. FHFA used these pre-existing scenarios as a
starting point for its estimations in order to provide economic
scenarios consistent with those issued by other regulators to large
financial institutions for stress tests required under DFAST. FHFA also
used these scenarios to ensure a straightforward, transparent approach
to the proposed rule's capital requirements. The DFAST scenarios
include forecasts for macroeconomic variables including home prices,
interest rates, and unemployment rates.
Home prices are generally considered to be the most important
determinant of a strong single-family housing market. Home prices are
used to define the loan-to-value ratio, where the likelihood of a loss
occurring upon default increases as the proportion of equity to loan
value deceases. Therefore, the projected home price path is the
predominant macroeconomic driver for the requirements single-family
stress scenarios.
The Enterprises used similar house price paths to project credit
risk capital. In the stress scenarios used by FHFA and the Enterprises,
nationally averaged home prices declined by 25 percent from peak to
trough (the period of time between the shock and the recovery), which
is consistent with the decline in home prices observed during the
recent financial crisis. The 25 percent home price decline is also
consistent with assumptions used in the DFAST severely adverse scenario
over the past several years, although the 2017 DFAST cycle assumes a 30
percent home price decline in its severely adverse scenario. However,
the trough and recovery assumptions used by FHFA and the Enterprises
are somewhat more conservative than the observed house price recoveries
post crisis. The single-family credit risk capital grids, discussed
below, reflect estimations of stress losses and expected losses under
these severely adverse economic conditions.
The proposed rule would require the Enterprises to calculate credit
risk capital requirements for single-family whole loans and guarantees
by completing the following simplified steps:
(1) Determine base single-family credit risk capital requirements
using single-family-specific credit risk capital grids;
(2) Determine gross single-family credit risk capital requirements
by adjusting base single-family credit risk capital requirements for
additional risk characteristics using a set of single-family-specific
risk multipliers;
(3) Determine net single-family credit risk capital requirements by
adjusting gross single-family credit risk capital requirements for
loan-level credit enhancements, including accounting for counterparty
risk; and
(4) Determine capital relief from net single-family credit risk
capital requirements due to credit risk transfer transactions.
Base Credit Risk Capital Requirements
This section corresponds to Proposed Rule Sec. Sec. 1240.5 through
1240.16.
The proposed rule would require the Enterprises to calculate base
credit risk capital requirements for single-family whole loans and
guarantees using a set of five look-up tables or grids, one for each
single-family loan segment. Accordingly, for the purpose of the
proposed rule, the Enterprises would categorize their single-family
whole loans and guarantees into five loan segments, with each loan
segment representing a different period in the possible life cycle of a
single-family mortgage loan.
The proposed single-family loan segments are based on age and
payment performance because the expectation of a credit loss depends
heavily on these two risk factors. Additional risk factors affect the
expectation of credit loss differently depending on where a loan is in
its life cycle. The amount of credit risk capital required for a
single-family whole loan or guarantee therefore would change over the
life cycle of a loan, decreasing when the loan is seasoned and
performing, and increasing when the loan is delinquent or has recently
experienced delinquency. These dynamics are often captured in credit
loss forecasts by estimating different mortgage performance equations
for loans in different life-cycle stages. The proposed rule would
capture these dynamics in a similar fashion by having five different
single-family credit risk capital grids and sets of multipliers for
whole loans and guarantees in different life-cycle stages. The five
proposed loan segments for single-family whole loans and guarantees
are:
New originations: Loans that were originated within 5
months of the capital calculation date and have never been 30-days
delinquent. Streamlined refinance loans, including HARP loans, are
excluded from this category.
Performing seasoned: Loans that were originated at least 5
months before the capital calculation date and have been neither 30-
days delinquent nor modified within 36 months of the capital
calculation date. Newly originated streamlined refinance loans,
including HARP loans, are included in this category.
Non-modified re-performing: Loans that are currently
performing and have had a prior 30-day delinquency, but not a prior
modification.
Modified re-performing: Loans that are currently
performing and have had a prior 30-day delinquency and a prior
modification.
Non-performing: Loans that are currently at least 30-days
delinquent.
Each single-family loan segment would have a unique two-dimensional
credit risk capital grid that the Enterprises would use to calculate
base credit risk capital requirements for every whole loan and
guarantee in the loan segment. The dimensions of the credit risk
capital grids would vary by loan segment to allow the grids to
differentially incorporate key risk drivers into the base credit risk
capital requirements on a segment-by-segment basis. For example,
current (refreshed) credit scores and mark-to-market LTV (MTMLTV) are
two primary drivers of credit losses in performing seasoned loans,
while a primary driver of credit losses in modified re-performing loans
(RPL) is the payment change due to modification. Accordingly, the
dimensions of the credit risk capital grids for these segments would
reflect the respective primary drivers of risk.
The credit risk capital grid for each single-family loan segment
would determine the base credit risk capital requirement for any
single-family whole loan or guarantee in that loan segment (where the
base credit risk capital requirement refers to a capital calculation
that does not yet recognize either the full impact of risk factors that
are not one of the base grid's two dimensions or loan-level credit
enhancements). The proposed grids were populated after carefully
considering a combination of estimates
[[Page 33337]]
of credit risk capital from the Enterprises' internal models and FHFA's
models. To derive the underlying estimates for each loan segment's
credit risk capital grid, the Enterprises were asked to run their
single-family credit models using comparable stressed economic
conditions, as discussed above, and synthetic loans with a baseline
risk profile with respect to risk factors other than those represented
in the dimensions of the segment's credit risk capital grid.\37\ In the
proposed rule, each single-family loan segment has its own baseline
risk profile, which is discussed segment-by-segment below.
Consequently, each cell of the single-family credit risk capital grids
represents an estimated difference, in basis points, between estimated
stress losses and expected losses for a segment-specific, baseline
synthetic loan with a particular combination of primary risk factors as
described in the grid's dimensions. In the proposed rule, this capital
requirement, in basis points, would be applied to the unpaid principal
balance (UPB) of each conventional single-family whole loan and
guarantee held by the Enterprises with exposure to credit risk.
---------------------------------------------------------------------------
\37\ In the context of this rule, a baseline risk profile means
that the secondary risk factors included in each baseline synthetic
loan take values such that they would receive a risk multiplier of
1.0, as discussed further in section II.C.4.a.
---------------------------------------------------------------------------
FHFA believes that constructing the proposed base credit risk
capital grids in this manner provides for sufficient levels of
granularity, accuracy, and transparency in the credit risk capital
calculations. Each single-family whole loan and guarantee is segmented
first by age and payment performance, then broken down further by its
two primary risk drivers while simultaneously considering ``typical''
values for secondary risk drivers (which are further accounted for in
the calculation of gross credit risk capital requirements using risk
multipliers). FHFA carefully evaluated its own model estimations using
these categorizations, as well as estimations provided by the
Enterprises. The credit risk capital requirements in the five proposed
grids do not take into account the effect of credit enhancements such
as mortgage insurance and generally represent averages of the
individual estimations, although in certain cases adjustments were made
to ensure the capital requirements were reasonable. In addition, the
risk factor breakpoints and ranges represented in the grids' dimensions
were chosen in light of FHFA analysis and internal discussions, as well
as discussions with the Enterprises. FHFA concluded that the proposed
breakpoints and ranges would combine to form sufficiently granular
pairwise buckets without imposing an undue compliance burden on the
Enterprises. The proposed process for calculating credit risk capital
requirements is therefore straightforward, and does not rely on
quarterly calculations of complicated, opaque economic models or
econometric equations.
Base Credit Risk Capital Grids by Loan Segment
New Originations
The primary risk factors for single-family whole loans and
guarantees in the new originations loan segment are original credit
score and original loan-to-value (OLTV). The dimensions in the
segment's credit risk capital grid would reflect these two risk
factors. Original credit score correlates strongly with the probability
of a borrower default, while OLTV relates to the severity of a
potential loss should a borrower default (loss given default). Credit
score and OLTV are often used by lenders to price new loans.
The proposed single-family credit risk capital grid for new
originations is presented in Table 9.
BILLING CODE 8070-01-P
[[Page 33338]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.000
BILLING CODE 8070-01-C
Credit scores have values ranging from 300 to 850, and LTVs at
origination typically range from 10 percent to 97 percent. FHFA chose
the ranges and breakpoints represented in the dimensions of the Table 9
after reviewing the distributions of unpaid principal balances in the
Enterprises' single-family businesses. FHFA notes that the Enterprises
currently rely on Classic FICO for product eligibility, loan pricing,
and financial disclosure purposes, and therefore the base grid for new
originations was estimated using Classic FICO credit scores.\38\
Furthermore, throughout the proposed rule, the use of credit scores
should be interpreted to mean Classic FICO credit scores. If the
Enterprises were to begin using a different credit score for these
purposes, or multiple scores, the grid for new originations, along with
any other grid reliant on credit scores, would need to be recalibrated.
In the proposed grid for new originations, OLTV ranges are more
granular between OLTVs of 70 and
[[Page 33339]]
95 percent, where the Enterprises conduct the majority of their new
single-family businesses. In addition, the credit risk capital grid for
new originations has a separate category for loans with an 80 percent
OLTV to account for the high volume and distinct features of these
particular loans. Under the Enterprises' charter acts, 80 percent
represents the maximum LTV for which loans do not require credit
enhancement, which creates an incentive for borrowers to finance
exactly 80 percent of a home's value. The grid in Table 9 presents
proposed capital requirements before taking into account credit
enhancements such as mortgage insurance, which would lower the
Enterprises' net capital requirements for single-family loans with an
OLTV greater than 80 percent. For example, for a single-family 30-year
amortizing loan with guide-level mortgage insurance coverage and an
OLTV of 93 percent, mortgage insurance would reduce the Table 9 gross
credit risk capital requirement by 69 percent (see Table 15) prior to
counterparty haircut adjustments. Subsequent tables 10 through 13 are
also presented before taking into account credit enhancements.
---------------------------------------------------------------------------
\38\ FHFA has issued a Request for Input on Fannie Mae and
Freddie Mac Credit Score Requirements. See https://www.fhfa.gov/Media/PublicAffairs/Pages/FHFA-Issues-Request-for-Input-on-Fannie-Mae-and-Freddie-Mac-Credit-Score-Requirements.aspx.
---------------------------------------------------------------------------
Aside from the primary risk factors represented in the dimensions
of Table 9, there are several secondary risk factors accounted for in
the risk profile of the synthetic loan used in the estimations
underlying the credit risk capital requirements presented in Table 9.
Those secondary risk factors, along with the values that determine the
baseline risk profile for the credit risk capital grid for new
originations, are as follows: Loan age less than six months, 30-year
fixed rate, purchase, owner-occupied, single-unit, retail channel
sourced, debt-to-income ratio between 25 percent and 40 percent, loan
size greater than $100,000, no second lien, and has multiple borrowers.
Variations from these risk characteristics would make the whole loan or
guarantee more or less risky and would result in a higher or lower
credit risk capital requirement relative to the base credit risk
capital requirement. In the proposed rule, variations in these
secondary risk factors would be captured using risk multipliers as
described in the next section.
Performing Seasoned Loans
The primary risk factors for single-family whole loans and
guarantees in the performing seasoned loan segment are refreshed credit
score and mark-to-market loan-to-value (MTMLTV). The dimensions in the
segment's credit risk capital grid would reflect these two risk
factors. The more seasoned a loan gets, or the longer it has been since
the loan was originated, the less relevant its original credit score
and original LTV become.
But since credit score and LTV still relate strongly to the
probability of default and loss given default, respectively, refreshed
(updated) values of these two important risk factors are used as the
primary risk factors and dimensions. The proposed single-family credit
risk capital grid for whole loans and guarantees in the performing
seasoned loan segment is presented in Table 10.
BILLING CODE 8070-01-P
[[Page 33340]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.001
BILLING CODE 8070-01-C
Credit scores have values ranging from 300 to 850, and MTMLTVs
typically range from 10 percent to upwards of 120 percent. FHFA chose
the ranges and breakpoints represented in the dimensions of the Table
10 after reviewing the distributions of unpaid principal balances in
the Enterprises' single-family seasoned loan businesses. In the
proposed credit risk capital grid for performing seasoned loans, FHFA
included MTMLTV buckets beyond 95 percent to account for adverse
changes in home prices subsequent to loan origination, as well as to
account for the inclusion of streamlined refinance loans in the
segment. In addition, loans with an 80 percent LTV are no longer
highlighted.
Aside from the primary risk factors represented in the dimensions
of Table 10, there are several secondary risk factors accounted for in
the risk profile of the synthetic loans used in the estimations
underlying the credit risk capital requirements presented in Table 10.
Those secondary risk factors, along with the values that determine the
baseline risk profile for the credit risk capital grid for performing
seasoned loans, are: Loan age between six months and 12 months, 30-year
fixed rate,
[[Page 33341]]
purchase, owner-occupied, single-unit, retail channel sourced, debt-to-
income ratio between 25 percent and 40 percent, loan size greater than
$100,000, no second lien, has multiple borrowers, full documentation
for documentation level, non-interest-only for amortization type, not
streamlined refinance loans, and zero refinance (cohort) burnout
(described below). Several of these risk factors, such as documentation
level, interest-only, and those related to refinancing, are included in
the performing seasoned loan segment despite the fact that they are not
included in the new originations segment, in some cases due to the
Qualified Mortgage rule that prohibits interest-only and low-
documentation loans on new originations. However, these risk factors
may be present on loan originated prior to the financial crisis.
Variations from these risk characteristics would make the whole loan or
guarantee more or less risky and would result in a higher or lower
credit risk capital requirement relative to the base credit risk
capital requirement. In the proposed rule, variations in these
secondary risk factors would be captured using risk multipliers as
described in the next section.
Non-Modified Re-Performing Loans
The primary risk factors for single-family whole loans and
guarantees in the non-modified re-performing loan segment are re-
performing duration and MTMLTV. The dimensions in the segment's credit
risk capital grid would reflect these two risk factors. Re-performing
duration is the number of months since a whole loan or guarantee was
last delinquent, and is a strong predictor of the likelihood of a
subsequent default for re-performing loans that have cured without
prior modifications. MTMLTV is a strong predictor of loss given default
for whole loans and guarantees in this segment.
The proposed single-family credit risk capital grid for whole loans
and guarantees in the non-modified re-performing loan segment is
presented in Table 11.
BILLING CODE 8070-01-P
[[Page 33342]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.002
BILLING CODE 8070-01-C
In the proposed rule, re-performing duration is divided into four
categories such that credit risk capital requirements would decrease as
re-performing duration increases. When the re-performing duration is
greater than three years, the proposed credit risk capital requirement
for a re-performing loan would approximate the credit risk capital
requirements for a performing seasoned loan. Loans that re-perform for
greater than four years, and have not been modified, would revert to
being classified as performing seasoned and use the appropriate credit
risk capital grid. The proposed ranges and breakpoints for MTMLTV are
unchanged from those found in the performing seasoned loan grid (Table
10).
Aside from the primary risk factors represented in the dimensions
of Table 11, there are many secondary risk factors accounted for in the
risk profile of the synthetic loan used in the estimations underlying
the credit risk
[[Page 33343]]
capital requirements presented in Table 11. In particular, although
much of the predictive power of current credit score is captured by re-
performing duration, variations in credit score are still accounted for
through a multiplier. These secondary risk factors, along with the
values that determine the baseline risk profile for the credit risk
capital grid for non-modified re-performing loans, are the same as
those for performing seasoned loans with the inclusion of two
additional features: Refreshed credit scores between 660 and 700, and a
maximum previous delinquency of one month. Variations from these risk
characteristics would make the whole loan or guarantee more or less
risky and would result in a higher or lower credit risk capital
requirement relative to the base credit risk capital requirement. In
the proposed rule, variations in these secondary risk factors would be
captured using risk multipliers as described in the next section.
Modified Re-Performing Loans
The primary risk factors for single-family whole loans and
guarantees in the modified re-performing loan segment are similar to
those in the non-modified re-performing loan segment. However, along
with the MTMLTV, the second primary risk factor in the modified re-
performing segment is either the re-performing duration or the
performing duration, whichever is smaller. The re-performing duration
measures the number of months since the last delinquency, while the
performing duration measures the number of months a loan has been
performing since it was last modified. The dimensions in the segment's
credit risk capital grid would reflect these risk factors.
The proposed single-family credit risk capital grid for whole loans
and guarantees in the modified re-performing loan segment is presented
in Table 12.
BILLING CODE 8070-01-P
[[Page 33344]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.003
BILLING CODE 8070-01-C
Aside from the primary risk factors represented in the dimensions
of Table 12, there are many secondary risk factors accounted for in the
risk profile of the synthetic loan used in the estimations underlying
the credit risk capital requirements presented in Table 12. These
secondary risk factors, along with the values that determine the
baseline risk profile for the credit risk capital grid for modified re-
performing loans, are the same as those for non-modified re-performing
loans. Variations from these risk characteristics would make the whole
loan or guarantee more or less risky and would result in a higher or
lower credit risk capital requirement relative to the base credit risk
capital requirement. In the proposed rule, variations in these
secondary risk factors would be captured using risk multipliers as
described in the next section.
Contrary to re-performing single-family loans that have not been
modified, loans in the modified re-
[[Page 33345]]
performing loan segment never revert to being classified as performing
seasoned loans, even after four or more years of re-performance.
Non-Performing Loans
The primary risk factors for single-family whole loans and
guarantees in the non-performing loan (NPL) segment are delinquency
level and MTMLTV. The dimensions in the segment's credit risk capital
grid would reflect these two risk factors. In the proposed rule, a non-
performing single-family loan is a loan where at least the most recent
payment has been missed. The delinquency level of a non-performing
whole loan or guarantee is the number of payments missed since the loan
became delinquent, and is a strong predictor of the likelihood of
default for non-performing loans. MTMLTV is a strong predictor of loss
given default for whole loans and guarantees in this segment. The
proposed single-family credit risk capital grid for whole loans and
guarantees in the non-performing loan segment is presented in Table 13.
Table 13--Single-Family Non-Performing Loans Base Credit Risk Capital
[In bps]
--------------------------------------------------------------------------------------------------------------------------------------------------------
30% < 60% < 70% < 75% < 80% < 85% <
MTMLTV <= MTMLTV <= MTMLTV <= MTMLTV <= MTMLTV <= MTMLTV <= MTMLTV <= MTMLTV >
30% 60% 70% 75% 80% 85% 90% 90%
--------------------------------------------------------------------------------------------------------------------------------------------------------
Number of Missed Payments:
1........................................... 46 387 1,054 1,195 1,300 1,404 1,496 1,663
2........................................... 60 507 1,233 1,374 1,462 1,535 1,612 1,695
3-6......................................... 80 603 1,315 1,437 1,503 1,556 1,600 1,638
>=7......................................... 198 884 1,565 1,619 1,650 1,659 1,667 1,577
--------------------------------------------------------------------------------------------------------------------------------------------------------
The capital requirements detailed in Table 13 are non-monotonic as
the number of missed payments increases, particularly in the highest
(right-most) MTMLTV column. This is because as the number of missed
payments increases for a non-performing loan with a very high LTV, so
does the expected loss. Because capital is defined as the difference
between stress loss and expected loss, when expected loss increases and
grows closer to stress loss, the capital requirement shrinks. The
increase in expected loss is reflected in commensurately higher loss
reserves.
Aside from the primary risk factors represented in the dimensions
of Table 13, there are many secondary risk factors accounted for in the
risk profile of the synthetic loan used in the estimations underlying
the credit risk capital requirements presented in Table 13. These
secondary risk factors, along with the values that determine the
baseline risk profile for the credit risk capital grid for non-
performing loans, are the same as those for performing seasoned loans,
with the inclusion of one additional feature: Refreshed credit scores
between 640 and 700. Variations from these risk characteristics would
make the whole loan or guarantee more or less risky and would result in
higher or lower credit risk capital requirement relative to the base
credit risk capital requirement. In the proposed rule, variations in
these secondary risk factors would be captured using risk multipliers
as described in the next section.
Gross Credit Risk Capital Requirements
After the Enterprises calculate base credit risk capital
requirements for single-family whole loans and guarantees using the
single-family credit risk capital grids, the proposed rule would
require the Enterprises to calculate gross credit risk capital
requirements by adjusting the base credit risk capital requirements to
account for additional loan characteristics using a set of single-
family-specific risk multipliers. The proposed risk multipliers would
refine single-family base credit risk capital requirements to account
for risk factors beyond the primary risk factors reflected in the
credit risk capital grids, and for variations in secondary risk factors
not captured in the risk profiles of the synthetic loans underlying the
credit risk capital grids. Gross single-family credit risk capital
requirements would be the product of base single-family credit risk
capital requirements and the single-family risk multipliers.
The proposed single-family risk multipliers represent common
characteristics that increase or decrease the riskiness of a single-
family whole loan or guarantee. Therefore, the proposed rule would
provide a mechanism through which single-family credit risk capital
requirements would be adjusted and refined up or down to reflect a more
or less risky loan profile, respectively. FHFA believes that risk
multipliers would provide for a simple and transparent characterization
of the risks associated with different types of single-family whole
loans and guarantees, and an effective way of adjusting credit risk
capital requirements for those risks. Although the specified risk
characteristics are not exhaustive, they capture key real estate loan
performance drivers, and are commonly used in mortgage loan
underwriting and rating. For these reasons, FHFA believes the use of
risk multipliers in general, and the proposed risk multipliers in
particular, would facilitate analysis and promote understanding of the
Enterprises' single-family credit risk capital requirements while
mitigating concerns associated with compliance and complex
implementation.
The proposed risk multiplier values were determined using FHFA
staff analysis and expertise, and in consideration of the Enterprises'
contribution of model results and business expertise. To derive the
proposed risk multiplier values, the Enterprises were asked to run
their single-family credit models using comparable stressed economic
conditions, as discussed above, and synthetic loans with a baseline
risk profile with respect to risk factors other than those represented
in the dimensions of each segment's credit risk capital grid. The
segment-specific secondary risk factors, and their segment-specific
baseline risk values, are discussed in detail in the prior section. The
Enterprises then varied the secondary risk factors, by loan segment, to
estimate each risk factor's multiplicative effects on the Enterprises'
base credit risk capital projections (stress losses minus expected
losses) for baseline whole loans and guarantees in each loan segment.
FHFA then considered the multiplier values estimated by the
Enterprises, which were generally consistent in magnitude and
direction, in conjunction with its
[[Page 33346]]
own estimated values before combining values to determine the proposed
single-family risk multipliers. The proposed single-family risk
multipliers are presented in Table 14.
Table 14--Single-Family Risk Multipliers
--------------------------------------------------------------------------------------------------------------------------------------------------------
Risk multipliers by single-family loan segment
-------------------------------------------------------------------------------
Risk factor Value or range New Performing Non-modified
originations seasoned RPL Modified RPL NPL
--------------------------------------------------------------------------------------------------------------------------------------------------------
Loan Purpose.............................. Purchase.................... 1.0 1.0 1.0 1.0 ..............
Cashout Refinance........... 1.4 1.4 1.4 1.4 ..............
Rate/Term Refinance......... 1.3 1.3 1.2 1.3 ..............
Other....................... 1.0 1.0 1.0 1.0 ..............
Occupancy Type............................ Owner Occupied or Second 1.0 1.0 1.0 1.0 1.0
Home.
Investment.................. 1.2 1.2 1.5 1.3 1.2
Property Type............................. 1-Unit...................... 1.0 1.0 1.0 1.0 1.0
2-4 Unit.................... 1.4 1.4 1.4 1.3 1.1
Condominium................. 1.1 1.1 1.0 1.0 1.0
Manufactured Home........... 1.3 1.3 1.8 1.6 1.2
Number of Borrowers....................... Multiple borrowers.......... 1.0 1.0 1.0 1.0 1.0
One borrower................ 1.5 1.5 1.4 1.4 1.1
Third-Party Origination Channel........... Non-TPO..................... 1.0 1.0 1.0 1.0 1.0
TPO......................... 1.1 1.1 1.1 1.1 1.0
DTI....................................... DTI <= 25%.................. 0.8 0.8 0.9 0.9 ..............
25% < DTI <= 40%............ 1.0 1.0 1.0 1.0 ..............
DTI > 40%................... 1.2 1.2 1.2 1.1 ..............
Product Type.............................. FRM 30 year................. 1.0 1.0 1.0 1.0 1.0
ARM 1/1..................... 1.7 1.7 1.1 1.0 1.1
FRM 15 year................. 0.3 0.3 0.3 0.5 0.5
FRM 20 year................. 0.6 0.6 0.6 0.5 0.8
Loan Size................................. UPB <= $50,000.............. 2.0 2.0 1.5 1.5 1.9
$50,000 < UPB <= $100,000... 1.4 1.4 1.5 1.5 1.4
UPB > $100,000.............. 1.0 1.0 1.0 1.0 1.0
Subordination (OTLV x Second Lien)........ No subordination............ 1.0 1.0 1.0 1.0 ..............
30% < OLTV <= 60% and 0% < 1.1 1.1 0.8 1.0 ..............
subordination <= 5%.
30% < OLTV<= 60% and 1.5 1.5 1.1 1.2 ..............
subordination > 5%.
OLTV > 60% and 0% < 1.1 1.1 1.2 1.1 ..............
subordination <= 5%.
OLTV > 60% and subordination 1.4 1.4 1.5 1.3 ..............
> 5%.
Loan Age.................................. Loan Age <= 24 months....... .............. 1.0 .............. .............. ..............
24 months < Loan Age <= 36 .............. 0.95 .............. .............. ..............
months.
36 months < Loan Age <= 60 .............. 0.8 .............. .............. ..............
months.
Loan Age > 60 months........ .............. 0.75 .............. .............. ..............
Cohort Burnout............................ No Burnout.................. .............. 1.0 .............. .............. ..............
Low......................... .............. 1.2 .............. .............. ..............
Medium...................... .............. 1.3 .............. .............. ..............
High........................ .............. 1.4 .............. .............. ..............
Interest-Only (IO)........................ No IO....................... .............. 1.0 1.0 1.0 ..............
Yes IO...................... .............. 1.6 1.4 1.1 ..............
Loan Documentation Level.................. Full Documentation.......... .............. 1.0 1.0 1.0 ..............
No Documentation or Low .............. 1.3 1.3 1.2 ..............
Documentation.
Streamlined Refinance..................... No.......................... .............. 1.0 1.0 1.0 ..............
Yes......................... .............. 1.0 1.2 1.1 ..............
Refreshed Credit Score for RPLs........... Refreshed Credit Score < 620 .............. .............. 1.6 1.4 ..............
620 <= Refreshed Credit .............. .............. 1.3 1.2 ..............
Score < 640.
640 <= Refreshed Credit .............. .............. 1.2 1.1 ..............
Score < 660.
660 <= Refreshed Credit .............. .............. 1.0 1.0 ..............
Score < 700.
700 <= Refreshed Credit .............. .............. 0.7 0.8 ..............
Score < 720.
720 <= Refreshed Credit .............. .............. 0.6 0.7 ..............
Score < 740.
[[Page 33347]]
740 <= Refreshed Credit .............. .............. 0.5 0.6 ..............
Score < 760.
760 <= Refreshed Credit .............. .............. 0.4 0.5 ..............
Score < 780.
Refreshed Credit Score >= .............. .............. 0.3 0.4 ..............
780.
Payment change from modification.......... Payment Change >= 0%........ .............. .............. .............. 1.1 ..............
-20% <= Payment Change < 0%. .............. .............. .............. 1.0 ..............
-30% <= Payment Change < - .............. .............. .............. 0.9 ..............
20%.
Payment Change < -30%....... .............. .............. .............. 0.8 ..............
Previous Maximum Delinquency (in the last 0-1 Months.................. .............. .............. 1.0 1.0 ..............
36 months). 2-3 Months.................. .............. .............. 1.2 1.1 ..............
4-5 Months.................. .............. .............. 1.3 1.1 ..............
6+ Months................... .............. .............. 1.5 1.1 ..............
Refreshed Credit Score for NPLs........... Refreshed Credit Score < 580 .............. .............. .............. .............. 1.2
580 <= Refreshed Credit .............. .............. .............. .............. 1.1
Score < 640.
640 <= Refreshed Credit .............. .............. .............. .............. 1.0
Score < 700.
700 <= Refreshed Credit .............. .............. .............. .............. 0.9
Score < 720.
720 <= Refreshed Credit .............. .............. .............. .............. 0.8
Score < 760.
760 <= Refreshed Credit .............. .............. .............. .............. 0.7
Score < 780.
Refreshed Credit Score >= .............. .............. .............. .............. 0.5
780.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Table 14 is structured in the following way: The first column
represents secondary risk factors, the second column represents the
values or ranges each secondary risk factor can take, and the third
through seventh columns contain proposed risk multipliers, with each
column containing proposed risk multipliers pertaining only to the
single-family loan segment designated at the top of the column. There
would be a different set of risk multipliers for each of the five
single-family loan segments.
In the proposed rule, each risk factor could take multiple values,
and each value or range of values would have a risk multiplier
associated with it. For any particular single-family whole loan or
guarantee, each risk multiplier could take a value of 1.0, above 1.0,
or below 1.0. A multiplier of 1.0 would imply that the risk factor
value for a whole loan or guarantee is similar to, or in a certain
range of, the particular risk characteristic found in the segment's
synthetic loans. A multiplier value above 1.0 would be assigned to a
risk factor value that represents a riskier characteristic than the one
found in the segment's synthetic loans, while a multiplier value below
1.0 would be assigned to a risk factor value that represents a less
risky characteristic than the one found in the segment's synthetic
loans. Finally, the risk multipliers would be multiplicative, so each
single-family whole loan and guarantee in a loan segment would receive
a risk multiplier for every risk factor pertinent to that loan segment,
even if the risk multiplier is 1.0 (implying no change to the base
credit risk capital requirement for that risk factor). The total
combined risk factor for a single-family whole loan or guarantee would
be, in general, the product of all individual risk multipliers
pertinent to the appropriate loan segment.
There are two general types of single-family risk factors in the
proposed rule for which risk multipliers are applied: Risk factors
determined at origination and risk factors that change as a loan
seasons, or ages.
Risk factors determined at origination include common
characteristics such as loan purpose, occupancy type, and property
type. The impacts of this type of risk factor on single-family mortgage
performance and credit losses are well understood and commonly used in
mortgage pricing and underwriting. Many of these risk factors can be
quantified and applied in a straightforward manner using risk
multipliers as indicated in Table 14. The full set of single-family
risk factors determined at origination for which the proposed rule
requires risk multipliers is:
Loan purpose. Loan purpose reflects the reason for the
mortgage at origination. The proposed risk multiplier would be at least
1.0 for any purpose other than ``purchase,'' suggesting any other
purpose would imply a mortgage that is at least as risky.
Occupancy type. Occupancy type reflects the borrowers'
intended use of the property, with an owner-occupied property
representing a baseline level of risk (a multiplier of 1.0), and an
investment property being more risky (a multiplier greater than 1.0).
Property type. Property type describes the physical
structure of the property, with a 1-unit property representing a
baseline level of risk (a multiplier of 1.0), and other property types
such as 2-4 unit properties or manufactured homes being more risky (a
multiplier greater than 1.0).
Number of borrowers. Number of borrowers reflects the
number of borrowers on the mortgage note, with multiple borrowers
representing a baseline level of risk (a multiplier of
[[Page 33348]]
1.0), and one borrower being more risky (a multiplier greater than
1.0).
Third party origination channel. Third party origination
channel reflects the source of the loan, and whether or not it
originated from a third party, including a broker or correspondent.
Loans that did not originate from a third party represent a baseline
level of risk (a multiplier of 1.0).
Product type. Product type reflects the mortgage product
type as of the origination date, with a 30-year fixed rate mortgage and
select adjustable rate mortgages (including ARM 5/1 and ARM 7/1,
captured in the ``Other'' category) representing a baseline level of
risk (a multiplier of 1.0). Adjustable rate loans with an initial one
year fixed rate period followed by a rate that adjusts annually (ARM 1/
1) are considered more risky (a multiplier greater than 1.0), while
shorter-term fixed rate loans are considered less risky (a multiplier
less than 1.0).
Interest-only. Interest-only reflects whether or not a
loan has an interest-only payment feature. Interest-only loans are
generally considered more risky (a multiplier greater than 1.0) than
non interest-only loans due to their slower principal accumulation and
an increased risk of default driven by the potential increase in
principal payments at the expiration of the interest-only period.
Interest-only loans are not permitted at origination under the
Qualified Mortgage rule.
Loan documentation level. Loan documentation level refers
to the level of income documentation used to underwrite the loan. Loans
with low or no documentation have a high degree of uncertainty around a
borrower's ability to pay, and are considered more risky (a multiplier
greater than 1.0) than loans with full documentation where a lender is
able to verify the income, assets, and employment of a borrower. Loans
with low or no documentation are not permitted at origination under the
Qualified Mortgage rule.
Streamlined refinance. Streamlined refinance reflects an
indicator for a loan that was refinanced through one of the streamlined
refinance programs offered by the Enterprises, including HARP. These
loans generally cannot be refinanced under normal circumstances due to
high MTMLTV, and therefore would be considered more risky (a multiplier
greater than 1.0).
Risk factors that change dynamically and are updated as a loan
seasons include characteristics such as loan age, loan size, current
credit score, and delinquency or modification history. While not
important for underwriting or original loan pricing, these risk factors
are strongly associated with probability of default and/or loss given
default, and are therefore important in estimating capital
requirements. The full set of dynamic single-family risk factors for
which the proposed rule requires risk multipliers is:
DTI. DTI, or debt-to-income ratio, is the back-end ratio
of the sum of the borrowers' monthly payment for principal, interest,
taxes, homeowners' association fees and insurance, plus all fixed debts
to the total monthly income of all borrowers as determined at the time
of origination. DTI affects and reflects a borrower's ability to make
payments on a loan. A DTI between 25 percent and 40 percent would
reflect a baseline level of risk (a multiplier of 1.0), and as a
borrower's income rises relative to the borrower's debt obligations (a
lower DTI), the loan would be considered less risky (a multiplier less
than 1.0). If a borrower's income shrinks relative to the borrower's
debt obligations (a higher DTI), the loan would be considered more
risky (a multiplier greater than 1.0).
Loan size. Loan size reflects the current unpaid principal
balance of a loan. Loans with a low unpaid principal balance would be
considered more risky than loans with a high unpaid principal balance
due to the fact that fixed foreclosure costs represent a higher
percentage of the unpaid principal balance for loans with a low unpaid
principal balance. As a result, loans with a low balance would require
higher capital in basis points than an otherwise identical loan with a
high balance. Consequently, loans with an unpaid principal balance
under $100,000 would receive a multiplier greater than 1.0.
Subordination (OLTV x second lien). Subordination refers
to the ratio of the original loan amount of the second lien to the
lesser of the appraised value of a loan or the sale price. Loans with
no subordination would represent a baseline level of risk (a multiplier
of 1.0), whereas loans with varying combinations of original loan-to-
value (OLTV) and subordination percentages would be generally
considered more risky (a multiplier greater than 1.0).
Loan age. Loan age reflects the number of months since the
loan was originated. In the proposed rule, older loans are considered
less risky because in general as loans age the likelihood of events
occurring that would trigger mortgage default decreases. Older loans
have relatively low potential cumulative losses remaining, and would
require lower credit risk capital requirements than newer loans.
Cohort burnout. Cohort burnout reflects the number of
times a borrower has not taken advantage of the opportunity to
refinance the mortgage when the borrower's mortgage rate exceeds the
current mortgage rate by 50 basis points. When a borrower refinances a
mortgage, the lender's credit risk decreases because the loan is
repaid. Cohort burnout is an indicator that a borrower is less likely
to refinance in the future given the opportunity to do so. Borrowers
that demonstrate a lower propensity to refinance thus have higher
credit risk, and a loan with a cohort burnout greater than zero would
receive a multiplier greater than 1.0.
Refreshed credit score for re-performing loans (RPLs) and
non-performing loans (NPLs). Refreshed credit scores refer to credit
scores that have been updated as of the capital calculation date. In
general, a credit score reflects the credit worthiness of a borrower,
and a higher credit score implies lower risk and a lower multiplier.
For RPLs, a refreshed credit score between 660 and 700 reflects a
baseline level of risk (a multiplier of 1.0). For NPLs, a refreshed
credit score between 640 and 700 represents a baseline level of risk (a
multiplier of 1.0).
Payment change from modification. For modified loans, the
payment change from modification reflects the change in the monthly
payment, as a percentage of the original monthly payment, resulting
from a permanent loan modification. In general, higher payment
reductions tend to reduce the likelihood of future default, so loans
with higher payment reductions from modifications would have a lower
capital requirement (a multiplier less than 1.0).
Previous maximum delinquency. For RPLs, previous maximum
delinquency reflects the maximum number of months a loan has been at
least 30-days delinquent during the prior three years. The longer a
loan has been delinquent, the more likely it will default in the
future, and the more risky it is considered. Therefore, loans with a
previous maximum delinquency between 0 and 1 month represent a baseline
level of risk (a multiplier of 1.0), and loans with a maximum
delinquency greater than 1 month would be considered more risky (a
multiplier greater than 1.0).
Not all risk multipliers would apply to every loan segment, because
the multipliers were estimated separately for each single-family loan
segment. In cases where a risk factor did not influence the estimated
credit risk of whole loans and guarantees in a loan segment, or a risk
factor did not apply
[[Page 33349]]
at all (refreshed credit scores in the new origination segment, for
example), there would be no multiplier for that risk factor in that
loan segment.
In the proposed rule, single-family risk multipliers would adjust
base credit risk capital requirements in a multiplicative manner.
Consequently, and as a result of the simple and straightforward
structure of the proposed multiplier framework, certain combinations of
risk factors may result in over-capitalizing certain types of single-
family whole loans and guarantees. This could occur in part because the
risk factors for which multipliers would be applied are not
independent. Single-family whole loans and guarantees with a MTMLTV
greater than 95 percent were particularly vulnerable to this
phenomenon. Thus, the proposed rule would implement a multiplier cap of
3.0 for the product of risk multipliers for single-family whole loans
and guarantees with a MTMLTV greater than 95 percent. Based on FHFA
empirical analysis, less than 3 percent of loans with a MTMLTV greater
than 95 percent would be affected by the cap.
Net Credit Risk Capital Requirements: Loan-Level Credit Enhancements
Loan-level credit enhancements are credit guarantees on individual
loans. The Enterprises primarily use loan-level credit enhancements to
satisfy the credit enhancement requirement of their charter acts. The
Enterprises' charter acts require single-family mortgage loans with an
unpaid principal balance exceeding 80 percent of the value of the
property to have one of three forms of credit enhancement. The credit
enhancement requirement can be satisfied through: The seller retaining
a participation of at least 10 percent in the mortgage (participation
agreement); the seller agreeing to repurchase or replace the mortgage
in the event the mortgage is in default (repurchase or replacement
agreements; recourse and indemnification agreements); or a guarantee or
insurance on the unpaid principal balance which is in excess of 80
percent LTV (guarantee or insurance). The third form, mortgage
insurance, is the most common form of charter-required credit
enhancement.
The proposed rule would require the Enterprises to calculate net
credit risk capital requirements by reducing the gross credit risk
capital requirement on single-family loans to reflect the benefits from
loan-level credit enhancements. Similar to the use of multipliers to
adjust the base credit risk capital requirement for various risk
factors, the proposed rule would use multipliers (``CE multipliers'')
to reduce the gross credit risk capital requirement for the benefit
from loan-level credit enhancements. CE multipliers would take values
of less than or equal to 1.0 to reflect a reduction in the gross credit
risk capital requirement. For example, a CE multiplier of 0.65 on a
single-family loan would imply that an Enterprise is responsible for 65
percent of the credit risk of the loan and that the counterparty
providing the credit enhancement is responsible for the remaining 35
percent of the credit risk. A higher CE multiplier would imply an
Enterprise is taking a greater share of the losses and a lower CE
multiplier would imply the counterparty is taking a greater share of
the losses.
Participation Agreements
Participation agreements are rarely utilized by the Enterprises and
for reasons of simplicity, the proposed rule would not assign any
benefit for these agreements (a CE multiplier of 1.0).
Repurchase, Replacement, Recourse, and Indemnification Agreements
Repurchase, replacement, recourse, and indemnification agreements
may be unlimited or limited. Unlimited agreements provide full coverage
for the life of the loan, while limited agreements provide partial
coverage or have a limited duration. In the proposed rule, a
counterparty would be responsible for all credit risk in the presence
of an unlimited agreement, and the loan would be assigned a CE
multiplier of zero. For limited agreements, the proposed rule would
require the Enterprises to use the single-family CRT techniques
described section II.C.4.b to determine the appropriate benefit from
the limited agreement.
Mortgage Insurance
Mortgage insurance (MI) is an insurance policy where an insurance
company covers a portion of the loss if a borrower defaults on a
single-family mortgage loan. In the proposed rule, the benefit from MI
would vary based on a number of MI coverage and loan characteristics,
including (i) whether MI is cancellable or non-cancellable, (ii)
whether MI is charter-coverage or guide-coverage, and (iii) loan
characteristics, including original LTV, loan age, amortization term,
and loan performance segment.
Non-cancellable versus cancellable MI. Non-cancellable MI
provides coverage for the life of the loan. Non-cancellable MI is
typically associated with single premium insurance policies.
Cancellable MI allows for the cancellation of coverage upon a
borrower's request, when the loan balance falls to 80 percent of the
original property value, or automatic cancellation when the loan
balance falls below 78 percent of the original property value or the
loan reaches the midpoint of the loan's amortization schedule, if the
mortgage is current. Due to the longer period of coverage, non-
cancellable MI provides more credit risk protection than cancellable
MI. In the proposed rule, non-cancellable MI CE multipliers would be
lower than cancellable MI CE multipliers. The proposed rule would
provide separate sets of multipliers for non-cancellable and
cancellable MI to reflect this difference in risk protection.
Charter-level versus guide-level MI coverage. Charter-
level coverage provides the minimum level of coverage required by the
Enterprises' charter acts for loans with LTVs greater than 80 percent.
Guide-level coverage provides deeper coverage, roughly double the
coverage provided by charter-level coverage. Guide-level coverage
implies greater credit risk protection from the MIs. Therefore, in the
proposed rule, the CE multipliers for guide-level coverage would be
lower than the CE multipliers for charter-level coverage to reflect the
Enterprises having a lower share of the credit risk.
Original LTV. Loans with higher original LTV require
higher MI coverage levels than loans with lower original LTV. Higher MI
coverage levels imply greater credit risk protection from the MIs.
Therefore, in the proposed rule, loans with higher original LTVs would
have lower CE multipliers.
Amortization term. For cancellable MI, loans with a 15- to
20-year amortization period will have MI cancellation triggered earlier
than loans with a 30-year amortization period. Therefore, loans with
longer amortization terms have a longer period of credit risk
protection from MIs and the Enterprises have a lower share of the risk.
In the proposed rule, loans with a 30-year amortization period would
have a lower CE multiplier than loans with a 15- to 20-year
amortization period for loans with cancellable MI.
Loan segment. MI coverage on delinquent loans cannot be
cancelled. Cancellation of MI coverage on modified performing loans is
based on the modified LTV and the modified amortization term, which are
typically higher than the original LTV and the original amortization
term. In both of these cases, the MI coverage is extended for a longer
period, resulting in greater credit risk protection, relative to
performing loans. Therefore, in the proposed rule, delinquent and
modified
[[Page 33350]]
loans would have a lower CE multiplier than performing loans.
Loan age. MI cancellation will be triggered sooner for
older loans than for younger loans because the older loans will reach
an amortized LTV of 78 percent or the mid-point of the loan's
amortization period first. Therefore, older loans with cancellable MI
have a shorter period of remaining MI coverage and thus have less
credit risk protection from MI. In the proposed rule, older loans with
cancellable MI would have a higher CE multiplier than would younger
loans.
The proposed rule would use the following set of tables to present
the CE multipliers for loans with MI. These tables take into
consideration the MI factors that were discussed above.
The first table contains proposed CE multipliers for non-
cancellable MI coverage. This table would be used for all loan
segments, except the NPL loan segment. The table differentiates
multipliers by type of coverage (charter and guide), original LTV,
amortization term, and coverage percent.
Table 15--CE Multipliers for New Originations, Performing Seasoned
Loans, and RPLs When MI Is Non-Cancellable
------------------------------------------------------------------------
Product/coverage type Coverage category CE multiplier
------------------------------------------------------------------------
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.846
Guide-level Coverage. MI Coverage Percent = 0.701
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.408
MI Coverage Percent =
25%.
95% < OLTV <= 97% and 0.226
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.184
Coverage Percent = 35%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.706
Guide-level Coverage. MI Coverage Percent = 0.407
12%.
85% < OLTV <= 90% and
MI Coverage Percent =
25%.
90% < OLTV <= 95% and 0.312
MI Coverage Percent =
30%.
95% < OLTV <= 97% and 0.230
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.188
Coverage Percent = 35%.
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.846
Charter-level Coverage. MI Coverage Percent = 0.701
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.612
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.570
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.535
Coverage Percent = 20%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.850
Charter-level Coverage. MI Coverage Percent = 0.713
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.627
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.590
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.558
Coverage Percent = 20%.
------------------------------------------------------------------------
The proposed rule would have three tables for cancellable MI. The
first cancellable MI table contains proposed CE multipliers for the new
originations loan segment, the performing seasoned loans segment, and
the non-modified RPL loan segment. The table differentiates multipliers
by type of coverage (charter-level and guide-level), original LTV,
coverage percent, amortization term, and loan age.
BILLING CODE 8070-01-P
[[Page 33351]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.004
The second cancellable MI table contains proposed CE multipliers
for the modified RPL loan segment for loans with 30-year post-
modification amortization. The table differentiates multipliers by type
of coverage (charter and guide), original LTV, coverage percent,
amortization term, and loan age.
[[Page 33352]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.005
The third cancellable MI table contains proposed CE multipliers for
the modified RPL loan segment for loans with 40-year post-modification
amortization. The table differentiates multipliers by type of coverage
(charter-level and guide-level), original LTV, coverage percent, and
loan age.
[[Page 33353]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.006
BILLING CODE 8070-01-C
The final MI table contains proposed CE multipliers for the NPL
loan segment. MI on delinquent loans cannot be cancelled; therefore,
there is no differentiation between cancellable and non-cancellable MI
for the NPL loan segment. The table differentiates multipliers by type
of coverage (charter-level and guide-level), original LTV, amortization
term, and coverage percent.
Table 19--CE Multipliers for NPLs
------------------------------------------------------------------------
CE multiplier
------------------------------------------------------------------------
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.893
Guide-level Coverage. MI Coverage Percent = 0.803
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
[[Page 33354]]
90% < OLTV <= 95% and 0.597
MI Coverage Percent =
25%.
95% < OLTV <= 97% and 0.478
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.461
Coverage Percent = 35%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.813
Guide-level Coverage. MI Coverage Percent = 0.618
12%.
85% < OLTV <= 90% and
MI Coverage Percent =
25%.
90% < OLTV <= 95% and 0.530
MI Coverage Percent =
30%.
95% < OLTV <= 97% and 0.490
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.505
Coverage Percent = 35%.
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.893
Charter-level Coverage. MI Coverage Percent = 0.803
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.775
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.678
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.663
Coverage Percent = 20%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.902
Charter-level Coverage. MI Coverage Percent = 0.835
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.787
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.765
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.760
Coverage Percent = 20%.
------------------------------------------------------------------------
The proposed CE multipliers reflect the average of the Enterprises'
estimates. The Enterprises, however, would not necessarily apply the CE
multipliers in isolation, but would first adjust the multipliers to
account for the probability that a counterparty may not fully meet its
payment obligations. The following section describes the proposed
approach for adjusting CE multipliers for counterparty risk.
Counterparty Credit Risk
Sharing loss with counterparties exposes the Enterprises to
counterparty credit risk. To account for this exposure, the proposed
rule would reduce the recognized benefits from credit enhancements to
incorporate the risk that counterparties are unable to meet claim
obligations. For this reason, the proposed rule would establish a
counterparty haircut multiplier (CP multiplier) to the CE benefit. The
CP haircut multiplier would take values from zero to one. A value of
zero, the smallest haircut, would imply a counterparty will fully meet
its claim obligations, while a value of one, the largest haircut, would
imply a counterparty will not meet its claim obligations. A value
between zero and one would imply a counterparty will meet a portion of
its claim obligations.
The CP haircut multiplier would depend on a number of factors that
reflect counterparty credit risk. The two main factors are the
creditworthiness of the counterparty and the counterparty's level of
concentration in mortgage credit risk. The proposed rule would require
the Enterprises to assign a counterparty rating using the rating scheme
provided in Table 20. In assigning a rating, the Enterprises would
assign the counterparty rating that most closely aligns to the
assessment of the counterparty from its internal counterparty risk
framework. Similarly, the proposed rule would require the Enterprises
to utilize their counterparty risk management frameworks to assign each
counterparty a rating of ``not high'' or ``high'' to reflect the
counterparty's concentration in mortgage credit risk.
Table 20--Counterparty Financial Strength Ratings
------------------------------------------------------------------------
Counterparty rating Description
------------------------------------------------------------------------
1........................ The counterparty is exceptionally strong
financially. The counterparty is expected to
meet its obligations under foreseeable
adverse events.
2........................ The counterparty is very strong financially.
There is negligible risk the counterparty
may not be able to meet all of its
obligations under foreseeable adverse
events.
3........................ The counterparty is strong financially. There
is a slight risk the counterparty may not be
able to meet all of its obligations under
foreseeable adverse events.
4........................ The counterparty is financially adequate.
Foreseeable adverse events will have a
greater impact on '4' rated counterparties
than higher rated counterparties.
5........................ The counterparty is financially questionable.
The counterparty may not meet its
obligations under foreseeable adverse
events.
6........................ The counterparty is financially weak. The
counterparty is not expected to meet its
obligations under foreseeable adverse
events.
7........................ The counterparty is financially extremely
weak. The counterparty's ability to meet its
obligations is questionable.
8........................ The counterparty is in default on an
obligation or is under regulatory
supervision.
------------------------------------------------------------------------
During the most recent financial crisis, three out of seven
mortgage insurance companies were placed in run-off by their state
regulators, and payments on the Enterprises' claims were deferred by
the state regulators. This posed a serious counterparty risk and
financial losses for the Enterprises. More generally, the crisis
highlighted that counterparty risk can be amplified when the
counterparty's credit exposure is highly correlated with the
Enterprises' credit exposure. This amplification of counterparty risk
due to the correlation between counterparties' credit exposures is
referred to as wrong-way risk. Counterparties whose main lines of
business are highly concentrated in mortgage credit risk have a higher
probability to default on payment obligations when the mortgage
[[Page 33355]]
default rate is high. Therefore, counterparties with higher levels of
mortgage credit risk concentration have higher counterparty risk
relative to diversified counterparties. The proposed rule would assign
larger haircuts to counterparties with higher levels of mortgage credit
risk concentration relative to diversified counterparties. The
Enterprises would assess the level of mortgage risk concentration for
each individual counterparty to determine whether the insurer is well
diversified or whether it has a high concentration risk.
To calculate the CP haircut, the proposed rule would use a modified
version of the Basel Advanced Internal Ratings Based (IRB) approach.
The modified version leverages the IRB approach to account for the
creditworthiness of the counterparty but makes changes to reflect the
level of mortgage credit risk concentration. The Basel IRB framework
provides the ability to differentiate haircuts between counterparties
with different levels of risk. The proposed rule would augment the IRB
approach to capture risk across counterparties. In this way, the
proposed adjustment would help capture wrong-way risk between the
Enterprises and their counterparties.
In particular, the proposed approach calculates the counterparty
haircut by multiplying stress loss given default by the probability of
default and a maturity adjustment for the asset:
CP Haircut = LGDstress * PDstress * MA
where LGDstress denotes stress loss given default,
PDstress is stress default probability, and MA is
maturity adjustment. MA is calculated as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.007
PDstress is a function of expected probability of default
PD, asset value correlation [rho], and an asset value correlation
multiplier (AVCM). PDstress is calculated as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.008
where SCI is supervisory confidence interval, N(.) is the standard
normal distribution, and G(.) is the inverse standard normal
distribution.
The following table highlights the parameterization of the proposed
approach.
Table 21--Parameterization of the Single-Family Counterparty Haircut
Multipliers
------------------------------------------------------------------------
Parameters Proposed values
------------------------------------------------------------------------
LGDStress................................... 45%.
SCI......................................... 99.9%.
Correlation function ([rho])................ Basel (PD).
AVCM for High level of Mortgage 175%.
Concentration Risk.
AVCM for Not High level of Mortgage 125%.
Concentration Risk.
Maturity 30yr (M)........................... 5.
Maturity 15/20yr (M)........................ 3.5.
NPL Maturity (M)............................ 1.5.
------------------------------------------------------------------------
From the parameters table, stress loss given default (LGD) is
calibrated to 45 percent according to the historic average stress
severity rates. The maturity adjustment is calibrated to 5 years for
30-year products and to 3.5 years for 15- to 20-year products to
approximately reflect the average life of the assets. The expected
probability of default (PD) is calculated using a historical 1-year PD
matrix for all financial institutions.
As mentioned earlier, counterparties with a lower concentration of
mortgage credit risk and therefore a lower potential for wrong-way risk
would be afforded a lower haircut relative to the counterparties with
higher concentrations of mortgage credit risk. This difference is
captured through the asset valuation correlation multiplier, AVCM. An
AVCM of 1.75 is assigned to counterparties with high exposure to
mortgage credit risk and 1.25 is assigned to diversified
counterparties. The parameters of the Basel IRB formula, including the
AVCM, were augmented to best fit the internal counterparty credit risk
haircuts developed by the Enterprises. This method of accounting for
wrong-way risk is transparent and parsimonious.
The NPL loan segment represents a different level of counterparty
risk relative to the performing loans segment. Unlike performing loans,
the Enterprises expect to submit claims for non-preforming loans in the
near future. The proposed rule would reduce Basel's effective maturity
from 5 (or 3.5 for 15/20Yr) to 1.5 for all loans in the NPL loan
segment. The reduced effective maturity would lower counterparty
haircuts on loans in the NPL loan segment.
The proposed rule would use the following look-up table to
determine the counterparty risk haircut multiplier.
[[Page 33356]]
Table 22--Single-Family Counterparty Risk Haircut (CP Haircut) Multipliers by Rating, Mortgage Concentration Risk, Segment, and Product
--------------------------------------------------------------------------------------------------------------------------------------------------------
CP haircut
-----------------------------------------------------------------------------------------------
Mortgage concentration risk: Not high Mortgage concentration risk: High
-----------------------------------------------------------------------------------------------
New originations, performing New originations, performing
Counterparty rating (%) seasoned, and re-performing seasoned, and re-performing
loans Non- loans Non-
-------------------------------- performing -------------------------------- performing
30 Yr product 20/15 Yr loans (%) 30 Yr product 20/15 Yr loans (%)
(%) product (%) (%) product (%)
--------------------------------------------------------------------------------------------------------------------------------------------------------
1....................................................... 1.8 1.3 0.6 2.8 2.0 0.9
2....................................................... 4.5 3.5 2.0 7.3 5.6 3.2
3....................................................... 5.2 4.0 2.4 8.3 6.4 3.9
4....................................................... 11.4 9.5 6.9 17.2 14.3 10.4
5....................................................... 14.8 12.7 9.9 20.9 18.0 14.0
6....................................................... 21.2 19.1 16.4 26.8 24.2 20.8
7....................................................... 40.0 38.2 35.7 43.7 41.7 39.0
8....................................................... 47.6 46.6 45.3 47.6 46.6 45.3
--------------------------------------------------------------------------------------------------------------------------------------------------------
Net Credit Risk Capital Requirement for Single-Family Whole Loans and
Guarantees
The proposed rule would use the following formula to calculate the
net credit risk capital requirement for single-family whole loans and
guarantees with loan-level credit enhancement, taking into account the
credit enhancement benefit adjusted for the counterparty haircut:
Net Credit Risk Capital = Gross Credit Risk Capital * (1-(1-CE
Multiplier) * (1-CP Haircut Multiplier)).
For single-family whole loans and guarantees without loan-level
credit enhancements, the net credit risk capital requirement would
equal the gross credit risk capital requirement.
Question 6: FHFA is soliciting comments on the proposed framework
for calculating credit risk capital requirements for single-family
whole loans and guarantees, including the loan segments, base grids,
and risk multipliers. What modifications should FHFA consider and why?
Question 7: FHFA is soliciting comments on the proposed use of
separate single-family credit risk capital grids for new originations
and performing seasoned loans. The proposed new originations grid has a
unique requirement for loans with an OLTV of 80 percent due to the
volume of such loans, but this could lead to increases in capital
requirements for loans originated with an OLTV between 75 percent and
80 percent when those loans season. Should FHFA consider combining the
single-family new originations and performing seasoned loan grids? What
other modifications should FHFA consider and why?
Enterprise- and Ginnie Mae-Guaranteed Single-Family Mortgage-Backed
Securities
There is no credit risk capital requirement in the proposed rule
for single-family mortgage-backed securities (MBS) held in portfolio
that were issued and guaranteed by an Enterprise or Ginnie Mae, and
collateralized mortgage obligations (CMOs) held in portfolio that are
collateralized by Enterprise or Ginnie Mae whole loans or securities.
Ginnie Mae securities are backed by the U.S. government and therefore
do not have credit risk. For MBS and CMOs issued by an Enterprise and
later purchased by the same Enterprise for its portfolio, the credit
risk is already reflected in the credit risk capital requirement on the
underlying single-family whole loans and guarantees (section II.C.4.a).
For MBS and CMOs held by an Enterprise that were issued by the other
Enterprise, there is counterparty risk. However, these holdings are
typically small and, for reasons of simplicity, the proposed rule does
not include a capital requirement for this exposure.
Question 8: Should single-family MBS and CMOs held by an Enterprise
that were issued by the other Enterprise be subject to a counterparty
haircut to reflect counterparty risk?
b. Credit Risk Transfer
This section corresponds to Proposed Rule Sec. Sec. 1240.14
through 1240.16.
Overview
The Enterprises systematically reduce the credit risk on their
single-family books of business by transferring and sharing risk beyond
loan-level credit enhancements through single-family credit risk
transfers (CRTs). These CRTs include capital markets and insurance/
reinsurance transactions, among others. In the proposed rule, single-
family capital relief for the Enterprises would be equal to the
reduction in credit risk capital from transferring all or part of a
credit risk exposure that remains after considering loan-level credit
enhancements. For a given single-family CRT, the proposed rule would
restrict capital relief to be no greater than total net credit risk
capital requirements on all single-family whole loans and guarantees
underlying the CRT (or belonging to the reference pool underlying the
CRT). Therefore, the single-family operational risk capital requirement
and the single-family going-concern buffer would not contribute to
capital relief.
The proposed rule would require the Enterprises to calculate
capital relief on every CRT. If a CRT has multiple pool groups, the
requirement would apply separately to each pool group. The proposed
rule would then require each Enterprise to calculate total capital
relief as the sum of capital relief across all its CRTs, including
across all pool groups.
This section provides (i) a background on single-family CRTs, (ii)
types of single-family CRTs offered by the Enterprises, (iii) the
proposed rule's approach for CRT capital relief, (iv) alternative
approaches considered, and (v) estimated effects of the proposed rule's
approach.
Background
CRT transactions provide credit protection beyond that provided by
loan-level credit enhancements. CRTs can be viewed as the Enterprise
paying a portion of the guarantee fee as a cost of transferring credit
risk to private sector investors. To date, single-family
[[Page 33357]]
CRTs have been focused on transferring expected and unexpected credit
risk. This amounts to the Enterprises obtaining the equivalent of
insurance to cover their potential credit losses. The proposed rule
proposes an approach to measuring capital relief on CRT transactions
from the transfer of unexpected losses while also accounting for
potential counterparty credit risks where appropriate.
Types of Single-Family CRTs
The Enterprises have developed a variety of single-family CRTs. The
types of transactions include structured debt issuances known as
Structured Agency Credit Risk (STACR) for Freddie Mac and Connecticut
Avenue Securities (CAS) for Fannie Mae, insurance/reinsurance
transactions, front-end lender risk sharing transactions, and senior-
subordinate securities.
Enterprise Debt Issuance
The STACR and CAS securities account for the majority of single-
family CRTs to date. These securities are issued as Enterprise debt and
do not constitute the sale of mortgage loans or their cash flows.
Instead, STACR and CAS are considered to be synthetic notes or
derivatives because their cash flows track to the credit risk
performance of a notional reference pool of mortgage loans. For the
STACR and CAS transactions, the Enterprises receive the proceeds of the
note issuance at the time of sale to investors. The Enterprises pay
interest to investors on a monthly basis and allocate principal to
investors based on the repayment and credit performance of the loans in
the underlying reference pool. Investors ultimately receive a return of
their principal, less any covered credit losses. The debt transactions
are fully collateralized since investors pay for the notes in full.
Thus, the Enterprises do not bear any counterparty credit risk on debt
transactions.
Insurance or Reinsurance
Insurance or reinsurance transactions that are over and above loan-
level mortgage insurance are considered CRTs. To date, the insurance
and reinsurance CRTs have focused primarily on pool-level insurance
transactions. In contrast to loan-level insurance structures such as
MI, pool-level insurance covers an entire pool of hundreds or thousands
of loans. Pool insurance transactions are typically structured with an
aggregated loss amount. The Enterprises, as policy holders, typically
retain some portion (or all) of the first loss. The cost of pool-level
insurance is generally paid by the Enterprise, not the lender or
borrower. In general, because the insurance transactions are partly
collateralized the Enterprises may bear some counterparty credit risk.
Reinsurance companies have been the primary provider of pool-level
insurance for the Enterprises' CRTs.\39\ Fannie Mae's reinsurance risk
transfer transactions are known as Credit Insurance Risk Transfer
(CIRT), and Freddie Mac's reinsurance transactions are known as Agency
Credit Insurance Structure (ACIS). One advantage of conducting
transactions with reinsurers is that they are generally diversified in
their risk exposures. This may result in lower counterparty risk
because their books of business risk should be less correlated with the
Enterprise's book of business risk and thus may be better able to
withstand a home price stress cycle than a monoline mortgage insurer.
The Enterprises further reduce counterparty risk in pool-level
transactions through collateral requirements.
---------------------------------------------------------------------------
\39\ Many reinsurance companies do not wish to be or are not
licensed to write polices directly to non-insurance companies, such
as the Enterprises. Thus, although it is the reinsurance company
that ultimately provides all of the risk capital, if the reinsurer
is not writing the policy directly to the Enterprise, an insurance
company must stand in the middle of the transaction. In many cases,
this insurance company is a ``protected cell,'' that is, a vehicle
established to write insurance policies solely for the insured and
to transfer that risk to reinsurers. The cell is used exclusively
for Enterprise CRT purposes. The protected cell acts purely as a
pass-through entity and takes no credit risk itself.
---------------------------------------------------------------------------
Front-End Lender Risk Sharing Transactions
Front-end (or upfront) lender risk sharing transactions include
various methods of CRT where an originating lender or aggregator
retains a portion of the credit risk associated with the loans that
they sell to or service for the Enterprises. In this case, the credit
risk sharing arrangement is entered into prior to the lender delivering
the loans to the Enterprise. In exchange, the lender is compensated for
the risk. In these transactions, the Enterprises bear some counterparty
credit risk. However, the Enterprise typically requires some form of
collateral or other arrangement to offset the counterparty risk
inherent in the front-end transaction. Front-end lender risk sharing
transactions are generally described as lender recourse or
indemnification arrangements, or collateralized recourse. One benefit
of the lender recourse or indemnification structure in which the credit
risk is retained by the lender is that it aligns the interest of the
lender and servicer with the credit risk purchaser and the Enterprise.
Senior-Subordinate Securitization
In a senior-subordinate (senior-sub) securitization, the Enterprise
sells a pool of mortgages to a trust that securitizes cash flows from
the pool into several tranches of bonds, similar to private label
security transactions. A tranche refers to all securitization exposures
associated with a securitization that have the same seniority. The
subordinated bonds, also called mezzanine and first-loss bonds, provide
the credit protection for the senior bond. Unlike STACR and CAS, the
bonds created in a senior-sub transaction are mortgage-backed
securities, not synthetic securities. In addition, unlike typical MBS
issued by the Enterprises, only the senior tranche is credit-guaranteed
by the Enterprise.
Proposed Approach for Single-Family CRT Capital Relief
The proposed rule would require that the Enterprises calculate
capital relief using a step-by-step approach. To identify capital
relief, the proposed rule would combine credit risk capital and
expected losses on the underlying single-family whole loans and
guarantees, tranche structure, ownership, timing of coverage, and
counterparty credit risk. In general, the proposed rule would require
five steps when calculating capital relief.
In the first step, the Enterprises would distribute credit risk
capital on the underlying single-family whole loans and guarantees to
the tranches of the CRT independent of tranche ownership, while
controlling for expected losses, such that the riskiest, most junior
tranches would be allocated capital before the most senior tranches.
Under the proposed approach, an Enterprise would hold the same level of
capital if the Enterprise held every tranche of its risk transfer
vehicle or held the underlying assets in portfolio. The total credit
risk capital across all tranches of the CRT would equal credit risk
capital on the underlying single-family whole loans and guarantees.
In the second step, the Enterprises would calculate capital relief
accounting for tranche ownership. The proposed approach would provide
the Enterprises capital relief from transferring all or part of a
credit risk exposure. For each tranche or exposure, the Enterprises
would identify the portion of the tranche owned by private investors or
covered by a loss sharing agreement. Then, in general, the Enterprises
would calculate the capital relief as the product of the credit risk
[[Page 33358]]
capital allocated to the exposure and the portion of the tranche owned
by private investors or covered by a loss sharing agreement.
However, this initial calculation of capital relief must be
adjusted to account for loss timing and counterparty credit risk. In
particular, CRT coverage can expire before the underlying loans mature.
Also, loss sharing agreements may be subject to counterparty credit
risk. Capital relief afforded by credit risk transfers would be
overstated absent such an adjustment.
Therefore in the third step, for each tranche, capital relief would
be lowered by a loss timing factor that accounts for the timing of
coverage. The loss timing factor would address the mismatch between
lifetime single-family losses on the whole loans and guarantees
underlying the CRT and the term of coverage on the CRT.
In the fourth step, for loss sharing agreements, the Enterprises
would apply haircuts to previously calculated capital relief to adjust
for counterparty credit risk. In particular, the Enterprises would
consider the credit worthiness of each counterparty when assessing the
contribution of loss sharing arrangements such that the capital relief
is lower for less credit worthy counterparties. At the same time, in
the proposed approach, collateral posted by a counterparty would be
considered when determining the counterparty credit risk, as posted
collateral would at least partially offset the effect of the
counterparty exposure.
Lastly, the Enterprises would calculate total capital relief by
adding up capital relief for each tranche in the CRT. Further, in the
event that the CRT has multiple pool groups, then the proposed rule
would calculate each group's capital relief separately.
Overall, the proposed approach would afford relatively higher
levels of capital relief to the riskier, more junior tranches of a CRT
that are the first to absorb unexpected losses, and relatively low
levels of capital relief to the most senior tranches. The proposed
approach would also afford greater capital relief for transactions that
provide coverage (i) on a higher percentage of unexpected losses, (ii)
for a longer period of time, and (iii) with lower levels of
counterparty credit risk.
For comparison, the proposed approach is analogous to the
Simplified Supervisory Formula Approach (``SSFA'') under the banking
regulators' capital rules applicable to banks, savings associations,
and their holding companies.\40\ However, the proposed approach
deviates from SSFA in that it: (i) Provides for a more refined view of
risk differentiation across transactions by accounting for differences
in maturities between the CRT and its underlying whole loans and
guarantees, and (ii) does not discourage CRT transactions by elevating
aggregate post-transaction risk-based capital requirements above risk-
based capital requirements on the underlying whole loans and
guarantees. In particular, the SSFA requires more capital on a
transaction-wide basis than would be required if the underlying assets
had not been part of a risk transfer to account for the complexity
introduced by the securitization structure. Under SSFA, if an
Enterprise held every tranche of a CRT, its overall capital requirement
would be greater than if the Enterprise held the underlying assets in
portfolio. In order to avoid creating incentives that would discourage
the Enterprises from selling tranches as part of their credit risk
transfer programs, under the proposed rule, an Enterprise would be
required to hold the same level of capital whether the Enterprise held
every tranche of its CRT or whether the Enterprise held the underlying
assets in portfolio.
---------------------------------------------------------------------------
\40\ See 12 CFR 3.211 (OCC); 12 CFR 217.43 (Federal Reserve
Board); 12 CFR 324.43 (FDIC).
---------------------------------------------------------------------------
Single-Family CRT Example
The proposed rule would require each Enterprise to calculate
capital relief using a five-step approach. The following example
provides an illustration of the five steps. Consider the following
inputs from an illustrative CRT (see Figure 1):
$1,000 million in UPB of performing 30-year fixed rate
single-family whole loans and guarantees with original LTVs greater
than 60 percent and less than or equal to 80 percent;
CRT coverage term of 10 years;
Three tranches--B, M1, and A--where tranche B attaches at
0 bps and detaches at 50 bps, tranche M1 attaches at 50 bps and
detaches at 450 bps, and tranche A attaches at 450 bps and detaches at
10,000 bps;
Tranches B and A are retained by the Enterprise, and
ownership of tranche M1 is split between capital markets (60 percent),
a reinsurer (35 percent), and the Enterprise (5 percent);
An aggregate net credit risk capital requirement on the
single-family whole loans and guarantees underlying the CRT of 275 bps;
Aggregate expected losses on the single-family whole loans
and guarantees underlying the CRT of 25 bps; and
The reinsurer posts $2.8 million in collateral, has a
counterparty financial strength rating of 3, and does not have a high
level of mortgage concentration risk.
[[Page 33359]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.009
In the first step, the Enterprises would distribute the aggregate
net credit risk capital to the tranches of the CRT independent of
tranche ownership, while controlling for aggregate expected losses. For
the illustrative CRT, the Enterprise would allocate aggregate net
credit risk capital and expected losses to the riskiest, most junior
tranche (tranche B) before the mezzanine tranche (tranche M1) and the
most senior tranche (tranche A).
For the illustrative CRT, the Enterprise would allocate aggregate
net credit risk capital and expected losses such that the riskiest,
most junior tranche (tranche B) would receive its allocation before the
mezzanine tranche (tranche M1) and the most senior tranche (tranche A).
In particular, the Enterprise would first distribute aggregate expected
losses (25 bps) and 25 bps of aggregate net credit risk capital to
tranche B. The Enterprise would then distribute the remaining aggregate
credit risk capital (250 bps) to tranche M1. As tranche A's attachment
point exceeds the sum of aggregate expected losses and aggregate net
credit risk capital, the Enterprise would not allocate net credit risk
capital to tranche A.
In the second step, the Enterprises would calculate capital relief
accounting for tranche ownership. This approach would provide the
Enterprise capital relief from transferring all or part of a credit
risk exposure. For the illustrative CRT, the Enterprise would only
receive capital relief from 95 percent of tranche M1 since the
Enterprise retains all of tranches A and B and retains only 5 percent
of tranche M1. The Enterprise would calculate the capital relief on
tranche M1 as the product of the allocated aggregate net credit risk
capital (250 bps) and sum of the portion of the tranche owned by
private investors (60 percent) and covered by a reinsurer (35 percent).
Thus, the Enterprise would calculate initial capital relief of 237.5
bps or the product of 250 bps and 95 percent.
However, this initial calculation of capital relief must be
adjusted to account for loss timing and counterparty credit risk.
Therefore, in the third step the proposed rule lowers initial capital
relief by a loss timing factor that accounts for the timing of
coverage. The loss timing factor addresses the mismatch between
lifetime losses on the 30-year fixed-rate single-family whole loans and
guarantees underlying the illustrative CRT and the CRT's coverage of 10
years. The loss timing factor for the illustrative CRT with 10 years of
coverage and backed by 30-year fixed-rate single-family whole loans and
guarantees with original LTVs greater than 60 percent and less than or
equal to 80 percent is 88 percent. Therefore, the Enterprise would
lower the capital relief to 209 bps by multiplying together the loss
timing factor (88 percent) and initial capital relief (237.5 bps).
In the fourth step, the Enterprise would apply haircuts to
previously calculated capital relief to adjust for counterparty credit
risk from the reinsurance arrangement. In practice, the Enterprise
would identify the reinsurer's uncollateralized exposure and apply a
haircut. For the illustrative CRT, the Enterprise would first determine
the reinsurer's uncollateralized exposure by subtracting the
reinsurer's collateral amount ($2.8 million) from the reinsurer's
exposure as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.010
The Enterprise would then consider the credit worthiness of the
reinsurer and apply a haircut. For the illustrative CRT, the reinsurer
has a counterparty financial strength rating of 3 and does not have a
high level of mortgage
[[Page 33360]]
concentration risk. Further, the single-family whole loans and
guarantees backing the illustrative CRT are performing and have a 30-
year term. Thus, the CP Haircut from Table 22 is 5.2 percent. The
Enterprise would calculate counterparty credit risk from the reinsurer
as the product of the CP Haircut and the reinsurer's uncollateralized
exposure. The product would be converted into basis points as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.011
Lastly, the Enterprise would calculate total capital relief by
adding up capital relief for each tranche in the CRT and reducing
capital relief by any counterparty credit risk capital. For the
illustrative CRT, the Enterprise would calculate total capital relief
at 206.5 bps or capital relief after adjusting for ownership and loss
timing (209 bps) less counterparty credit risk (2.5 bps).
Seasoned Single-Family CRT Capital Relief
A seasoned single-family CRT differs from when it was newly-issued
due to the changing risk profile on the whole loans and guarantees
underlying the CRT. Therefore, under the proposed rule, the Enterprises
would be required to re-calculate capital relief on their seasoned
single-family CRT transactions with each submission of capital results.
For each seasoned single-family CRT, the proposed rule would
require the Enterprises to update the data elements originally
considered. In particular, the proposed rule would require the
Enterprises to update credit risk capital and expected losses on the
underlying whole loans and guarantees, tranche structure, ownership,
and counterparty credit risk.
CRT Prepayments
The rate at which principal on a CRT's underlying loans is paid
down (principal paydowns) affects the allocation of credit losses
between the Enterprises and investors/reinsurers. Principal paydowns
include regularly scheduled principal payments and unscheduled
principal prepayments. In general, a CRT's tranches are paid down in
the order of their seniority outlined in the CRT's transaction
documents. For tranches with shared ownership, principal paydowns are
allocated on a pro-rata basis. As CRT analysts have noted, under
certain conditions unusually fast prepayments can erode the credit
protection provided by the CRT by paying down the subordinate tranches
and leave the Enterprises more vulnerable to credit losses. In
particular, unexpectedly high prepayments can compromise the protection
afforded by CRTs and reduce the CRT's benefit or capital relief.
FHFA reviewed the effect on capital relief of applying stressful
prepayment and loan delinquency projections to recent CRTs. FHFA
concluded that deal features, specifically triggers, mitigate the
effects of fast prepayments by diverting unscheduled principal
prepayments to the Enterprise-held senior tranche. For example, a
minimum credit enhancement trigger redirects prepayments to the senior
tranche when the senior credit enhancement falls below a pre-specified
threshold. Similarly, a delinquency trigger diverts prepayments when
the average monthly delinquency balance (i.e., underlying single-family
whole loans and guarantees that are 90 days or more delinquent, in
foreclosure, bankruptcy, or REO) exceeds a pre-specified threshold.
In addition to triggers, FHFA considered three other possible
approaches to address the impact of stressful CRT prepayments. First,
FHFA considered whether it would be desirable to include language in
the proposed rule requiring specific triggers in the Enterprises' CRT
transactions. However, FHFA decided against such language because
variations across transactions complicate the establishment of fixed
triggers that could be prudently applied uniformly across deals.
Further, mandating a fixed set of triggers could reduce innovation in
managing principal paydowns. Moreover, FHFA has the authority to review
CRT terms before issuance and therefore can ensure transactions include
appropriate triggers. Second, FHFA considered using a simple multiplier
to reduce the capital relief from CRTs. However, this would
inadequately capture differences in collateral, subordination, and
trigger structures between transactions. Finally, FHFA considered an
approach that would define capital relief based on a weighted average
of losses arising from averaging cash flows derived under multiple
prepayment scenarios. However, FHFA decided that the complexity and
opacity of this approach would be inconsistent with the overall goal of
having simple and transparent credit risk capital requirements.
After considering these alternatives, FHFA believes that the
proposed rule appropriately considers single-family CRT prepayments.
However, FHFA is seeking public comment on CRT prepayments and is
soliciting specific alternative approaches for addressing CRT
prepayments in the proposed capital framework.
Question 9: FHFA is soliciting detailed proposals for a simple and
transparent approach to reflect the impact of stressful prepayments on
CRT capital relief. What modifications or alternatives should FHFA
consider and why?
FHFA is soliciting comments on the capital relief treatment of
single-family CRTs in the proposed rule. Providing capital relief for
the Enterprises' credit risk transfer transactions is an aspect of the
proposed rule that has received much consideration.
Credit risk transfer transactions reduce risk to taxpayers.
Providing capital relief for CRTs, no matter what form the CRTs take,
gives the Enterprises an incentive to transfer credit risk to third
parties to reduce the risk the Enterprises pose to taxpayers. The
Enterprises design their credit risk transfer transactions to protect
against the risk that an investor might not have the funds to cover
agreed-upon credit losses--often referred to as reimbursement risk--
when such losses occur. The Enterprises use a number of different
approaches to transfer credit risk, including transaction structures
that are fully funded upfront and, therefore, have no reimbursement
risk, and other transactions that require investors to partially or
fully collateralize the investment to provide the Enterprises with
assurance of available funds in the future. In addition, the credit
risk protection provided by investors on fully funded CRT transactions
is solely dedicated to absorbing credit risk and cannot be redirected
for other uses. The Enterprises target loans that have the highest
relative credit risk for CRT transactions, thereby providing a
significant amount of credit risk protection.
While CRT transactions are designed to provide credit risk
protection for the
[[Page 33361]]
Enterprises, this protection is not the same as the protection provided
by capital. Because third parties assume the credit risk on the
specific loans included in CRT reference pools, the credit protection
for individual CRTs is not fungible to cover losses on other loans,
whereas capital can be used to absorb losses at the portfolio level and
is available to cover all loans.
In addition to the remaining reimbursement risk of certain CRT
transactions, there is also the risk that loan prepayments could reduce
the amount of credit risk protection able to be provided by investors.
As discussed above, the Enterprises work to mitigate this prepayment
risk by incorporating deal triggers into CRT transactions, but there
remains risk that these triggers will not act as intended during a
credit event. Additionally, the Enterprises' single-family CRTs have
not been tested in a period of market stress because the programs
started in 2013 and have expanded in a period of strong house price
appreciation. Lastly, U.S. bank regulators have not given banks capital
relief for credit risk transfers as FHFA has proposed to do in this
rule for the Enterprises.
Question 10: Does the proposed rule's approach of providing capital
relief for CRTs adequately capture the risk and benefits associated
with the Enterprises' CRT transactions? Should FHFA consider
modifications or alternatives to the proposed rule's approach of
providing capital relief for the Enterprises' CRTs, and if so, what
modifications or alternatives, and why?
Question 11: FHFA is soliciting comments on the proposed approaches
for calculating CRT loss timing factors. Should the CRT loss timing
factors be updated as the CRT ages? What modifications should FHFA
consider and why?
c. Market Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.17
through 1240.18.
Single-Family Whole Loans and Guarantees
Single-family whole loans held in the Enterprises' portfolios have
market risk from changes in value due to movements in interest rates
and credit spreads. As the Enterprises currently hedge interest rate
risk at the portfolio level, the market risk capital requirements in
the proposed rule focus on spread risk.
The proposed rule would determine market risk capital requirements
for single-family whole loans using both single point estimates and the
Enterprises' internal models.
Single-Family Re-Performing and Non-Performing Whole Loans
The proposed rule would require an Enterprise to calculate market
risk capital on single-family re-performing and non-performing whole
loans using a single point estimate approach. The primary risk on these
loans is credit risk and, in general, borrowers in these categories
tend to have limited refinancing opportunities due to recent or current
delinquencies. Therefore, re-performing and non-performing loans are
relatively insensitive to prepayment risk, and FHFA believes the market
risk profile of these loans would be sufficiently represented by a
single point capital requirement.
The proposed rule would assign a single point estimate of 4.75
percent of the market value of assets for re-performing and non-
performing whole loans. This proposal reflects the average of the
Enterprises' internal model estimates.
New Originations and Performing Seasoned Loans
The proposed rule would require an Enterprise to calculate market
risk capital on single-family new originations and performing seasoned
whole loans using the internal models approach.
In general, the complexity of the market risk profile on newly
originated and performing seasoned whole loans is amplified due to high
prepayment sensitivity. In particular, prepayment risk on performing
whole loans may vary significantly across amortization terms, vintages,
and mortgage rates. The high prepayment sensitivity might suggest that
more simplified approaches, such as the single point estimate approach,
would not capture key risk drivers. Also, spread shocks may vary across
a variety of single-family loan characteristics. Thus, the spread
duration approach, which relies on a constant spread shock, may not
capture key single-family market movements. An internal models
approach, however, would allow the Enterprises to differentiate market
risk across multiple risk characteristics such as amortization term,
vintage, and mortgage rates. Further, the Enterprises could account for
important market risk factors, such as updated spread shocks, to
reflect market changes.
Enterprise- and Ginnie Mae-Guaranteed Single-Family Mortgage-Backed
Securities
Enterprise and Ginnie Mae single-family MBS and CMOs held in the
Enterprises' portfolios have market risk stemming from changes in value
due to movements in interest rates and credit spreads. As discussed in
Section II.C.4.c with regard to the market risk capital requirements
for single-family whole loans, the Enterprises currently hedge interest
rate risk at the portfolio level, and therefore the market risk capital
requirements in the proposed rule focus on spread risk. In the proposed
rule, the market risk capital requirement for Enterprise and Ginnie Mae
single-family MBS and CMOs would be determined using the internal
models approach and the Enterprises' internal models for market risk.
In general, the complexity of the market risk profile on single-
family MBS and CMOs is amplified due to high prepayment sensitivity of
the underlying collateral. Further, CMOs can often contain complex
features and structures that alter prepayments across different
tranches based on the CMO's structure. As a result, within this
category of assets, spread durations may vary significantly across
mortgage products, amortization terms, vintages and mortgage rates and
tranches. The use of an Enterprise's internal models to calculate
market risk capital requirements would allow the Enterprise to account
for important market risk factors that affect spreads and spread
durations.
Notably, capital results that rely on internal model calculations
can be opaque and result in different capital requirements across
Enterprises for the same or similar exposures. Hence, the proposed rule
would rely on an Enterprise's internal models solely only when the
market risk complexity is sufficiently high that using a single point
estimate or spread duration approach would inadequately represent the
exposure's underlying single-family market risk. Further, internal
models used in the determination of market risk capital requirements
will be subject to ongoing supervisory review. Finally, an Enterprise's
model risk management is subject to FHFA's 2013-07 Advisory Bulletin.
Question 12: FHFA is soliciting comments on the proposed approaches
for calculating market risk capital requirements for single-family
whole loans. What modifications should FHFA consider and why?
Question 13: FHFA is soliciting comments on the proposed approach
for calculating market risk capital requirements for Enterprise and
Ginnie Mae single-family MBS and CMOs. What modifications should FHFA
consider and why?
[[Page 33362]]
d. Operational Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.19
through 1240.20.
As described in section II.C.2 above, the proposed rule would
establish an operational risk capital requirement of 8 basis points for
all assets. For single-family whole loans and guarantees, and
Enterprise and Ginnie Mae single-family MBS and CMOs, the operational
risk capital requirement would be 8 basis points of the unpaid
principal balance of assets with credit risk or 8 basis points of the
market value of assets with market risk.
e. Going-Concern Buffer
This section corresponds to Proposed Rule Sec. Sec. 1240.21
through 1240.22.
As described in section II.C.3 above, the proposed rule would
establish a going-concern buffer of 75 basis points for all assets. For
single-family whole loans and guarantees, and Enterprise and Ginnie Mae
single-family MBS and CMOs, the going-concern buffer would be 75 basis
points of the unpaid principal balance of assets with credit risk or 75
basis points of the market value of assets with market risk.
f. Impact
Table 23--Fannie Mae and Freddie Mac Combined Estimated Total Risk-Based Capital Requirements for Single-Family
Whole Loans, Guarantees, and Related Securities as of September 30, 2017
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps Share (%)
----------------------------------------------------------------------------------------------------------------
Net Credit Risk................................................. $91.2 .............. ..............
Credit Risk Transferred..................................... (13.5) .............. ..............
-----------------------------------------------
Post-CRT Net Credit Risk........................................ 77.7 163 60
Market Risk..................................................... 14.2 30 11
Going-Concern Buffer............................................ 34.9 73 27
Operational Risk................................................ 3.7 8 3
-----------------------------------------------
Total Capital Requirement................................... 130.5 273 100
-----------------------------------------------
Total UPB, $billions.................................... 4,778.3 .............. ..............
----------------------------------------------------------------------------------------------------------------
Table 24--Fannie Mae and Freddie Mac Combined Estimated Credit Risk Capital Requirements for Single-Family Whole
Loans and Guarantees as of September 30, 2017--by Loan Category *
----------------------------------------------------------------------------------------------------------------
Capital Capital
requirement UPB requirement
($billions) ($billions) (bps)
----------------------------------------------------------------------------------------------------------------
New Originations................................................ $7.6 $296 257
Performing Seasoned Loans....................................... 52.2 3,787 138
Re-Performing Loans............................................. 19.7 472 418
Non-Performing Loans............................................ 11.8 102 1,149
-----------------------------------------------
Net Credit Risk............................................. 91.2 4,657 196
Credit Risk Transferred..................................... (13.5) .............. ..............
-----------------------------------------------
Post-CRT Net Credit Risk................................ 77.7 4,657 167
----------------------------------------------------------------------------------------------------------------
* Excludes both Enterprises' retained portfolio holdings of MBS guaranteed by the other Enterprise, and Ginnie
Mae MBS.
5. Private-Label Securities
This section corresponds to Proposed Rule Sec. Sec. 1240.24
through 1240.29.
The Enterprises have exposure to residential private-label
securities (PLS) in that they hold PLS in portfolio as investments and
guarantee PLS that have been re-securitized by an Enterprise (PLS
wraps). The proposed rule would establish risk-based capital
requirements for the credit risk associated with private-label
securities, including PLS wraps, and the market risk associated with
private-label securities with market risk exposure. The risk-based
capital requirement for PLS and PLS wraps would also include a risk-
invariant operational risk capital requirement and a going-concern
buffer.
Credit Risk
The proposed rule would use the SSFA methodology to determine the
credit risk capital requirement for private-label securities with
credit risk exposure in a manner based upon how banks use the SSFA to
determine the capital requirements for securitized assets. For each
private-label security, the proposed rule would set forth a minimum
risk-based capital requirement as provided in the SSFA methodology,
which would be adjusted based upon SSFA methodology to account for the
performance of the underlying collateral and the level of
subordination. The SSFA formulas would impose high capital requirements
on subordinated risky tranches of a securitization relative to more
senior positions that are less subject to credit losses.
Defining the PLS capital requirements using the SSFA methodology
provides two advantages. First, the SSFA is a relatively simple and
transparent approach to calculate private-label securities capital
requirements. Second, using the SSFA methodology would create
consistency in capital calculations between the Enterprises and private
industry, as the banking agencies apply the SSFA to banking
institutions subject to their jurisdiction. While there are
shortcomings associated with using the SSFA methodology, the relatively
high data demands associated with alternative loan-level approaches,
along with the Enterprises' relatively limited amount of PLS holdings,
lead
[[Page 33363]]
FHFA to believe that the straightforward SSFA methodology would be
appropriate for determining credit risk capital requirements for PLS
and PLS wraps.
Market Risk
Because PLS wraps do not expose the Enterprises to market risk, PLS
wraps would have a zero market risk capital requirement. For each
private-label security with market risk exposure, the proposed rule
would define market risk capital only with respect to spread risk,
namely a loss in value of an asset relative to a risk free or funding
benchmark due to changes in perceptions of performance or liquidity.
Absent hedging, changes in interest rates would also have a direct
effect on the value of private label securities. However, the
Enterprises make extensive use of callable debt and derivatives to
hedge interest rate risk. Therefore, in the proposed rule, market risk
would affect the capital requirements for private-label securities only
through changes in spreads.
In particular, the market risk capital requirement for PLS would be
defined as the product of a change in the spread of the private-label
security (spread shock) and the sensitivity of a private-label
security's expected price to changes in the private-label security's
spread (spread duration). The constant spread shock would be set at 265
basis points, reflecting estimates provided to FHFA by the Enterprises,
while the Enterprises would use their own internal approaches to
estimate the spread duration for each PLS in order to account for
variation in spread durations across private-label securities. Finally,
the product of the PLS market risk capital requirement in basis points
and the market value of a private-label security would yield the PLS
market risk capital requirement in dollars. Internal models used in the
determination of market risk capital requirements would be subject to
ongoing supervisory review.
Operational Risk
As described in section II.C.2 above, the proposed rule would
require the Enterprises to hold an operational risk capital requirement
of 8 bps for all assets. For private label securities, the operational
risk capital requirement would be 8 bps of the securities' market
value.
Going-Concern Buffer
As described in section II.C.3 above, the proposed rule would
require the Enterprises to hold a going-concern buffer of 75 bps for
all assets. For private label securities, the going-concern buffer
would be 75 bps of the securities' market value.
Impact
Table 25--Fannie Mae and Freddie Mac Combined Estimated Risk-Based Capital Requirements for Private-Label
Securities as of September 30, 2017
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps Share (%)
----------------------------------------------------------------------------------------------------------------
Credit Risk..................................................... $2.2 1,502 64
Market Risk..................................................... 1.1 767 33
Going-Concern Buffer............................................ 0.1 60 3
Operational Risk................................................ 0.01 6 0
-----------------------------------------------
Total Capital Requirement................................... 3.4 2,336 100
-----------------------------------------------
Total UPB, $billions.................................... 14.4 .............. ..............
----------------------------------------------------------------------------------------------------------------
Question 14: FHFA is soliciting comments on the proposed risk-based
capital requirements for private-label securities. What modifications
should FHFA consider and why?
6. Multifamily Whole Loans, Guarantees, and Related Securities
This section corresponds to Proposed Rule Sec. Sec. 1240.31
through 1240.45.
Overview
The proposed rule would establish risk-based capital requirements
for the Enterprises' multifamily businesses. It is important to specify
separate multifamily capital requirements in order to capture the
unique nature of the multifamily lending business and its particular
risk drivers. A typical multifamily loan, including those packaged
together into mortgage-backed securities (MBS), is roughly $10 million,
requires a 10-year balloon payment, and includes a 30-year amortization
period. In addition, multifamily loans finance the acquisition and
operation of commercial property collateral, as opposed to single-
family dwellings. Multifamily properties are typically apartment
buildings owned by real estate investors who rent the apartment units
expecting to realize a profit after paying property operating and
financing expenses.
The proposed rule would apply to multifamily whole loans,
guarantees, and related securities held for investment. Multifamily
whole loans are those that the Enterprises keep in their portfolios
after acquisition. Multifamily guarantees are guarantees provided by
the Enterprises of the timely receipt of payments to investors in
mortgage-backed securities that have been issued by the Enterprises or
other security issuers and are backed by previously acquired
multifamily whole loans. Except in cases where the Enterprises transfer
credit risk to third-party private investors, the Enterprises retain
the credit risk from whole loans and guarantees. The Enterprises also
retain market risk on whole loans held in portfolio and loans that they
retain but intend to sell at a later date.
To implement the proposed capital requirements, the Enterprises
would use a set of multifamily grids and risk multipliers to calculate
credit risk capital, as well as a collection of straightforward
formulas to calculate market risk capital, operational risk capital,
and a going-concern buffer.
The proposed rule would first establish a framework through which
the Enterprises would determine their gross multifamily credit risk
capital requirements. The proposed methodology is simple and
transparent, relying on a set of look-up tables (grids and risk
multipliers) that take into account several important loan
characteristics including debt-service-coverage ratio (DSCR), loan-to-
value ratio (LTV), payment performance, loan term, interest-only (IO),
loan size, and special products, among others.
[[Page 33364]]
The proposed grid and multiplier framework is consistent with
existing financial regulatory regimes and would thereby facilitate
comparison and examination of the Enterprises' risk-based capital
requirements. FHFA believes that this straightforward and transparent
approach, as opposed to one involving a complex set of credit models
and econometric equations, would provide sufficient risk
differentiation across the Enterprises' different types of multifamily
business exposures without placing an undue compliance burden on the
Enterprises.
The proposed rule would then provide a mechanism for the
Enterprises to calculate multifamily capital relief by reducing gross
credit risk capital requirements based on the amount of loss shared or
risk transferred to other parties. The proposed CRT calculation would
include a capital requirement for multifamily counterparty credit risk
stemming from contractual arrangements with lenders, re-insurers, and
other counterparties with which the Enterprises engage. In doing so,
the rule would account for differences in the Enterprises' multifamily
business models.
The proposed rule would establish market risk capital requirements
for multifamily whole loans using the spread duration approach. For
multifamily securities held for investment, the parameters would apply
to two asset types: Whole loans and Enterprise--and Ginnie Mae-issued
mortgage-backed securities (MBS).
In addition, the proposed rule would establish an operational risk
capital requirement for the Enterprises' multifamily businesses that is
invariant to risk. The proposed rule would base the operational risk
capital requirement on the Basel Basic Indicator Approach, which
accounts for gross income and assets by product line.
Lastly, the proposed rule would establish a going-concern buffer
for the Enterprises' multifamily businesses that is invariant to risk.
The purpose of the going-concern buffer is to allow the Enterprises, in
this case as it pertains to their multifamily businesses, to remain as
functioning entities during and after a period of severe financial
distress.
Multifamily Business Models
The proposed rule would apply to both Enterprises equally. However,
when appropriate, the proposed rule would account for differences in
the Enterprises' multifamily business models. These differences are
evident, for example, when considering certain elements of the proposed
rule related to credit risk transfer.
As of late 2017, Fannie Mae's multifamily business relied on the
Delegated Underwriting and Servicing (DUS) program. The DUS program is
a loss-sharing program that seeks to facilitate the implementation of
common underwriting and servicing guidelines across a defined group of
multifamily lenders. The number of multifamily lenders in the DUS
program has historically ranged between 25 and 30 since the program's
inception in the late 1980s. Fannie Mae typically transfers about one-
third of the credit risk to those lenders, while retaining the
remaining two-thirds of the credit risk plus the counterparty risk
associated with the DUS lender business relationship. The proportion of
risk transferred to the lender may be more or less than one-third under
a modified version of the typical DUS loss-sharing agreement.
In contrast, as of late 2017, Freddie Mac's multifamily model
focused almost exclusively on structured, multi-class securitizations.
While Freddie Mac has a number of securitization programs for
multifamily loans, the most heavily used program is the K-Deal program.
Under the K-Deal program, which started in 2009, Freddie Mac sells a
portion of unguaranteed bonds (mezzanine and subordinate), generally 10
to 15 percent, to private market participants. These sales typically
result in a transfer of a very high percentage of, if not all of, the
credit risk. Freddie Mac generally assumes credit and market risk
during the period between loan acquisition and securitization. In
addition, after securitization, Freddie Mac generally retains a portion
of the credit risk through ownership or guarantee of senior K-Deal
tranches.
Despite these differences in the Enterprises' multifamily business
models, the proposed rule would accommodate both Enterprises' current
lending practices, and would not preclude them from adopting a version
of one another's lending practices in the future. Specifically, the
proposed rule would explicitly include variations in the estimation of
required credit risk capital under each Enterprise's risk transfer
approach, but would not limit an Enterprise to a particular approach.
Rule Framework and Implementation
The proposed rule would establish risk-based capital requirements
for the Enterprises' multifamily businesses, including their whole
loans and guarantees and securities held for investment. Using the
proposed capital requirements, the Enterprises would calculate the
minimum amount of funds needed to support their multifamily operations
under stressed economic conditions, as discussed briefly above and in
detail below. The proposed multifamily capital requirements would
comprise the following components: Credit risk capital, including
adjustments for credit risk transfers; market risk capital; operational
risk capital; and a going-concern buffer. Each component is discussed
individually below.
a. Credit Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.31
through 1240.36.
Multifamily Whole Loans and Guarantees
The proposed rule would establish credit risk capital requirements
for the Enterprises' multifamily whole loans and guarantees. The
multifamily credit risk capital requirements would be determined by the
minimum funding necessary to cover the difference between estimated
lifetime stress losses in severely adverse economic conditions and
expected losses. For the purpose of the proposed rule, the multifamily-
specific stress scenario involves two parameters:
Net Operating Income (NOI), where NOI represents Gross
Potential Income (gross rents) net of vacancy and operating expenses,
and
Property values.
Adverse economic conditions are generally accompanied by either a
decrease in expected property revenue or an increase in perceived risk
in the multifamily asset class, or both. A decrease in expected
occupancy would lead to a decline in income generated by the property,
or a lower NOI, while an increase in perceived risk would lead to an
increase in the capitalization rate used to discount the NOI when
assessing property value. A capitalization rate, or cap rate, is
defined as NOI divided by property value, so if NOI is held constant,
an increase in the cap rate is directly related to a decrease in
property values. For the purpose of the proposed rule, the multifamily-
specific stress scenario assumes an NOI decline of 15 percent and a
property value decline of 35 percent. This stress scenario is
consistent with market conditions observed during the recent financial
crisis, views from third-party market participants and data vendors,
and assumptions behind the Dodd-Frank Act Stress Test (DFAST) severely
adverse scenario. The estimated differences between stress losses in a
severely adverse scenario and expected losses are reflected in the
multifamily credit risk capital grids discussed below.
[[Page 33365]]
Under the proposed rule, the Enterprises would calculate credit
risk capital for multifamily whole loans and guarantees by completing
the following simplified steps:
(1) Determine gross multifamily credit risk capital through the use
of multifamily-specific credit risk capital grids;
(2) Adjust gross multifamily credit risk capital for additional
risk characteristics using a set of multifamily-specific risk
multipliers; and
(3) Determine net multifamily credit risk capital by adjusting
gross multifamily credit risk capital for credit risk transfers.
Base Credit Risk Capital Requirements
The proposed rule would require the Enterprises to determine base
multifamily credit risk capital using a set of two look-up tables, or
grids--one for each multifamily segment. Accordingly, for the purpose
of the proposed rule, the Enterprises would divide their multifamily
whole loans and guarantees into two segments by interest rate contract:
One segment for whole loans and guarantees with fixed rate mortgages
(FRMs), and one segment for whole loans and guarantees with adjustable
rate mortgages (ARMs). Multifamily whole loans that have both a fixed
rate period and an adjustable rate period, also known as hybrid loans,
would be classified and treated as a multifamily FRM during the fixed
rate period, and classified and treated as a multifamily ARM during the
adjustable rate period.
Each segment would have a unique two-dimensional multifamily credit
risk capital grid which the Enterprises would use to determine base
credit risk capital for each whole loan and guarantee before applying
subsequent credit risk multipliers, discussed in the next section. The
dimensions of the multifamily credit risk capital grids would be ranges
based on two important underlying multifamily loan characteristics:
Debt-service-coverage ratio (DSCR) and loan-to-value ratio (LTV). These
two risk factors are crucial for forecasting the future performance of
loans on commercial real estate properties, including multifamily
properties. DSCR is the ratio of property Net Operating Income (NOI) to
the loan payment. A DSCR greater than 1.0 indicates that the property
generates sufficient funds to cover the loan obligation, while the
opposite is true for a DSCR less than 1.0. LTV, in turn, is the ratio
of loan amount to property value. In commercial real estate financing,
a DSCR of 1.25 and an LTV of 80 percent represent common and reasonable
standards for underwriting and performance evaluation purposes.
In the proposed rule, the multifamily credit risk capital grids
were populated using model estimates from both Enterprises, averaged to
determine the capital requirement associated with each cell in the
multifamily credit risk capital grids. To derive the estimates, the
Enterprises were asked to run their multifamily credit models using the
multifamily-specific stress scenario described above and a synthetic
loan with a baseline risk profile with respect to risk factors other
than DSCR and LTV. Specifically, the proposed FRM credit risk capital
grid was populated using loss estimates (stress losses minus expected
losses) for a multifamily loan with varying DSCR and LTV combinations
and the following risk characteristics: $10 million loan amount, 10-
year balloon with a 30-year amortization period, non-interest-only, not
a special product, and never been delinquent or modified. Similarly,
the proposed ARM credit risk capital grid was populated using loss
estimates (stress losses minus expected losses) for a multifamily loan
with varying DSCR and LTV combinations and the following risk
characteristics: 3 percent origination interest rate, $10 million loan
amount, 10-year balloon with a 30-year amortization period, non-
interest-only, not a special product, and never been delinquent or
modified. Thus, each cell of the proposed FRM (ARM) credit risk capital
grid represents the average estimated difference, in basis points,
between stress losses and expected losses for synthetic FRM (ARM) loans
described above with a DSCR and LTV in the tabulated ranges. This
capital requirement, in basis points, would be applied to the unpaid
principal balance (UPB) of each multifamily whole loan and guarantee
held by the Enterprises with exposure to credit risk.
The proposed rule would require that the Enterprises use the
multifamily credit risk capital grids in their regulatory capital
calculations for both newly acquired multifamily whole loans and
guarantees, as well as seasoned multifamily whole loans and guarantees.
A newly acquired multifamily whole loan or guarantee is a whole loan or
guarantee originated within the prior 5 months, while a seasoned
multifamily whole loan or guarantee is a whole loan or guarantee
originated more than 5 months ago. For newly acquired whole loans and
guarantees, the proposed rule would require the Enterprises to use
DSCRs and LTVs determined at acquisition to calculate capital
requirements using the multifamily credit risk capital grids. For
seasoned whole loans and guarantees, the proposed rule would require
the Enterprises to use DSCRs and LTVs updated as of the relevant
capital calculation date, also known as the mark-to-market DSCR
(MTMDSCR) and mark-to-market LTV (MTMLTV), to calculate capital
requirements using the multifamily credit risk capital grids.
The proposed multifamily credit risk capital grids for the FRM and
ARM loan segments are presented in Tables 26 and 27, respectively:
BILLING CODE 8070-01-P
[[Page 33366]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.012
[[Page 33367]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.013
BILLING CODE 8070-01-C
The proposed multifamily credit risk capital grids provide for a
straightforward determination of multifamily credit risk capital that
is easy to interpret. In both multifamily credit risk capital grids,
the credit risk capital requirement would increase as DSCR decreases
(moving toward the top of a grid) and as LTV increases (moving toward
the right of the grid). Thus, the Enterprises would generally be
required to hold more capital for a multifamily whole loan or guarantee
with a low DSCR and a high LTV (the upper-right corner of each grid)
than for a multifamily whole loan or guarantee with a high DSCR and a
low LTV (the lower-left corner of each grid).
The risk factor breakpoints and ranges represented in the
multifamily credit risk capital grids were chosen following internal
FHFA analysis and discussions with the Enterprises. After reviewing the
distributions of the Enterprises' multifamily whole loan and guarantee
unpaid principal balances (UPBs) across both dimensional risk factors
(DSCR and LTV), FHFA concluded that the proposed breakpoints and ranges
would combine to form sufficiently granular pairwise buckets without
sacrificing simplicity or imposing an undue compliance burden on the
Enterprises. Furthermore, for ease of interpretation and
implementation, the proposed rule would contain one set of DSCR and LTV
ranges for both newly acquired and seasoned whole loans and guarantees.
[[Page 33368]]
However, as discussed, and as labeled on the grids, the risk factor
dimensions would apply to acquisition DSCR and LTV for newly acquired
whole loans and guarantees, and updated MTMDSCR and MTMLTV for seasoned
whole loans and guarantees.
The proposed rule would require a unique treatment for interest-
only (IO) loans. IO loans allow for payment of interest without any
principal amortization during all or part of the loan term, creating
increased amortization risk and additional leveraging incentives for
the borrower. To partially capture these increased risks, the proposed
rule would require the Enterprises to use the fully amortized payment
to calculate DSCR (or MTMDSCR) during the IO period in order to
calculate base capital requirements using one of the two multifamily
credit risk capital grids. Specifically, the proposed rule would
require the Enterprises to assign each multifamily IO loan into a
multifamily loan segment, either FRM or ARM, and to calculate a base
credit risk capital requirement for each IO whole loan and guarantee
using the corresponding segment-specific multifamily credit risk
capital grid, where the DSCR (in the case of a new acquisition) or the
MTMDSCR (in the case of a seasoned loan) is based on the IO loan's
fully amortized payment.
Gross Credit Risk Capital Requirements
After the Enterprises calculate base credit risk capital
requirements for multifamily whole loans and guarantees using the
multifamily credit risk capital grids, the proposed rule would require
the Enterprises to adjust these capital requirements to account for
additional risk characteristics using a set of multifamily-specific
risk multipliers. The proposed risk multipliers would refine
multifamily base credit risk capital requirements for whole loans and
guarantees that possess additional risk factors beyond those reflected
in the dimensions of the multifamily credit risk capital grids, and
would include considerations for both seasoned loans and new
acquisitions. Accordingly, the Enterprises would apply these risk
multipliers on top of the base credit risk capital requirements
obtained from the multifamily credit risk capital grids. The proposed
rule would include multipliers to capture variations in the following
multifamily loan characteristics: Payment performance, interest-only,
loan term, amortization term, loan size, and special products.
The proposed multifamily risk multipliers represent common
characteristics that increase or decrease the riskiness of a particular
multifamily whole loan or guarantee. The proposed rule would provide a
mechanism through which multifamily credit risk capital requirements
would be adjusted and refined up or down to reflect a more or less
risky loan profile, respectively. FHFA believes that risk multipliers
would provide for a simple and transparent characterization of the
risks associated with different types of multifamily whole loans and
guarantees, and an effective way of adjusting credit risk capital
requirements for those risks. Although the specified risk
characteristics are not exhaustive, they capture key commercial real
estate loan performance drivers, and are common in commercial real
estate loan underwriting and rating. Therefore, FHFA believes the use
of risk multipliers in general, and the proposed multipliers in
particular, would facilitate analysis of the Enterprises' multifamily
credit risk capital requirements while mitigating concerns associated
with compliance and complex implementation.
The proposed multifamily risk multipliers would capture variations
in risk specific to individual whole loans and guarantees, and augment
the base credit risk capital requirements. The numerical multipliers
populating the multifamily risk multiplier table were determined using
FHFA staff analysis and expertise, along with the Enterprises'
contributions of model results and business expertise. Specifically,
FHFA asked the Enterprises to run their multifamily credit models using
the multifamily-specific stress scenario described above and synthetic
loans with a baseline risk profile with respect to risk factors other
than DSCR and LTV, in the same way the Enterprises populated the
multifamily credit risk capital grids. However, FHFA then asked the
Enterprises to vary the additional risk factors to estimate the risk
factors' multiplicative effects on the Enterprises' loss estimates
(stress losses minus expected losses). In general, the multiplier
values estimated by the Enterprises were consistent with one another in
magnitude and direction. Using judgement, FHFA combined the estimates
to determine the final multifamily risk multiplier values.
The proposed rule would require that multifamily whole loans and
guarantees with characteristics similar to, and within a certain range
of, the risk characteristics of the synthetic loans underlying the
multifamily credit risk capital grids would take a multiplier of 1.0.
Risk factor values dissimilar to the characteristics of the synthetic
loans would be assigned risk multiplier values greater than or less
than 1.0, such that the total risk multiplier applied to a given
multifamily whole loan or guarantee could be above 1.0, below 1.0, or
1.0, depending on how the risk factor values compare to the pertinent
risk factor values in the synthetic loans. A multiplier value above 1.0
would be assigned to risk factor values that represent riskier loan
characteristics, while a multiplier value below 1.0 would be assigned
to risk factor values that represent less risky characteristics. For
each multifamily whole loan and guarantee, the individual risk
multipliers would be multiplicative, and their product would be applied
to the gross credit risk capital requirements determined by the
multifamily credit risk capital grids.
The proposed multifamily risk multiplier values are presented in
Table 28:
Table 28--Multifamily Risk Multipliers
------------------------------------------------------------------------
Risk factor Value or range Risk multiplier
------------------------------------------------------------------------
Payment Performance......... Performing.......... 1.00.
Delinquent.......... 1.10.
Re-Performing 1.10.
(without
Modification).
Modified............ 1.20.
Interest-Only............... Not Interest-Only... 1.00.
Interest-Only....... 1.10.
Original/Remaining Loan Term Loan Term <= 1Yr.... 0.70.
1Yr < Loan Term <= 0.75.
2Yr.
2Yr < Loan Term <= 0.80.
3Yr.
3Yr < Loan Term <= 0.85.
4Yr.
[[Page 33369]]
4Yr < Loan Term <= 0.90.
5Yr.
5Yr < Loan Term <= 0.95.
7Yr.
7Yr < Loan Term <= 1.00.
10Yr.
Loan Term > 10Yr.... 1.15.
Original Amortization Term.. Amort. Term <= 20Yr. 0.70.
20Yr < Amort. Term 0.80.
<= 25Yr.
25Yr < Amort. Term 1.00.
<= 30Yr.
Amort. Term > 30Yr.. 1.10.
Original Loan Size.......... Loan Size <= $3M.... 1.45.
$3m < Loan Size <= 1.15.
$5M.
$5m < Loan Size <= 1.00.
$10M.
$10m < Loan Size <= 0.80.
$25M.
Loan Size > $25M.... 0.70.
Special Products............ Government- 0.60.
Subsidized.
Not a Special 1.00.
Product.
Student Housing..... 1.15.
Rehab/Value-Add/ 1.25.
Lease-Up.
Supplemental........ Use FRM or ARM
Capital Grid by
adding supplemental
UPB to the base
loan and
recalculating DSCR
and LTV.
------------------------------------------------------------------------
Each multifamily risk factor represented in Table 28 can take
multiple values, and each value or range of values has a risk
multiplier associated with it. FHFA determined these values and ranges
after analyzing the Enterprises' multifamily portfolios and the
associated distributions of UPBs, and subsequent to significant
discussions both internally and with the Enterprises. FHFA believes
that the proposed values and ranges would provide an appropriate level
of granularity in the risk multiplier framework, both within each risk
factor and cumulatively across risk factors, to sufficiently capture
the variations in observable risk given the Enterprises' multifamily
businesses and without imposing an undue compliance or implementation
burden on the Enterprises. The risk factors in the multifamily risk
multiplier table are:
Payment performance. The payment performance risk
multiplier captures risks associated with historical payment
performance of whole loans and guarantees. In the proposed risk
multiplier table, multifamily whole loans and guarantees would be
assigned one of four values: Performing, delinquent (defined as 30-days
for multifamily whole loans and guarantees in the context of the
proposed rule), re-performing (without modification), and modified. A
performing loan is one that has never been delinquent in its payments;
a delinquent loan is one that is not current in its payments at the
time of the capital calculation; a re-performing loan is one that is
current in its payments at the time of the capital calculation, but has
been delinquent in its payments at least once since origination and has
cured without modification; and a modified loan is one that is current
in its payments at the time of the capital calculation, but has been
modified at least once since origination or has gone through a workout
plan. In the proposed rule, the Enterprises would be required to hold
more capital for multifamily whole loans and guarantees that have a
delinquency and/or modification history than for those that do not.
Specifically, performing whole loans and guarantees would receive a
risk multiplier of 1.0, while delinquent, re-performing, and modified
whole loans and guarantees would receive a risk multiplier greater than
1.0.
Interest-only. The interest-only (IO) risk multiplier
captures risks associated with IO whole loans and guarantees during the
IO period. As discussed earlier, IO loans are generally considered
riskier than non-IO loans, and the proposed rule would partially
account for this increased amortization and leveraging risk by
requiring the Enterprises to use fully amortized payments to calculate
DSCR (for new acquisitions) and MTMDSCR (for seasoned loans) for use in
the multifamily credit risk capital grids. The use of the amortized
payment would lower the DSCR, resulting in a higher capital requirement
all else equal. In addition, the proposed rule would further account
for IO risk in the risk multiplier table. Specifically, non-IO whole
loans and guarantees would receive a risk multiplier of 1.0, while IO
whole loans and guarantees would receive a risk multiplier of 1.1
during the IO period.
Original or remaining loan term. The loan term risk
multiplier captures risks associated with the term of a multifamily
whole loan or guarantee, either the original loan term for new
acquisitions or the remaining loan term for seasoned loans. The
majority of the Enterprises' multifamily whole loans and guarantees
have a loan term of 5 years or longer, and in general, whole loans and
guarantees with a shorter term are less risky than those with a longer
term. Loans with shorter loan terms carry relatively less uncertainty
about eventual changes in property performance and future refinancing
opportunities, while loans with longer loan terms carry relatively
higher uncertainty about the borrower's ability to refinance in the
future. In the proposed rule, a 10-year loan term would be considered a
baseline risk, so whole loans and guarantees with a loan term between 7
years and 10 years would receive a risk multiplier of 1.0. The 7- to
10-year range represents a conservative range FHFA believes is
appropriate. Whole loans and guarantees with loan terms shorter than 7
years would receive risk multipliers less than 1.0, and whole loans and
guarantees with loan terms longer than 10 years would receive a risk
multiplier greater than 1.0. Whole loans and guarantees that are new
acquisitions would use the original loan term, while those that are
seasoned would use the remaining loan term.
Original amortization term. The amortization term risk
multiplier captures risks associated with the amortization term of a
multifamily whole loan or guarantee. In general, whole loans and
guarantees with a
[[Page 33370]]
shorter repayment period face less risk of a borrower defaulting on its
payments than do those with a longer repayment period. The most common
amortization term for multifamily whole loans and guarantees is 30
years, even though most have an original loan term with a balloon
payment due earlier, often in 10 years. While amortization terms can
potentially take any value, FHFA believes that given the very high
number of whole loans and guarantees with an amortization term between
25 and 30 years, the values represented in the risk multiplier table
would sufficiently account for the differences in risk associated with
amortization term. In the proposed rule, a 30-year amortization term
would represent a baseline level of risk, and multifamily whole loans
and guarantees with a 30-year amortization term would receive a risk
multiplier of 1.0. Whole loans and guarantees with an amortization term
less than 25 years would receive a risk multiplier less than 1.0, while
whole loans and guarantees with an amortization term greater than 30
years would receive a risk multiplier of 1.1.
Original loan size. Multifamily whole loans and guarantees
with larger original loan balances are generally considered less risky
than those with smaller balances, because larger balances are usually
associated with larger investors with more access to capital and
experience. In addition, the collateral securing a large loan is often
a larger, more established, and/or newer property. Alternatively, whole
loans and guarantees with smaller original balances are often
associated with investors with limited funding and smaller, less
competitive properties. In the proposed rule, an original loan size of
$10 million represents a baseline level of risk, and multifamily whole
loans and guarantees meeting that criterion would receive a risk
multiplier of 1.0. Whole loans and guarantees with an original loan
balance greater than $10 million would receive a risk multiplier less
than 1.0, and whole loans and guarantees with an original loan balance
less than $5 million would receive a risk multiplier greater than 1.0.
Special products. The final risk factor in the multifamily
risk multiplier table captures risks associated with certain special
products. The special products represented in the table contain risks
unique to each product, and, while not exhaustive, were selected for
their importance based on FHFA staff analysis and expertise and
pursuant to discussions with the Enterprises and their collective
multifamily business experiences. The special products, discussed
individually below, are government subsidized, student housing, rehab/
value-add/lease-up, and supplemental.
In the context of the proposed rule, multifamily whole loans and
guarantees that are government-subsidized have financing that includes
HUD or FHA subsidies. These subsidies could have value to an investor
or to a renter, depending on the specific HUD or FHA program used,
through their effect on the loan balance or on any tax credits related
to the operation of the property supporting the loan. The benefits of
these subsidies to investors and/or renters generally lead to property
incomes that are less volatile than incomes associated with otherwise
comparable whole loans and guarantees. Less volatile income broadly
translates to lower risk, and as a result, government-subsidized whole
loans and guarantees would be assigned a risk multiplier lower than
1.0.
Student housing loans provide financing for the operation of
apartment buildings for college students. The rental periods for units
in these properties often correspond with the institution's academic
calendar, so the properties have a high annual turnover of occupants.
Student renters, by and large, are not as careful with the use and
maintenance of the rental units as more mature households. As a result,
apartment buildings focusing on student housing customarily have more
volatile occupancy and less predictable maintenance expenses. In the
proposed rule, this would imply higher risk, which would lead to a risk
multiplier greater than 1.0 for student housing whole loans and
guarantees.
The third type of special product in the risk multiplier table
would include loans issued to finance rehab/value-add/lease-up
projects. In the context of the proposed rule, rehab and value-add
projects are different types of renovations, where a rehab project is a
like-for-like renovation and a value-add project is one that increases
a property's value by adding a new feature to an existing property or
converts one component of a property into a more marketable feature,
such as converting unused storage units into a fitness center. A lease-
up property is one that is recently constructed and still in the
process of securing tenants for occupancy. Recently built properties,
and those subject to improvements, typically require more intense
marketing efforts in the early stages of property operation. It often
takes longer for these properties to reach and stabilize at reasonable
occupancy levels. In the proposed rule, this would elevate the
property's risk, which would lead to a risk multiplier greater than 1.0
for whole loans and guarantees backing these properties.
Finally, supplemental loans, in the context of the proposed rule,
are multifamily loans issued to a borrower for a property for which the
borrower has previously received a loan. There can be more than one
supplemental loan. These loans, by definition, increase loan balances,
which would lead to higher LTVs and could lead to lower DSCRs, which
could lead to higher risk. Therefore, the proposed rule would require
the Enterprises to account for this potentially higher risk by
recalculating DSCRs and LTVs for the original and supplemental loans
using combined loan balances and income/payment information, and
calculating the capital requirement for a supplemental loan as the
marginal increase in total capital due to the addition of the
supplemental loan. In practice, however, supplemental loans do not
exist in a vacuum and the capital calculation for supplemental loans
could be slightly more complicated than just described. For example, a
higher loan balance due to a supplemental loan could push the total
loan balance into a loan size bucket with a size multiplier smaller
than it had before the supplemental was added, which could lower the
overall credit risk capital requirement for the group of loans as a
whole.
Multifamily Risk Multiplier Floor
In the proposed rule, multifamily risk multipliers would adjust
base credit risk capital requirements in a multiplicative manner. As a
result, combinations of overlapping characteristics could potentially
result in an extremely low risk assessment of certain multifamily whole
loans and guarantees, which would arguably undermine the conservative
approach to capital requirements FHFA aims to take in the proposed
rule. Thus, in the proposed rule, the Enterprises would be required to
impose a floor of 0.5 to any combined multifamily risk multiplier
calculation. This floor would ensure that combinations of overlapping
characteristics would not result in potentially dangerous risk
assessments, which is important since the proposed multipliers
themselves are designed to represent the average behavior of loans with
the associated multiplier characteristics.
Question 15: FHFA is soliciting comments on the proposed framework
for calculating credit risk capital requirements for multifamily whole
loans and guarantees, including comments on the loan segments, base
[[Page 33371]]
grids, and risk multipliers. What modifications should FHFA consider
and why?
Question 16: FHFA is soliciting comments on the proposed
multifamily size multiplier and how it is applied to a loan's entire
balance, rather than marginally to a portion of a loan that exceeds a
certain size threshold. What modifications to the multifamily size
multiplier should FHFA consider and why?
Question 17: FHFA is soliciting comments on the proposed
multifamily IO multiplier, and how it is applied to full-IO loans with
no amortization term and IO loans that have seasoned beyond the IO
period. What modifications to the proposed multifamily IO multiplier
should FHFA consider and why?
Question 18: FHFA is soliciting comments on the proposed risk
multiplier for government-subsidized multifamily whole loans, and how
the proposed multiplier would be applied to all such multifamily whole
loans. What modifications to the proposed multiplier for government-
subsidized multifamily whole loans should FHFA consider and why?
Enterprise- and Ginnie Mae-Guaranteed Multifamily Mortgage-Backed
Securities
There is no credit risk capital requirement in the proposed rule
for multifamily MBS held in portfolio that were issued and guaranteed
by an Enterprise or Ginnie Mae or are collateralized by Enterprise or
Ginnie Mae multifamily whole loans or securities. Ginnie Mae securities
are backed by the U.S. government and therefore do not have credit
risk. For MBS issued by an Enterprise and later purchased by the same
Enterprise for its portfolio, the credit risk is already reflected in
the credit risk capital requirement on the underlying multifamily whole
loans and guarantees (Section II.C.7.a). For MBS held by an Enterprise
that were issued by the other Enterprise, there is counterparty risk.
However, these holdings are typically small and, for reasons of
simplicity, the proposed rule does not include a capital requirement
for this exposure.
Question 19: Should multifamily MBS held by an Enterprise that were
issued by the other Enterprise be subject to a counterparty haircut to
reflect counterparty risk?
b. Credit Risk Transfer
This section corresponds to Proposed Rule Sec. Sec. 1240.37
through 1240.38.
The Enterprises often seek to reduce the credit risk on their
multifamily guarantee books of business by transferring and sharing
risk through multifamily Credit Risk Transfers (CRTs). In the proposed
rule, the Enterprises would be able to reduce their multifamily credit
risk capital requirements by engaging in CRTs. In the context of the
proposed rule, multifamily capital relief would be the reduction in
required credit risk capital afforded to the Enterprises from
transferring all or part of a credit risk exposure using a multifamily
CRT transaction. To calculate capital relief, the proposed rule would
require the Enterprises to use a formulaic approach that accounts for
counterparty credit risk on each CRT.
To date, the Enterprises have generally utilized two broad types of
CRTs for their multifamily books of business: Loss sharing and
securitizations. Within these broad types, CRT transactions can have
unique structures. The proposed approach is general enough to
accommodate the variable nature of CRTs.
The first type of multifamily CRT transaction used by the
Enterprises utilizes a loss sharing structure. In this type of CRT,
which can be regarded as a front-end risk transfer with a vertical
tranche, an Enterprise enters into a loss sharing agreement with a
lender before the lender delivers the loan to the Enterprise. The
Enterprise and lender share future losses according to a specified
arrangement, commonly from the first dollar of loss, and in exchange
the lender is compensated for the risk. For loss sharing CRT
transactions, the proposed capital relief would be a proportional share
of the gross credit risk capital requirements implied by the underlying
multifamily whole loans and guarantees. However, because these
transactions are not necessarily fully collateralized, loss sharing
CRTs generally expose the Enterprises to counterparty credit risk.
Therefore, the proposed rule would reduce capital relief to account for
counterparty credit risk.
The second type of multifamily CRT transaction used by the
Enterprises utilizes a multiclass securitization structure. In this
type of CRT, an Enterprise sells a pool of loans to a trust that
securitizes cash flows from the pool into several tranches of bonds.
The subordinated bonds, also called mezzanine and first-loss bonds, are
sold to market participants. These subordinated bonds provide credit
protection for the senior bond, which is the only tranche that is
credit-guaranteed by the Enterprises. For securitization CRT
transactions, the proposed rule would require that the Enterprises
calculate capital relief using a step-by-step approach. To identify
capital relief, the proposed approach would combine credit risk capital
and expected losses on the underlying whole loans and guarantees,
tranche structure, and ownership.
Multifamily Credit Risk Transfer Models
Under the loss sharing and securitization umbrellas, the
Enterprises have generally used two distinct models. Fannie Mae's
multifamily business has relied heavily on its Delegated Underwriting
and Servicing (DUS) program, a loss sharing CRT program. Freddie Mac's
multifamily business, in turn, has focused almost exclusively on
securitizations, predominately through its K-Deal program.
Under the DUS program, Fannie Mae typically transfers about one-
third of the credit risk per deal under a pari-passu DUS arrangement.
Fannie Mae retains the remaining two-thirds of the credit risk plus the
counterparty credit risk associated with the DUS lender business
relationship. To offset the counterparty credit risk, the program
requires lenders to post a certain amount of collateral, primarily in
the form of restricted liquidity, which Fannie Mae can access in the
event of lender default. The collateral, which for the purposes of
restricted liquidity is treated uniformly in the proposed rule,
includes Treasury money market funds, Treasury securities, and
Enterprise MBS, and is currently marked-to-market on a monthly basis by
a custodian. Fannie Mae currently has agreements with 25 lenders to
deliver multifamily loans that meet the criteria specified in the DUS
underwriting and servicing guidelines.
Freddie Mac, on the other hand, typically transfers credit risk by
tranching pools of multifamily loans and selling unguaranteed bonds
(mezzanine and subordinate) to private market participants. These
sales, which generally account for 10 to 15 percent of the underlying
loans, typically result in a transfer of more than 80 percent of the
credit risk, and often result in a transfer of close to 100 percent of
the credit risk. Freddie Mac, however, does assume credit and market
risk during the period between loan acquisition and securitization. In
addition, after securitization, Freddie Mac retains a portion of the
credit risk through ownership and/or guarantee of senior K-Deal
tranches.
Despite these differences in the Enterprises' multifamily business
models, the proposed rule accommodates both Enterprises' lending
practices.
[[Page 33372]]
Proposed Approach for Multifamily CRT Capital Relief
In general, the proposed approach would require four steps when
calculating capital relief. In the first step, the Enterprises would
distribute credit risk capital on the underlying whole loans and
guarantees to the tranches of the CRT independent of tranche ownership,
while controlling for expected losses. In practice, the Enterprises
would allocate credit risk capital such that the riskiest, most junior
tranches would be allocated capital before the most senior tranches.
In the second step, the Enterprises would calculate capital relief
accounting for tranche ownership. The proposed approach would provide
the Enterprises with capital relief from transferring all or part of a
credit risk exposure. For each tranche or exposure, the Enterprises
would identify the portion of the tranche owned by private investors or
covered by a loss sharing agreement. Then, in general, the Enterprises
would calculate the capital relief as the product of the credit risk
capital allocated to the exposure and the portion of the tranche owned
by private investors or covered by a loss sharing agreement.
However, this initial calculation of capital relief must be
adjusted to account for counterparty credit risk because loss sharing
agreements may be subject to counterparty credit risk. Capital relief
afforded by credit risk transfers would be overstated absent such an
adjustment.
In the third step, for loss sharing agreements, the Enterprises
would apply haircuts to previously calculated capital relief to adjust
for counterparty credit risk. In particular, the Enterprises would
consider the credit worthiness of each counterparty when assessing the
contribution of loss sharing arrangements such that the capital relief
is lower for less credit worthy counterparties. At the same time, in
the proposed approach, collateral posted by a counterparty would be
considered when determining the counterparty credit risk, as posted
collateral would at least partially offset the effect of the
counterparty exposure.
Lastly, the Enterprises would calculate total capital relief by
adding up capital relief for each tranche in the CRT.
The proposed approach would afford relatively higher levels of
capital relief to the riskier, more junior tranches of a CRT that are
the first to absorb unexpected losses, and relatively low levels of
capital relief to the most senior tranches. The approach would also
afford greater capital relief for transactions that provide coverage:
(i) On a higher percentage of unexpected losses, (ii) for a longer
period of time, and (iii) with lower levels of counterparty credit
risk.
Loss Sharing Approach
The distinguishing feature of the loss sharing CRT approach is the
addition of a counterparty. To calculate capital relief under the loss
sharing approach, the proposed rule would require the Enterprises to
conduct a counterparty risk analysis in which the Enterprises would
calculate counterparty exposure as per the loss sharing agreement,
consider applicable restricted liquidity rules, determine if the
counterparty has posted collateral, and assess the uncollateralized
exposure to apply a haircut.
In the proposed rule, the counterparty haircut would be calculated
using a modified version of the Basel Advanced IRB approach that takes
into account the creditworthiness of the counterparty. Echoing the
single-family discussion from Section II.C.4.a of how counterparty risk
is amplified due to the correlation between a counterparty's credit
exposure and the Enterprises' credit exposure (concentration risk), the
proposed rule would assign larger haircuts to multifamily
counterparties with higher levels of concentration risk relative to
diversified counterparties. The Enterprises would assess the level of
multifamily mortgage risk concentration for each individual
counterparty to determine whether the counterparty is well diversified
or whether it has a high concentration risk, and counterparties with a
lower concentration risk would be assigned a smaller counterparty
haircut relative to counterparties with higher concentration risk. This
difference is captured through the asset valuation correlation
multiplier, AVCM. An AVCM of 1.75 would be assigned to counterparties
with high concentration risk and an AVCM of 1.25 would be assigned to
more well-diversified counterparties.
The proposed approach calculates the haircut by multiplying stress
loss given default by stress probability of default and by a maturity
adjustment for the asset. Along with the AVCM, other parameterization
assumptions in the proposed rule include a stress LGD of 45 percent, a
maturity adjustment calibrated to 5 years, a stringency level of 99.9
percent, and expected probabilities of default calculated using
historical 1-year PD matrix for all financial institutions. The
multifamily counterparty risk haircut multipliers are presented below
in Table 29.
Table 29--Multifamily Counterparty Risk Haircut Multipliers by
Concentration Risk
------------------------------------------------------------------------
CP haircut for
concentration CP haircut for
Counterparty rating risk: Not high concentration
(%) risk: High (%)
------------------------------------------------------------------------
1................................. 2.1 3.4
2................................. 5.3 8.5
3................................. 6.0 9.6
4................................. 12.7 19.2
5................................. 16.2 22.9
6................................. 22.5 28.5
7................................. 41.2 45.1
8................................. 48.2 48.2
------------------------------------------------------------------------
The Enterprises would select a counterparty haircut from Table 29
and would apply the haircut to the uncollateralized exposure in a CRT.
Further, if in the case of lender failure an Enterprise has contractual
control of the lender's guarantee fee revenue, then the
uncollateralized exposure would also be adjusted for lender guarantee
fee revenue associated with the multifamily loan guarantee fees. In
this lender loss sharing case, lender revenue would generally reduce
the Enterprises' required counterparty credit risk capital. In
particular, under the DUS framework,
[[Page 33373]]
Fannie Mae has contracted with lenders to service the loans while
retaining control of the servicing rights.
Securitization Approach
To calculate capital relief under the securitization approach, the
proposed rule would require the Enterprises to analyze the levels of
subordination involved in the securitization structure, and identify
the portion of the tranches owned by private investors or covered by a
loss sharing agreement. The Enterprises would then apply risk transfer
calculations that resemble those used for the single-family CRT
transactions, with minor changes to some of the required parameters.
Other Multifamily CRT Considerations
The Enterprises may engage in other forms of CRT, which can be
generally thought of as loss sharing with multiple tranches--vertical,
horizontal, or both. These types of CRT could include back-end
reinsurance coverage (e.g., Fannie Mae's CIRT program), through which
the Enterprises enter into an agreement with a third party (typically a
lender) to cover first losses on a pool of loans up to a certain
percentage. In the back-end reinsurance model, the Enterprises, as
policy holders, typically retain some portion (or all) of the first
loss on a pool of covered multifamily loans, and compensate the
reinsurer directly. In this design, the Enterprises bear some
counterparty credit risk. Accordingly, calculating capital relief for
reinsurance CRT transactions in the proposed rule would require the
Enterprises to determine the amount of transferrable capital and stress
losses, allocate stress losses to each tranche in the deal, determine
the losses owned by the reinsurers, and adjust the calculated capital
relief for counterparty credit risk, including any reinsurer haircut or
posted collateral. Under the top-loss approach, the Enterprises are
responsible for losses after the counterparty pays the agreed top-loss
coverage percentage. In this model, the Enterprises also bear
counterparty risk, which requires an adjustment of the capital relief
to account for counterparty credit risk.
In general, the Enterprises would calculate the multifamily CRT
capital relief as the product of the credit risk capital allocated to
the exposure and the portion of the tranche owned by private investors
or covered by a loss sharing agreement. The Enterprise would then
adjust capital relief for counterparty credit risk, if applicable. The
proposed approach implies that the CRT provides loss coverage through
the entire duration of the loans subject to risk transfer. This
includes the period at which a balloon payment, if the loan involves
one, is due. If multifamily CRT coverage expires before the underlying
loans mature, then capital relief afforded by the multifamily CRT may
be overstated absent such a loss timing adjustment. However, because
multifamily loans typically include a balloon payment, it is assumed
that CRT coverage includes all potential losses including those
associated with the borrower's failure to make the balloon payment.
Seasoned CRT Capital Calculations
In the proposed rule, the Enterprises would need to recalculate
post-deal CRT capital on seasoned multifamily CRT transactions.
Fannie Mae's current risk transfer method (the DUS program) largely
involves proportional front-end loss-sharing. In the proposed rule, for
each group of loans that have been acquired through a loss-sharing
transaction, including Fannie Mae's DUS program, the Enterprises would
recalculate capital relief to reflect changes in restricted liquidity
and counterparty exposure.
The majority of Freddie Mac's current risk transfer method involves
structured securitizations through the K-deal program. Prepayment
penalty structures, including defeasance, that prevent unpaid balances
from changing significantly are often part of multifamily structured
securitizations. These situations limit the effect of updating and
recalculating the post-deal CRT capital. Nevertheless, in anticipation
of future growth in multifamily CRT activities, the proposed rule would
establish guidelines for post-deal CRT capital reporting.
In the proposed rule, for each group of loans remaining in a
securitization CRT transaction, including those in Freddie Mac's K-
deals, the Enterprises would recalculate capital relief by aggregating
the updated loan-level capital requirements for each pool to determine
how much capital is effectively transferred through the CRT at the time
of the update. For each deal, the Enterprises would be required to
update asset fundamentals that may affect the amount of expected or
unexpected losses associated with the deal, as well as any potential
changes in the deal's loan balances as a result of voluntary or
involuntary terminations, including prepayments within or outside any
applicable prepayment penalty period. In addition, for each tranche,
the Enterprises would be required to update which parties are
responsible for changes in a given tranche's exposure. A deal may
involve different forms of credit enhancements in addition to the
typical senior-subordinated structure (e.g., retention, insurance, re-
insurance). This step would require the Enterprises to consider changes
to risk exposure due to changes in expected or unexpected losses
associated with the deal and any potential changes in UPB following
voluntary or involuntary terminations, including prepayments within or
outside any applicable prepayment penalty period.
Question 20: FHFA is soliciting comments on the proposed approaches
for calculating multifamily CRT capital relief. What modifications
should FHFA consider and why?
Question 21: Should the proposed multifamily CRT formulae
differentiate the capital relief allowed in CRT transactions with low
loan counts from that allowed in CRT transactions with high loan
counts?
Question 22: FHFA is soliciting comments on multifamily
counterparty haircuts. What modifications should FHFA consider and why?
Question 23: FHFA is soliciting comments on whether CRT loss timing
should be accounted for in measuring CRT capital relief. What
modifications should FHFA consider and why?
c. Market Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.39
through 1240.40.
Multifamily Whole Loans and Guarantees
Multifamily whole loans held in the Enterprises' portfolios have
market risk stemming from changes in value due to movements in interest
rates and credit spreads. As the Enterprises currently hedge interest
rate risk closely at the portfolio level, the market risk capital
requirements in the proposed rule would focus on spread risk.
The proposed rule would require the Enterprises to calculate market
risk capital requirements on fixed- and adjustable-rate multifamily
whole loans using a spread duration approach, which relies, in part, on
the Enterprises' internal models.
For the spread duration approach in the proposed rule, the
Enterprises would calculate market risk capital as the product of a
spread shock and spread duration. The proposed rule would include a
specified spread shock and require an Enterprise to use its internal
models to estimate spread durations.
Capital results that rely on internal model calculations can be
opaque and
[[Page 33374]]
result in different capital requirements across Enterprises for the
same or similar exposures. Hence, the proposed rule would partly rely
on an Enterprise's internal models only when the market risk complexity
is sufficiently high that using a single point estimate would
inadequately represent the exposure's underlying multifamily market
risk.
Notably, internal models used in the determination of multifamily
market risk capital requirements would be subject to ongoing
supervisory review. As an example, an Enterprise's model risk
management is subject to FHFA's 2013-07 Advisory Bulletin.
The market risk capital requirement for the Enterprises'
multifamily fixed- and adjustable-rate whole loans would be the product
of a defined credit spread shock (15 bps) and the spread duration,
calculated individually by the Enterprises using each Enterprise's
internal models. For a given multifamily whole loan, the product of the
spread shock and the spread duration would then be multiplied by the
market value of the asset to compute the market risk capital
requirement in dollars. The proposed 15 basis point spread duration
assumes strong historical multifamily market performance, high
multifamily whole loan liquidity, and low cash flow pricing sensitivity
to changes in interest rate spreads.
Question 24: FHFA is soliciting comments on the proposed approach
for calculating market risk capital requirements for multifamily whole
loans. What modifications should FHFA consider and why?
Enterprise- and Ginnie Mae- Guaranteed Multifamily Mortgage-Backed
Securities
Enterprise- and Ginnie Mae-guaranteed multifamily MBS held in the
Enterprises' portfolios have market risk stemming from changes in value
due to movements in interest rates and credit spreads. As discussed in
Section II.C.6.c with regard to the market risk capital requirements
for multifamily whole loans, the Enterprises currently hedge interest
rate risk closely at the portfolio level, and therefore the market risk
capital requirements in the proposed rule would focus on spread risk.
In the proposed rule, the market risk capital requirement for
Enterprise- and Ginnie Mae-guaranteed multifamily MBS would be
determined using a spread duration approach, which would rely, in part,
on the Enterprises' internal models. For the spread duration approach
in the proposed rule, the Enterprises would calculate market risk
capital as the product of a spread shock and spread duration. The
proposed rule would include a specific spread shock and require an
Enterprise to use its internal models to estimate spread durations.
The use of internal models would allow the Enterprises to more
frequently update spread durations to reflect market changes. However,
capital results that rely on internal model calculations can be opaque
and result in different capital requirements across Enterprises for the
same or similar exposures. Hence, the proposed rule would partly rely
on an Enterprise's internal models only when the market risk complexity
is sufficiently high that using a single point estimate inadequately
represents the exposure's underlying multifamily market risk.
Notably, internal models used in the determination of multifamily
market risk capital requirements would be subject to ongoing
supervisory review. As an example, an Enterprise's model risk
management is subject to FHFA's 2013-07 Advisory Bulletin.
The market risk capital requirement for Enterprise- and Ginnie Mae-
guaranteed multifamily MBS would be the product of a defined credit
spread shock (100 bps) and the spread duration calculated individually
by the Enterprises using each Enterprise's internal models. The
proposed 100 basis point spread shock reflects a combination of the
Enterprises' estimates, and is driven by the complexity of structured
products relative to whole loans which could decrease liquidity and
increase cash flow pricing sensitivity to changes in interest rate
spreads.
Question 25: FHFA is soliciting comments on the proposed approach
for calculating risk-based capital requirements for Enterprise and
Ginnie Mae multifamily MBS. What modifications should FHFA consider and
why?
d. Operational Risk
This section corresponds to Proposed Rule Sec. Sec. 1240.41
through 1240.42.
As described in section II.C.2 above, the proposed rule would
establish an operational risk capital requirement of 8 basis points for
all assets. For multifamily whole loans and guarantees, and Enterprise
and Ginnie Mae multifamily MBS, the operational risk capital
requirement would be 8 basis points of the unpaid principal balance of
assets with credit risk or 8 bps of the market value of assets with
market risk.
e. Going-Concern Buffer
This section corresponds to Proposed Rule Sec. Sec. 1240.43
through 1240.44.
As described in section II.C.3 above, the proposed rule would
establish a going-concern buffer of 75 basis points for all assets. For
multifamily whole loans and guarantees, and Enterprise and Ginnie Mae
multifamily MBS, the going-concern buffer would be 75 basis points of
the unpaid principal balance of assets with credit risk or 75 basis
points of the market value of assets with market risk.
f. Impact
Table 30--Fannie Mae and Freddie Mac Combined Estimated Total Risk-Based Capital Requirements for Multifamily
Whole Loans, Guarantees, and Related Securities as of September 30, 2017
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps Share (%)
----------------------------------------------------------------------------------------------------------------
Net Credit Risk................................................. $16.5 .............. ..............
Credit Risk Transferred..................................... (8.0) .............. ..............
-----------------------------------------------
Post-CRT Net Credit Risk........................................ 8.5 171 61
Market Risk..................................................... 1.3 25 9
Going-Concern Buffer............................................ 3.7 74 27
Operational Risk................................................ 0.4 8 3
-----------------------------------------------
Total Capital Requirement............................... 13.9 278 100
-----------------------------------------------
[[Page 33375]]
Total UPB, $billions................................ 499.6 .............. ..............
----------------------------------------------------------------------------------------------------------------
Table 31--Fannie Mae and Freddie Mac Combined Estimated Credit Risk Capital Requirements for Multifamily Whole
Loans and Guarantees as of September 30, 2017--by Loan Category *
----------------------------------------------------------------------------------------------------------------
Capital Capital
requirement UPB requirement
($billions) ($billions) (bps)
----------------------------------------------------------------------------------------------------------------
New Originations................................................ $1.9 $42 449
Performing Seasoned Loans....................................... 14.6 449 325
Non-Performing Loans............................................ 0.0 1 511
-----------------------------------------------
Net Credit Risk............................................. 16.5 492 336
Credit Risk Transferred..................................... (8.0) .............. ..............
-----------------------------------------------
Post-CRT Net Credit Risk................................ 8.5 492 174
----------------------------------------------------------------------------------------------------------------
* Excludes both Enterprises' retained portfolio holdings of MBS guaranteed by the other Enterprise, and Ginnie
Mae MBS.
7. Commercial Mortgage-Backed Securities
This section corresponds to Proposed Rule Sec. 1240.46.
Credit Risk and Market Risk
In the proposed rule, the capital requirement for multifamily
commercial mortgage-backed securities (CMBS) held by the Enterprises
that are not guaranteed by an Enterprise or by Ginnie Mae would be a
single 200 basis point requirement that accounts for both credit and
market risk. The 200 basis point requirement reflects a combination of
the Enterprises' internal model estimates. FHFA chose this approach
based on internal staff analysis and discussions with the Enterprises.
FHFA believes this simple approach is justified given the small, and
shrinking, non-Enterprise and non-Ginnie Mae CMBS portfolios held by
the Enterprises.
Operational Risk
As described in section II.C.2 above, the proposed would require
the Enterprises to hold an operational risk capital requirement of 8
bps for all assets. For multifamily CMBS held by the Enterprises that
were not issued by the Enterprises or by Ginnie Mae, the operational
risk capital requirement would be 8 bps of the securities' market
value.
Going-Concern Buffer
As described in section II.C.3 above, the proposed rule uses a
going-concern buffer of 75 bps for all assets. For multifamily CMBS
held by the Enterprises that were not issued by the Enterprises or by
Ginnie Mae, the going-concern buffer would be 75 bps of the securities'
market value.
Impact
Table 32--Fannie Mae and Freddie Mac Combined Estimated Risk-Based Capital Requirements for Commercial Mortgage-
Backed Securities as of September 30, 2017
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps Share (%)
----------------------------------------------------------------------------------------------------------------
Credit Risk and Market Risk..................................... $0.013 197 71
Going-Concern Buffer............................................ 0.005 74 27
Operational Risk................................................ 0.001 8 3
-----------------------------------------------
Total Capital Requirement................................... 0.018 279 100
-----------------------------------------------
Total UPB, $billions.................................... 0.656 .............. ..............
----------------------------------------------------------------------------------------------------------------
Question 26: FHFA is soliciting comments on the proposed approach
for calculating risk-based capital requirements for CMBS. What
modifications should FHFA consider and why?
8. Other Assets and Guarantees
This section corresponds to Proposed Rule Sec. 1240.47.
This section describes the proposed rule for certain assets and
guarantees that are not covered by the Enterprises' core business
activities. This section also describes the proposed rule for new
products that are not covered in the proposed rule.
For assets with credit risk exposure, the proposed rule defines
credit risk capital requirements. The proposed rule allows the
Enterprises to use internal methodologies to calculate market risk
capital requirements for other assets and guarantees.
[[Page 33376]]
Deferred Tax Assets
The proposed rule would establish a risk-based capital requirement
for deferred tax assets (DTAs) that would offset the DTAs included in
core capital in a manner generally consistent to the Basel III
treatment of DTAs. DTAs are recognized based on the expected future tax
consequences related to existing temporary differences between the
financial reporting and tax reporting of existing assets and
liabilities given established tax rates. In general, DTAs are
considered a component of capital because these assets are capable of
absorbing and offsetting losses through the reduction to taxes.
However, DTAs may provide minimal to no loss-absorbing capability
during a period of stress as recoverability (via taxable income) may
become uncertain.
In 2008, during the financial crisis, both Enterprises recognized a
valuation allowance to reduce their DTAs to amounts that were more
likely than not to be realized based on the facts that existed at the
time and estimated future taxable income. A valuation allowance on DTAs
is typically recognized when all or a portion of DTAs is unlikely to be
realized considering projections of future taxable income. The
recognition of the valuation allowances on DTAs resulted in non-cash
charges to income and reductions to the Enterprises' net DTA balances
(included in the retained earnings components of capital). Fannie Mae
established a partial valuation allowance on DTAs of $30.8 billion in
2008, which was a major contributor to the overall capital reduction of
$66.5 billion at Fannie Mae in 2008. Similarly, Freddie Mac established
a partial valuation allowance on DTAs of $22.4 billion in 2008, which
was also a major contributor to the overall capital reduction of $71.4
billion at Freddie Mac in 2008.
Other financial regulators recognize the limited loss absorbing
capability of DTAs, and therefore limit the amount of DTAs that may be
included in Common Equity Tier 1 (CET1) capital. Under Basel III
guidance, certain DTAs are excluded from CET1, while other DTAs are
included in CET1 capital up to a cap of 10 percent of CET1 capital.
Most other DTAs are included in risk-weighted assets.
Given the Enterprises' experiences with DTAs during the financial
crisis, FHFA would like to limit the amount of DTAs counted as capital,
similar to the limitations of the other financial regulators. However,
FHFA does not have the authority to change the statutory definition of
core capital for the Enterprises. The proposed rule would instead adopt
a modified version of the Basel III treatment whereby DTA amounts that
would be deducted from CET1 under Basel are included in the risk-based
capital requirement. The result of this modification would be to
neutralize the impact of DTAs on Enterprise capital to the same degree
that the Basel framework limits the amount of DTAs included in CET1.
Similarly, DTA amounts included in risk weighted assets under Basel
would also be included in the risk-based capital requirement.
Specifically, the risk-based capital requirement for DTAs would be the
sum of:
100 percent of DTAs that arise from net operating losses
and tax credit carryforwards, net of any related valuation allowances
and net of deferred tax liabilities (DTLs);
100 percent of DTAs arising from temporary differences
that could not be realized through net operating loss carrybacks, net
of related valuation allowances and net of DTLs that exceed 10 percent
of adjusted core capital; \41\
---------------------------------------------------------------------------
\41\ Adjusted core capital is core capital, per the statute,
less DTAs that arise from net operating losses and tax credit
carryforwards, net of any related valuation allowances and net of
deferred tax liabilities.
---------------------------------------------------------------------------
20 percent (8 percent x 250 percent) of DTAs arising from
temporary differences that could not be realized through net operating
loss carrybacks, net of related valuation allowances and net of DTLs
that do not exceed 10 percent of adjusted core capital; and
8 percent of DTAs arising from temporary differences that
could be realized through net operating loss carrybacks, net of related
valuation allowances and net of DTLs.
The capital requirement for DTAs is highly sensitive to the amount
of core capital held by an Enterprise. While the Enterprises currently
have negative core capital, Table 33 below shows the impact of the
proposed DTA treatment for the third and fourth quarters of 2017,
assuming the Enterprises held core capital equal to the risk-based
capital requirement (before DTAs), in order to show the DTA impact on a
post-conservatorship basis. The fourth quarter impact is significantly
lower due to the reduction in DTAs because of the Tax Cuts and Jobs Act
of 2017.
Table 33--Fannie Mae and Freddie Mac Estimated Risk-Based Capital Requirements for Deferred Tax Assets Assuming Core Capital Equal to Risk-Based Capital
Requirement *
--------------------------------------------------------------------------------------------------------------------------------------------------------
As of September 30, 2017 (in $billions) As of December 31, 2017 (in $billions)
-----------------------------------------------------------------------------------------------
Fannie Mae Freddie Mac Total Fannie Mae Freddie Mac Total
--------------------------------------------------------------------------------------------------------------------------------------------------------
Category 1.............................................. $2.5 $1.4 $3.9 $2.5 .............. $2.5
Category 2.............................................. 15.3 4.0 19.3 5.6 .............. 6.6
Category 3.............................................. 1.9 1.2 3.0 1.8 $0.9 1.8
Category 4.............................................. 0.3 0.3 0.5 .............. 0.3 0.3
-----------------------------------------------------------------------------------------------
Total Capital Requirement........................... 19.9 6.8 26.8 10.0 1.2 11.2
--------------------------------------------------------------------------------------------------------------------------------------------------------
* The DTA capital requirement is a function of Core Capital. Both Enterprises have negative Core Capital as of September 30, 2017 and December 31, 2017.
In order to calculate the DTA capital requirement, we assume Core Capital is equal to the Risk-Based Capital Requirement without consideration of the
DTA capital requirement.
Category 1: 100 percent of DTAs arising from net operating losses and tax credit carryforwards, net of any related valuation allowances and net of DTLs.
Category 2: 100 percent of DTAs arising from temporary differences that could not be realized through net operating loss carry backs, net of related
valuation allowances and net of DTLs that exceed 10 percent of adjusted core capital. Adjusted core capital is core capital, per the statute, less
DTAs that arise from net operating losses and tax credit carryforwards, net of any related valuation allowances and net of deferred tax liabilities.
Category 3: 20 percent of DTAs arising from temporary differences that could not be realized through net operating loss carrybacks, net of related
valuation allowances and net of DTLs that do not exceed 10 percent of adjusted core capital.
Category 4: 8 percent of DTAs arising from temporary differences that could be realized through net operating loss carrybacks, net of related valuation
allowances and net of DTLs.
[[Page 33377]]
Table 34 shows the impact of the proposed DTA treatment with the
Enterprises' actual negative core capital in the third and fourth
quarters of 2017.
Table 34--Fannie Mae and Freddie Mac Estimated Risk-Based Capital Requirements for Deferred Tax Assets Assuming Core Capital as of September 30, 2017
--------------------------------------------------------------------------------------------------------------------------------------------------------
As of September 30, 2017 (in $billions) As of December 31, 2017 (in $billions)
-----------------------------------------------------------------------------------------------
Fannie Mae Freddie Mac Total Fannie Mae Freddie Mac Total
--------------------------------------------------------------------------------------------------------------------------------------------------------
Category 1.............................................. $2.5 $1.4 $3.9 $2.5 .............. $2.5
Category 2.............................................. 24.5 9.8 34.3 14.8 $4.7 19.6
Category 3.............................................. .............. .............. .............. .............. .............. ..............
Category 4.............................................. 0.3 0.3 0.5 .............. 0.3 0.3
-----------------------------------------------------------------------------------------------
Total Capital Requirement........................... 27.3 11.5 38.8 17.4 5.0 22.4
--------------------------------------------------------------------------------------------------------------------------------------------------------
Municipal Debt
Municipal debt is debt securities issued by states, local
governments, or state agencies such as state housing finance agencies.
As municipal debt generally has minimal default risk, the proposed rule
would assign a zero credit risk capital requirement to municipal debt.
The proposed rule would assign a market risk capital requirement of 760
bps, an operational risk capital requirement of 8 bps, and a going-
concern buffer of 75 bps to municipal debt. The 760 basis point market
risk capital requirement reflects a combination of the Enterprises'
internal model estimates.
The proposed rule would use the single point estimate approach to
market risk for a number of reasons. Municipal debt is a shrinking
component of the Enterprises' portfolios. A more complicated approach
would not be warranted, as it would not result in a material change to
the Enterprises' overall capital position. Municipal debt has a simple
market risk profile due to the absence of a prepayment option.
Additionally, the credit spread for municipal debt is stable across
maturities. The single point estimate for market risk capital
represents the average of estimates from the Enterprises.
Reverse Mortgages and Reverse Mortgage Securities
The proposed rule would not subject reverse mortgages and
securities backed by reverse mortgages to a credit risk capital
requirement due to Federal Housing Administration insurance on the
mortgages. The proposed rule would assign a market risk capital
requirement of 500 bps to reverse mortgages and 410 bps to reverse
mortgage securities, an operational risk capital requirement of 8 bps
to reverse mortgages and reverse mortgage securities, and a going-
concern buffer of 75 bps to reverse mortgages and reverse mortgage
securities. The 500 and 410 basis point market risk capital
requirements reflect Fannie Mae's internal model estimates since
Freddie Mac did not own reverse mortgages.
The rationale for applying the single point estimate approach to
market risk for reverse mortgages and reverse mortgage securities is
that (i) these assets are a shrinking component of the Enterprises'
portfolios and (ii) these assets have low and stable market risk
resulting from low prepayment sensitivity. In particular, for reverse
mortgages, refinance is rare and not driven by changes in interest
rates. As a result, market value on reverse mortgages and reverse
mortgage securities is relatively insensitive to prepayment.
Cash and Cash Equivalents
Cash and cash equivalents are highly liquid investment securities
that have a maturity at the date of acquisition of three months or less
and are readily convertible to known amounts of cash. The proposed rule
would assign a zero credit risk capital requirement and a zero market
risk capital requirement to cash and cash equivalents as they are not
subject to default and market risks. Further, cash and cash equivalents
would receive a zero operational risk capital requirement and a zero
going-concern buffer.
Single-Family Rentals
The proposed rule would include a credit risk capital requirement
for single-family rentals. Single-family rentals are multiple income-
producing single-family units owned by an investor for the purpose of
renting them and deriving a profit from their operation. The concept of
single-family rentals has been traditionally associated with
individual-investor single-family units, which are usually covered
under the single-family framework and include either single or two-to-
four unit assets. However, the single-family rental market also
includes investors that own portfolios of more than ten units, and
sometimes up to thousands of units across different cities. The
Enterprises have explored and have already executed deals on this type
of assets.
Although this type of multi-unit ownership cannot be defined as a
typical multifamily investment, the income-producing nature would allow
the Enterprises to evaluate them as a traditional multifamily
investment for the purpose of estimating capital. To do so would
require the Enterprises to calculate a DSCR and LTV on the portfolio of
single-family rentals, which is a relatively simple calculation once
income and values for every property are available. The proposed rule
would require the Enterprises to calculate DSCR and LTV in this manner
for this type of single-family rental deals, and to subsequently
calculate base credit risk capital requirements using the appropriate
multifamily FRM or ARM base credit risk capital grid.
Impact
[[Page 33378]]
Table 35--Fannie Mae and Freddie Mac Combined Estimated Risk-Based Capital Requirements for Other Assets as of
September 30, 2017
----------------------------------------------------------------------------------------------------------------
Capital requirement
-----------------------------------------------
$billions bps Share (%)
----------------------------------------------------------------------------------------------------------------
Credit Risk..................................................... $2.1 64 6
Market Risk..................................................... 2.9 88 9
Going-Concern Buffer............................................ 1.2 36 4
Operational Risk................................................ 0.1 4 0
Other (DTA)..................................................... 26.8 811 81
-----------------------------------------------
Total Capital Requirement................................... 33.1 1,002 100
-----------------------------------------------
Total UPB, $billions.................................... 330.0 .............. ..............
----------------------------------------------------------------------------------------------------------------
Question 27: FHFA is soliciting comments on the proposed approaches
for calculating risk-based capital requirements for other assets and
guarantees. What modifications should FHFA consider and why?
9. Unassigned Activities
This section corresponds to Proposed Rule Sec. 1240.48.
Given the continuing evolution and innovation in the financial
markets, FHFA recognizes that the Enterprises could continue to develop
and purchase new products and engage in other new activities.
The proposed rule would require an Enterprise to provide written
notice of an Unassigned Activity, which includes any asset, guarantee,
off-balance sheet guarantee, or activity for which the proposed rule
does not have an explicit risk-based capital treatment. An Enterprise
must provide a proposed capital treatment along with sufficient
information about the Unassigned Activity for FHFA to understand the
risks and benefits of the activity. The proposed rule would require
FHFA to analyze the Unassigned Activity and to provide the Enterprise
with written notice of the appropriate capital treatment. If FHFA does
not provide the Enterprise with written notice of a treatment in time
for the Enterprise to prepare its quarterly capital report, the
proposed rule would require an Enterprise to use its proposed capital
treatment to determine an interim capital requirement. FHFA will
monitor the Enterprises' activities and when appropriate propose
amendments to this regulation addressing the treatment of activities
that do not have an explicit risk-based capital treatment.
Given the dynamics of the marketplace and the Enterprises'
business, it is not possible to construct a regulation that specifies a
detailed treatment for every new type of instrument or capture every
new type of risk that might emerge from quarter to quarter. It will not
always be possible for FHFA to analyze and determine an appropriate
treatment for a new asset or activity in time for an Enterprise to file
its capital report, either due to the timing of the notice from the
Enterprise or due to the complexity of the new product or activity. The
proposed rule strikes a balance between accuracy and timeliness by
requiring FHFA to determine the appropriate long-term treatment of an
Unassigned Activity, while allowing the Enterprises to use their
internal models on an interim basis.
D. Minimum Leverage Capital Requirements
This section corresponds to Proposed Rule Sec. 1240.50.
Overview
The proposed rule includes two alternative minimum leverage capital
requirement proposals for public comment. Under the first approach, the
Enterprises would be required to hold capital equal to 2.5 percent of
total assets (as determined in accordance with GAAP) and off-balance
sheet guarantees related to securitization activities, regardless of
the risk characteristics of the assets and guarantees or how they are
held on the Enterprises' balance sheets (the ``2.5 percent
alternative''). Under the second approach, the Enterprises would be
required to hold capital equal to 1.5 percent of trust assets and 4
percent of non-trust assets (the ``bifurcated alternative''), where
trust assets are defined as Fannie Mae mortgage-backed securities or
Freddie Mac participation certificates held by third parties and off-
balance sheet guarantees related to securitization activities, and non-
trust assets are defined as total assets as determined in accordance
with GAAP plus off-balance sheet guarantees related to securitization
activities minus trust assets. The Enterprises' retained portfolios
would be included in non-trust assets.
The considerations for the two alternative approaches to the
minimum leverage capital requirement in the proposed rule are discussed
below, followed by a more detailed discussion of each alternative. FHFA
seeks feedback from commenters on both alternatives to the minimum
leverage capital requirement.
Considerations for Establishing an Updated Minimum Leverage Capital
Requirement
Establishing an updated minimum leverage capital requirement is an
important component of the proposed regulatory capital requirements for
the Enterprises. While FHFA believes that the proposed risk-based
capital requirements included in this rulemaking reflect a detailed and
robust assessment of risk to Fannie Mae and Freddie Mac, FHFA also
believes that it is appropriate and prudent to establish a backstop to
guard against the potential that the risk-based requirements
underestimate the risk of an Enterprises' assets. The Safety and
Soundness Act authorizes FHFA to set a higher leverage ratio than the
minimum required by the statute, and this proposed rule, under either
of the proposed alternatives, would do so.
In considering both the need for and the structure of an updated
minimum leverage capital requirement, FHFA has taken into consideration
how to best set the minimum leverage requirement as a backstop to the
proposed risk-based capital framework. These considerations include the
model risk associated with any risk-based measure, the pro-cyclicality
of using mark-to-market LTV ratios in the proposed risk-based capital
requirement, the funding risks of the Enterprises' business, and the
impact of having a leverage ratio serve as the
[[Page 33379]]
binding capital constraint. Each of these considerations is discussed
below.
First, because risk-based capital requirements are subject to a
number of assumptions and can change over time, a minimum leverage
requirement can serve as a backstop in the event that risk-based
requirements become too low. As discussed earlier, risk-based capital
frameworks depend on models and, thus, are subject to the risk that the
applicable model will underestimate or fail to address a developing
risk. In particular, new activities, given their lack of historical
performance data, are subject to significant uncertainty. As a result,
any models that assess new activities may under-predict risk.
Second, a leverage requirement can serve as a backstop because the
proposed risk-based capital requirements are pro-cyclical, while a
leverage requirement is risk-invariant. Because the proposed risk-based
requirements use mark-to-market LTVs for loans held or guaranteed by
the Enterprises in determining capital requirements, as home prices
appreciate and LTVs consequently fall, the Enterprises would be allowed
to release capital. In this context, a minimum leverage capital
requirement could mitigate the amount of capital released as risk-based
capital levels fell below the applicable leverage requirement. The
housing market can be highly cyclical and downturns are often preceded
by rapid and unsustainable home price appreciation, resulting in the
potential for the Enterprises to release capital ahead of a downturn
when their access to the capital markets may be constrained.
In addition to the two minimum capital requirement alternatives
included in this proposed rule, FHFA also has the authority to
temporarily increase the Enterprises' leverage requirements through
order or regulation to address pro-cyclical or other concerns about the
Enterprises' capital levels. It is also important to note that,
separate from the leverage requirement proposals discussed in this
section, FHFA's authority to address pro-cyclicality concerns also
includes tools on the risk-based capital requirements proposed in this
rule. Specifically, as is discussed in section II.F, FHFA could make
upward adjustments by regulation or order to the risk-based capital
requirements under the provisions of the Safety and Soundness Act to
take into account changing economic conditions, such as rising house
prices and asset levels, and to adjust the risk-based capital
requirements for specified products or activities.
Third, ensuring a sufficient minimum leverage capital requirement
could also address the funding risks of the Enterprises' business
activities. Both in the single-family and multifamily mortgage-backed
security guarantee business lines, investors provide the Enterprises a
stable source of funding that is match-funded with the mortgage assets
that Fannie Mae and Freddie Mac purchase and hold in trust accounts.
While these mortgage assets are reflected on the balance sheets of the
Enterprises and represent the vast majority of their assets, the
funding for these assets has already been provided and cannot be
withdrawn during times of market stress.
As discussed previously, this stable funding for trust assets is in
contrast to the banking deposits and short-term debt that banks rely
on, which could become unavailable during a stress event and force a
rapid and disorderly sale of assets into a declining market. While the
securitization process does not transfer credit risk from the
Enterprises, Fannie Mae and Freddie Mac also currently engage in
significant credit risk transfer transactions that transfer a
substantial portion of credit risk to private investors. As a result of
both their securitization funding and credit risk transfer practices,
the risk profile of Enterprise assets held in trusts differs markedly
from mortgage assets held by depository institutions.
In contrast, however, the Enterprises' retained portfolio assets do
pose funding risk to Fannie Mae and Freddie Mac. These retained
portfolio assets must be funded in much the same way that bank assets
are generally funded, through the issuance of debt. During
conservatorship, Enterprise retained portfolio asset levels have
declined considerably since the financial crisis, and the majority of
the Enterprises' recent portfolio asset purchases support their core
credit guarantee business, in particular the purchase of mortgages via
their respective cash windows for aggregation purposes and the
repurchase of mortgages out of securitizations for purposes of loss
mitigation. The amount of Enterprise legacy assets held for investment
has been reduced significantly during conservatorship. The reduction of
the Enterprises' retained portfolios is required by limits imposed by
the PSPAs and also furthers the conservatorship objectives of reforming
the Enterprises' business models and reducing their volume of non-
credit-guarantee-related investments and illiquid assets.
Fourth, in setting the minimum leverage capital requirement as a
backstop capital measure, FHFA is also considering the potential
adverse impact of having the leverage requirement exceed the risk-based
requirement and become the binding capital constraint for the
Enterprises. Because a leverage requirement is designed to be risk-
insensitive, a binding leverage requirement could influence Enterprise
decision-making in ways that encourage risk-taking. For instance,
during periods of rising home prices, leverage requirements could
exceed risk-based capital requirements and this could reduce an
Enterprise's economic incentive to differentiate among the relative
riskiness of different mortgages. A binding leverage requirement could
also reduce an Enterprise's incentive to enter into credit risk
transfer transactions.
The two alternatives included in this proposed rule offer different
methodologies for establishing the Enterprises' minimum leverage
capital requirement, and these methodologies reflect different
considerations and trade-offs in weighing the factors discussed above.
FHFA requests feedback on how best to balance the benefits of a
leverage requirement that would serve as a backstop to the proposed
risk-based capital requirements and therefore mitigate the risk that
risk-based requirements would be insufficient, with the downsides of a
leverage requirement that could influence how the Enterprises evaluate
risk.
Asset Base
In the proposed rule, each minimum leverage capital alternative
would be applied to total assets as determined in accordance with GAAP
and off-balance sheet guarantees related to securitization activities.
This would differ from the approach used by commercial banks that are
subject to multiple leverage ratio requirements, some of which exclude
off-balance sheet items from the asset base. For both the 2.5 percent
alternative and the bifurcated alternative, FHFA believes it is
appropriate, and generally consistent with the Safety and Soundness
Act's capital requirements and the Supplementary Leverage Ratio for
banks, to include off-balance sheet guarantees as part of the minimum
leverage capital requirement to ensure that these risks are
capitalized.
Consistent with the treatment in bank capital regulations and the
Safety and Soundness Act, FHFA includes cash and cash equivalents in
the asset base for both the 2.5 percent alternative and the bifurcated
alternative for the minimum leverage capital requirement.
[[Page 33380]]
Under the bifurcated alternative, cash and cash equivalents would be
treated as a non-trust asset and receive a 4 percent leverage
requirement. Cash and cash equivalents are highly liquid investment
securities that have a maturity at the date of acquisition of three
months or less and are readily convertible to known amounts of cash.
However, cash and cash equivalents remain subject to funding risk in
much the same way as other Enterprise portfolio assets. While
securitized mortgage assets benefit from matched funding in the
Enterprises' single-family and multifamily business lines, funding for
short-term, even highly liquid, assets, must be separately obtained.
Therefore, FHFA is proposing to include cash and cash equivalents in
the asset base for the minimum leverage capital requirement under both
of the alternatives included in this proposed rulemaking.
The 2.5 Percent Minimum Leverage Capital Requirement Alternative
FHFA's first proposed alternative for a minimum leverage capital
requirement would establish a single leverage requirement of 2.5
percent of total assets (as determined in accordance with GAAP) and
off-balance sheet guarantees related to securitization activities,
which is referred to here as the 2.5 percent alternative. This compares
to the current minimum leverage capital requirement, set by statute, of
2.5 percent of retained portfolio assets, 0.45 percent of mortgage-
backed securities outstanding to third parties, and 0.45 percent of
other off-balance sheet obligations.
The 2.5 percent alternative would set the proposed threshold based
on a number of analyses that are designed to supplement the total
proposed risk-based capital framework in identifying the minimum
capital that would be required to fund all of an Enterprise's assets
through economic and credit cycles, and therefore minimize the
probability that the Enterprises would again require public support.
The proposed risk-based capital requirements are pro-cyclical in that
the capital requirements decrease in favorable economic scenarios and
increase in stress economic scenarios. In the absence of a credible
minimum leverage capital requirement, an Enterprise could release or
redeploy capital during favorable economic periods when the risk-based
capital requirements are low, and could be unable to raise sufficient
capital to meet increasing risk-based capital requirements in a
subsequent stress scenario. In the 2.5 percent alternative, FHFA is
proposing a minimum leverage capital requirement that would provide a
substantial, risk-insensitive backstop to the total proposed risk-based
capital requirements, including credit risk, market risk, operational
risk, and the going-concern buffer.
Impact of the 2.5 Percent Minimum Leverage Capital Requirement
Alternative
If the proposed 2.5 percent alternative had been in place at the
end of the third quarter of 2017, the combined minimum leverage capital
requirement would have been $139.5 billion for the Enterprises. Fannie
Mae's requirement would have been $83.8 billion based on total ending
assets and guarantees of $3.4 trillion, and Freddie Mac's requirement
would have been $55.6 billion based on total ending assets and
guarantees of $2.2 trillion. Similarly, if the proposed risk-based
capital requirements had been in place, Fannie Mae's risk-based capital
requirement would have been $115 billion or 3.4 percent, including the
going-concern buffer of 75 bps. Similarly, Freddie Mac's risk-based
capital requirement would have been $66 billion or 3.0 percent,
including the going-concern buffer of 75 bps. Therefore, in considering
the proposed risk-based capital requirements, the 2.5 percent minimum
leverage capital requirement alternative would represent a backstop to
the Enterprises' total proposed risk-based capital requirement
including a going-concern buffer.
If the capital requirements in the proposed rule were implemented
today, both Enterprises' risk-based capital requirements would, by
significant margins, be the binding constraint regardless of which
proposed leverage requirement alternative was in place. However, should
home prices continue to increase and benign unemployment trends
continue, as has occurred over the past several years, and should the
credit quality of the Enterprises' new acquisitions continue to remain
at historically high levels, FHFA expects that the 2.5 percent
alternative would become the binding capital constraint for one or both
Enterprises in 2018 or 2019.
Methodology for Developing the 2.5 Percent Minimum Leverage Capital
Requirement Alternative
FHFA conducted five analyses that together support a risk-invariant
minimum leverage capital requirement of 2.5 percent:
1. Adjusting the 4 percent bank leverage ratio for the relative
risk of the Enterprises' business;
2. Determining the capital threshold for bank downgrades and
adjusting the threshold for the relative risk of the Enterprises'
business;
3. Determining the capital threshold for bank failures and
adjusting the threshold for the relative risk of the Enterprises'
business;
4. Analyzing the lifetime credit losses on the Enterprises'
December 2007 books of business, with adjustments for loans the
Enterprises no longer acquire and for credit risk transfers; and
5. Analyzing the CCF risk-based capital requirement on the
Enterprises' September 2017 books of business, with adjustments for
loans the Enterprises no longer acquire and for credit risk transfers.
These analyses produced estimates for the minimum leverage capital
requirement in the 2.2 to 2.8 percent range, and FHFA selected 2.5
percent as the midpoint of the estimates for this proposed leverage
requirement alternative. The five analyses are described below.
Adjusting the 4 Percent Bank Leverage Ratio
In the first analysis, FHFA considered the requirements in place
for commercial banks. Specifically, FHFA adjusted the commercial bank
leverage ratio requirement to recognize the lower risk of the
Enterprises' assets compared to risk of the average bank's assets,
where risk is defined using Basel risk weights. This adjustment
recognizes the Enterprises' concentration in residential mortgage
assets, which under the Basel Accords are assigned a 50 percent risk
weight.
Under the U.S. implementation of Basel III, U.S. financial
regulators require that banks maintain a Tier 1 leverage ratio of 4
percent to be considered adequately capitalized. FHFA adjusted this
ratio to take into account the Enterprises' lower risk-weighted asset
density (risk-weighted assets divided by total assets) relative to the
risk-weighted asset density of commercial banks.
Most of the Enterprises' assets are conforming residential
mortgages, which have a 50 percent risk weight in the Basel
standardized approach. In contrast, FHFA found that for the 34 bank
holding companies subject to CCAR in 2017, the banks' assets had higher
risk weights on average than the Enterprises' assets. FHFA calculated
the average risk-weighted density as of the fourth quarter of 2016 for
the 34 bank holding companies subject to CCAR. The analysis yielded an
estimated overall risk-weighted asset density of 72 percent for the
banks compared to 50
[[Page 33381]]
percent for the Enterprises. This suggests that the risk weighted asset
density for the Enterprises' assets is about 69 percent (calculated as
50 percent divided by 72 percent) of the risk weighted asset density
for the largest bank holding companies. Through this approach, FHFA
estimated a minimum leverage capital requirement for the Enterprises of
2.8 percent (69 percent multiplied by 4 percent).
Determining the Capital Threshold for Bank Downgrades
In the second analysis, FHFA estimated a minimum leverage capital
requirement from empirical analyses of bank credit rating downgrades.
The Agency reviewed capital levels for banks that experienced
downgrades in credit ratings. FHFA found that the number of credit
rating downgrades declined markedly for banks with Tier 1 common equity
capital levels in excess of 5.5 percent of risk-weighted assets. The
credit downgrades reflected a lack of market confidence that the banks
could survive as going concerns, despite the banks still having
positive levels of capital.
The bank credit rating downgrade analysis was based on 72 banks
that had both ratings from Standard & Poor's and total assets over $5
billion during a ten-year study period. The Agency found that banks
with a risk-based capital ratio below 5.5 percent had a notable
increase in the occurrence of a two-notch or three-or-more-notch rating
downgrade within 4 quarters. For example, 53.0 percent of the banks
with less than 4 percent risk-based capital experienced a two-notch
credit rating downgrade and 37.0 percent experienced a three-or-more-
notch downgrade. High rates of credit rating downgrades were also
observed for banks with risk-based capital ratios between 4.0 percent
and 5.5 percent.\42\ Banks with at least 5.5 percent risk-based capital
performed substantially better, and had a two-notch downgrade rate of
between 7.0 percent and 19.0 percent depending on the risk-based
capital ratio group (e.g., 5.5 percent-6.0 percent, 6.0-6.5 percent,
etc.), and a three-or-more-notch downgrade rate of between 4.0 percent
to 10.0 percent depending on the risk-based capital group.
---------------------------------------------------------------------------
\42\ The two- and three-or-more-notch downgrade rates were 45%/
40% for 4-4.5% capital, 50%/39% for 4.5%-5% capital, and 37%/27% for
5-5.5% capital.
---------------------------------------------------------------------------
It was clear from the analysis of credit rating downgrades that
considerably better outcomes for depository institutions were
associated with a risk-based capital ratio above 5.5 percent. A 50
percent average risk weight for Enterprise assets as applied in the
previous analysis of bank leverage ratios corresponds to a minimum
leverage capital requirement of 2.8 percent for the Enterprises.
Determining the Capital Threshold for Bank Failures
In the third analysis, FHFA estimated a minimum leverage capital
requirement from empirical analyses of bank failures in a manner
similar to the analysis for credit rating downgrades. The Agency
reviewed capital levels for banks that experienced failures. FHFA found
that the number of bank failures declined markedly for banks with Tier
1 common equity capital levels in excess of 5.5 percent of risk-
weighted assets.
FHFA's bank failure analysis was based on 122 bank holding
companies with assets of over $5 billion each. The Agency reviewed Tier
1 common equity capital ratios for each bank across a nearly 9-year
study period (between the fourth quarter of 2004 and the first quarter
of 2013). Banks with a risk-based capital ratio below 5.5 percent at
the end of any quarter during the study period showed a marked increase
in the rate of failure or government takeover. Almost half of the banks
with a risk-based capital ratio below 4.0 percent failed. Less severe,
but still high rates of failure were observed for banks with risk-based
capital ratios between 4.0 percent and 5.5 percent.\43\ Banks with at
least 5.5 percent risk-based capital over the time horizon performed
much better with a failure rate below 5.0 percent.
---------------------------------------------------------------------------
\43\ The failure or takeover rate was 25% for 4-4.5% capital,
40% for 4.5%-5% capital, and 13% for 5-5.5% capital.
---------------------------------------------------------------------------
Similar to the analysis of credit rating downgrades, FHFA found
that considerably better outcomes in the bank failure data were
associated with a risk-based capital ratio above 5.5 percent. A 50
percent average risk weight for Enterprise assets as applied in the
previous analysis of bank leverage ratios corresponds to a minimum
leverage capital requirement of 2.8 percent for the Enterprises.
Analyzing the Lifetime Credit Losses on the Enterprises' December 2007
Books of Business
In the fourth analysis, and as discussed above in section II.B,
FHFA estimated the Enterprises' lifetime credit losses for the December
31, 2007 book of business, excluding loans that the Enterprises would
no longer acquire according to their current acquisition criteria. FHFA
also adjusted (i.e., reduced) the Enterprises' lifetime credit losses
for the December 31, 2007 book of business to account for current
business practices of credit risk transfer. To calculate an Enterprise
leverage ratio, FHFA added estimated requirements for market risk,
operational risk, and a going-concern buffer to the adjusted lifetime
losses on the December 31, 2007 book. Based on this approach, FHFA
estimated a minimum leverage capital requirement for the Enterprises of
2.2 percent consisting of adjusted lifetime credit losses of 1.2
percent, market risk capital requirements of 0.2 percent, operational
risk capital requirements of 0.08 percent, and a going-concern buffer
of 0.75 percent.
Analyzing the Risk-Based Capital Requirements on the Enterprises' June
2017 Books of Business
In the fifth and final analysis, and in order to establish a point
of comparison using recent data, FHFA calculated risk-based capital
requirements per the proposed rule for all loans held or guaranteed by
the Enterprises as of June 30, 2017, excluding assets that the
Enterprises no longer acquire. The level of the Enterprises' aggregate
risk-based capital requirements as of June 30, 2017 provides a point-
in-time benchmark for a minimum, non-risk-based capital backstop to the
proposed risk-based capital requirements because of the recent long
stretch of favorable economic conditions and several years of the
Enterprises acquiring predominately high-credit quality loans.
Specifically, as presented below in Figure 2, the FHFA U.S. Purchase-
Only House Price Index reached an all-time high in the second quarter
of 2017, the U.S. unemployment rate of 4.3% as of May 2017 was at its
lowest level in 16 years, and as of June 2017, the average credit
scores of the Enterprises' guarantee books of business were at all-time
highs (approximately 745), and the average loan-to-value ratios (60
percent) were nearing lows last seen in 2006. The risk-based capital
requirements as of June 30, 2017 could represent close to a cyclical
low point for the proposed risk-based capital requirements, and would
therefore be nearing the point at which a non-risk-based leverage
requirement would provide a useful backstop to the risk-based
requirements.
[[Page 33382]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.014
The analysis described above resulted in risk-based capital
requirements net of CRT and excluding loans the Enterprises no longer
acquire of $61 billion for Fannie Mae, or 2.3 percent of UPB, and $39
billion for Freddie Mac, or 2.4 percent of UPB.
The estimates derived from the Enterprises' 2007 results, 2017
data, current acquisition criteria, and the proposed risk-based capital
requirements complement the prior bank-based estimates and further
suggest a minimum capital leverage requirement for the Enterprises in
the range of 2 percent to 3 percent. FHFA considered factors that would
indicate an appropriate requirement more towards either side of the
range. Selecting a lower requirement would recognize that the
Enterprises have largely passed market risk onto mortgage-backed
security investors, while the banks continue to hold large amounts of
whole loans on their balance sheet. A lower requirement would also
recognize that the Enterprises have more stable funding sources than
banking deposits, which are callable. Selecting a higher requirement
would recognize that the Enterprises pose a greater level of systemic
risk than many of the banks. The Enterprises have an asset base that is
less diversified than the banks, which can increase loss severity
during periods of stress. After considering the relevant factors, FHFA
selected the 2.5 percent mid-point of the range for this proposed
minimum leverage capital requirement alternative, which aligns with the
estimates derived from the analyses previously cited in this
subsection.
The 2.5 Percent Minimum Leverage Capital Requirement Alternative
As illustrated in Table 1 and Table 3, the statutory minimum
capital requirement for the Enterprises was far too low during the
recent financial crisis. In proposing the 2.5 percent alternative, FHFA
considered the need for a leverage requirement to serve as a backstop
to risk-based capital requirements, such as those in this proposed
rulemaking, that would provide the Enterprises with sufficient capital
to continue to operate effectively through all economic and credit
cycles while simultaneously providing protection against the model risk
inherent in risk-based capital standards, including the possibility
that capital relief allocated to the Enterprises' risk transfer
mechanisms is overestimated.
While model risk broadly covers errors and omissions in the design
and implementation of models, one common manifestation of model risk is
the high level of uncertainty around the performance of new products in
a stress event given the lack of historical performance data on new
products. This was made evident in the recent financial crisis when the
risk-based capital rule then in place for the Enterprises did not
adequately identify the risk in the Enterprises' assets, reinforcing
the need for a leverage ratio to serve as a backstop for total risk-
based capital requirements.
In addition, there are also non-economic risks that are typically
not captured in a risk-based capital framework. For example, there is a
mismatch with risk-based capital being
[[Page 33383]]
measured on an economic basis, while available capital is measured on
an accounting basis. Changes in accounting standards, regulatory
standards, or tax law can cause accounting losses, which deplete
available capital, potentially contributing to insolvency. The proposed
risk-based capital requirements, which are based on estimates of
unexpected economic losses, make no provision for non-economic losses.
While an excessively high minimum leverage capital requirement
could have adverse consequences on the Enterprises' economic incentives
to conduct certain business transactions, the absence of a credible
minimum leverage capital requirement could lead an Enterprise to
release or redeploy capital during favorable economic periods when the
risk-based capital requirements are low and could result in the
Enterprise being unable to raise sufficient capital to meet increasing
risk-based capital requirements in a subsequent stress scenario. The
economic environment in which this rule is being proposed could
indicate the approach of such an economic scenario, and could indicate
a cyclical low in risk-based capital requirements in light of the large
increase in home prices in recent years and the steep drop in national
unemployment, combined with the historically high credit quality of
recent Enterprise acquisitions. The 2.5 percent alternative could avoid
a situation in which declining Enterprise capital levels affect their
ability to raise capital and provide the market with a certain level of
stability. This alternative would indicate a plan to maintain capital
and demonstrate a commitment to safety and soundness, and present a
market-facing statement of a significant baseline level of capital in
good or bad market conditions.
The Bifurcated Minimum Leverage Capital Requirement Alternative
The second minimum leverage capital requirement alternative
included in this proposed rule, the bifurcated alternative, would
establish different minimum leverage capital requirements for different
Enterprise business segments, which would be applied to total assets
(as determined in accordance with GAAP) and off-balance sheet
guarantees related to securitization activities. Specifically, under
the bifurcated alternative, the Enterprises would be required to hold 4
percent capital for non-trust assets and 1.5 percent capital for trust
assets. This compares to the current minimum leverage capital
requirement, set by statute, of 2.5 percent of retained portfolio
assets, 0.45 percent of mortgage-backed securities outstanding to third
parties, and 0.45 percent of other off-balance sheet obligations.
The bifurcated alternative proposes a minimum leverage capital
requirement that would differentiate between the greater funding risks
of the Enterprises' non-trust assets and the minimal funding risks of
the Enterprises' trust assets, while also providing a backstop that is
anchored to the proposed risk-based capital framework itself. The
proposed approach of a minimum leverage capital requirement equal to
1.5 percent of trust assets would identify the risk-based capital
requirements as the ``primary'' capital measure for the Enterprises
because it was derived using empirical losses experienced during the
recent financial crisis and reflects a refined approach to risk. This
approach would result in a combined minimum leverage capital
requirement that would more frequently fall below the risk-based
capital requirements than the 2.5 percent alternative. As a result, as
discussed below, the bifurcated alternative would be less likely to
produce a binding leverage requirement that could negatively impact an
Enterprises' marginal economic decision-making.
For the Enterprises' non-trust assets, the 4 percent requirement
would be comparable to the 4 percent leverage requirement for
commercial banks, because these assets face similar stability concerns
that motivated the Basel Committee to adopt a leverage ratio on top of
the Basel risk-based capital framework in the wake of the recent
financial crisis.\44\ For the Enterprises' trust assets, the 1.5
percent requirement is calibrated to be comparable to the proposed
post-CRT credit risk capital requirements for the Enterprises' single-
family and multifamily portfolios as of September 30, 2017. The
intention of this 1.5 percent requirement, therefore, would be to
provide a backstop to the proposed credit risk capital requirements to
address the possibility of credit risk model mis-estimation and pro-
cyclicality risks. The 1.5 percent requirement is also calibrated to be
lower than the proposed aggregate risk-based capital requirements in
order to avoid incentives that could reduce the amount of CRT
transactions conducted by the Enterprises and other distortions in the
Enterprises' marginal economic decision-making. Finally, the 1.5
percent requirement is calibrated to recognize that the risk
composition of the Enterprises' business has fundamentally shifted
through conservatorship and the requirements of the PSPAs that limit
the Enterprises' retained portfolios to $250 billion.
---------------------------------------------------------------------------
\44\ ``An underlying cause of the global financial crisis was
the build-up of excessive on- and off-balance sheet leverage in the
banking system. In many cases, banks built up excessive leverage
while apparently maintaining strong risk-based capital ratios. At
the height of the crisis, financial markets forced the banking
sector to reduce its leverage in a manner that amplified downward
pressures on asset prices. This deleveraging process exacerbated the
feedback loop between losses, falling bank capital and shrinking
credit availability.'' Basel Committee on Banking Supervision,
``Basel III leverage ratio framework and disclosure requirements''
(Jan. 2014), p. 1.
---------------------------------------------------------------------------
Under the bifurcated alternative, as under the 2.5 percent
alternative, FHFA would retain its authority to increase an
Enterprise's leverage requirement by regulation or order if the Agency
determined that capital levels had become too low--for example, because
of pro-cyclical concerns during a housing bubble--and that it was
appropriate to increase these levels. FHFA would also have the
authority, as discussed below, to increase the risk-based capital
requirements by regulation or order as determined to be appropriate,
including as a result of pro-cyclical concerns.\45\
---------------------------------------------------------------------------
\45\ This authority is discussed in greater detail in section
II.F.
---------------------------------------------------------------------------
Using the Agency's authority in this way would provide FHFA with
the ability to increase capital requirements in the event it was deemed
necessary without the negative consequences of a minimum leverage ratio
that was the binding constraint, thus discouraging CRT transactions in
the interim period. One downside of this authority, however, is that
this flexibility could make it more challenging for the Enterprises to
make capital allocation decisions as FHFA's use of this authority may
be difficult to anticipate.
Impact of the Bifurcated Minimum Leverage Capital Requirement
Alternative
If the bifurcated minimum leverage capital requirement alternative
had been in place at the end of the third quarter of 2017, the combined
requirement for the Enterprises would have been $103 billion or 1.9
percent of assets. Of this, $72 billion would have been for trust
assets and $32 billion would have been for non-trust assets. Fannie
Mae's requirement would have been $60 billion based on total ending
assets of $3.4 trillion, representing a 1.8 percent total minimum
leverage requirement, with $44 billion of capital required for trust
assets and $16 billion for non-trust assets. Freddie Mac's minimum
leverage capital requirement would have been
[[Page 33384]]
$43 billion based on total ending assets of $2.2 trillion representing
a 1.9 percent total minimum leverage requirement, with $28 billion of
capital required for trust assets and $16 billion for non-trust assets.
If implemented today, both Enterprises' risk-based capital
requirements would, by significant margins, be the binding constraints.
Fannie Mae's risk-based capital requirement would have been $115
billion or 3.4 percent as of September 30, 2017, while Freddie Mac's
risk-based capital requirement would have been $66 billion or 3.0
percent as of September 30, 2017.
Table 36--Bifurcated Minimum Leverage Capital Requirement Alternative Comparison to the Proposed Risk-Based
Capital Requirements
----------------------------------------------------------------------------------------------------------------
Fannie Mae Freddie Mac Enterprises
-------------------------------- combined
---------------
Capital Capital Capital
requirement requirement requirement
($billions) ($billions) ($billions)
----------------------------------------------------------------------------------------------------------------
Bifurcated Alternative.......................................... $60.4 $43.1 $103.5
Risk-Based Capital Requirement.................................. $115.0 $65.9 $180.9
Bifurcated Alternative as % of Risk-based Capital Requirement... 53% 65% 57%
Going-Concern Buffer........................................ ($24.0) ($15.9) ($39.9)
-----------------------------------------------
Risk-Based Capital Requirement Less Going-Concern Buffer........ $91.0 $50.0 $141.0
Bifurcated Alternative as % of Risk-based Capital Requirement 66% 86% 73%
Less Going-Concern Buffer......................................
Net Credit Risk Capital Requirement *........................... $70.5 $41.5 $112.0
Bifurcated Alternative as % of Net Credit Risk Capital 86% 104% 92%
Requirement....................................................
Credit Risk Transferred..................................... ($11.5) ($10.0) ($21.5)
-----------------------------------------------
Post-CRT Net Credit Risk Capital Requirement.................... $59.0 $31.5 $90.5
Bifurcated Alternative as % of Post-CRT Net Credit Risk Capital 102% 137% 114%
Requirement....................................................
----------------------------------------------------------------------------------------------------------------
* Risk-based capital requirement less going-concern buffer, market risk, operational risk, and DTA capital
requirements.
Methodology for Developing the Bifurcated Minimum Leverage Capital
Requirement Alternative
The bifurcated alternative considers the relative funding risks of
the Enterprises' trust assets compared to the Enterprises' non-trust
assets, and includes different requirements for each of these
categories. In developing the bifurcated alternative, FHFA considered
how to design the leverage requirement so it would serve as a backstop
for the risk-based capital requirements proposed in this rulemaking
without adversely impacting the Enterprises' marginal economic
decision-making. For the non-trust asset component of the bifurcated
alternative, FHFA further considered its comparability to the bank
leverage requirement. For the trust asset component of the bifurcated
alternative, FHFA considered its comparability to the credit risk
capital requirements in the proposed rule.
Funding and Other Risks of the Enterprises' Business Model
As discussed earlier, the Enterprises' assets can be distinguished
between non-trust assets funded by debt and derivatives, which could be
subject to deleveraging pressures, and MBS and participation
certificate trust assets, which are not funded by the Enterprises or
subject to such pressure, and consequently would have a lower leverage
requirement under the bifurcated alternative. That distinction is also
consistent with the distinction made in the Safety and Soundness Act
minimum leverage ratios between on-balance sheet assets (under then-
applicable accounting treatment) and off-balance sheet assets, with the
latter having a much lower leverage ratio. While FHFA believes that
both of the statutory leverage minimums are much too low to be safe and
sound, the concept of different ratios for different aspects of the
Enterprises' business could be implemented at higher levels as proposed
under the bifurcated alternative. The relative funding and other risks
of the Enterprises' trust assets and non-trust assets are described
below.
Trust Assets
For the Enterprises' credit guarantee business, the bifurcated
minimum leverage capital requirement alternative would require less
capital for mortgage assets held in trust accounts than for non-trust
assets (including those held in the retained portfolio). This lower
level reflects that both Fannie Mae and Freddie Mac purchase single-
family and multifamily mortgages that they package into mortgage-backed
securities and sell to investors, which substantially reduces the
funding risk of purchasing these mortgage assets.
On the single-family side, the Enterprises operate nearly identical
securitization models. Fannie Mae and Freddie Mac sell MBS to investors
through either of two methods--first, where lenders provide loans to an
Enterprise in exchange for mortgage-backed securities based on those
same loans, or second where lenders sell loans to an Enterprise in
exchange for cash. When purchasing loans through the second method, the
Enterprise aggregates the loans, securitizes them, and then sells the
resulting MBS to investors for cash. In both cases, the Enterprises
guarantee the timely payment of principal and interest to MBS investors
and charge a guarantee fee for doing so.
The single-family securitization process provides the Enterprises
with a stable funding source that is match-funded with the mortgage
assets they purchase. The securitizations are consolidated on the
Enterprises' balance sheets, showing both the mortgage assets held in
trust accounts as well as the payments owed to MBS investors.
Investments in MBS cannot be withdrawn from existing securities during
times of market stress, which differentiates them from the banking
deposits and short-term debt relied upon by banks, which can leave
banks in need of new funding at times when debt funding becomes harder
and more expensive to obtain. In contrast, the Enterprises' stable
funding reduces risk to the Enterprises during times of market stress
and economic downturns.
[[Page 33385]]
In addition to transferring funding risk to investors, the
Enterprises transfer other risks of single-family mortgages held in
trust accounts in several ways. The securitization process itself
results in transferring the interest rate and market risk of these
mortgages to investors. In addition, because the securitization process
does not transfer the credit risk of securitized single-family
mortgages, the Enterprises have also developed credit risk transfer
programs that transfer a substantial portion of the credit risk on
these loans to private investors through separate CRT transactions. The
credit risk of an individual loan is the same whether it is securitized
or held as a whole loan in a retained portfolio, but the Enterprises'
existing CRT programs currently focus on transferring credit risk on
loans held in trust accounts.
The resulting risks the Enterprises must manage for single-family
mortgage assets held in trust accounts differ substantially from the
risks faced by the Enterprises and banks from the assets they hold in
their retained portfolios--both when looking at the overall asset
composition of banks and the relative risk of the mortgage assets held
on bank balance sheets. Most of the Enterprises' assets are conforming
residential mortgages, which have a 50 percent risk weight in the Basel
standardized approach. When FHFA looked at the average risk weight for
a group of large banks, as discussed earlier, it estimated an overall
risk-weighted asset density of 72 percent for the banks compared to 50
percent for residential mortgages guaranteed by the Enterprises. In
addition, banks hold a greater degree of risk for the whole residential
mortgage loans on their balance sheets compared to Enterprise mortgage
assets held in trust accounts. First, whole loans held on-balance sheet
do not benefit from the match-funding securitization benefit of
transferring interest rate and market risk to investors. Second, banks
also do not have CRT programs comparable to the Enterprises to transfer
the credit risk of these loans to other private actors.
With respect to the Enterprises' multifamily business lines, the
Enterprises use different business models but both multifamily credit
guarantee businesses involve securitizing the multifamily loans each
company purchases and providing for credit risk sharing with the
private sector. Fannie Mae primarily utilizes a loss-sharing model
referred to as DUS (Delegated Underwriting and Servicing), and Freddie
Mac predominately uses a structured mortgage-backed securities model
referred to as K-deals.
Fannie Mae's DUS program delegates most underwriting of multifamily
loans to a set of approved lenders. In general, the vast majority of
multifamily loans purchased by Fannie Mae are individually securitized
in a trust and sold to investors as MBS as opposed to held on Fannie
Mae's balance sheet as whole loans. These lenders usually participate
in loss-sharing agreements with Fannie Mae under which they agree to
take on a pro rata share of losses. Nearly every multifamily loan
purchased by Fannie Mae includes a loss-sharing agreement with the
originating lender. The amount of loss borne by the lender varies based
on their financial strength, but a majority of purchased loans include
a significant portion of risk shared with the lender (between 25 and 33
percent of the unpaid principal balance). As with its single-family
business line, Fannie Mae guarantees the timely payment of principal
and interest on the multifamily MBS it issues.
Freddie Mac's principal multifamily model--referred to as K-deals--
involves purchasing and aggregating multifamily loans and then
securitizing those loans. Once the loans are aggregated, Freddie Mac
sells a pool of them to a third party trust. The trust issues
subordinated tranches of MBS, which are sold, without a guarantee, to
investors. The subordinated tranches, in general, represent between 15
and 17 percent of underlying UPB of the mortgage pool and assume a
first loss position in the securitization structure. The trust also
issues senior tranches representing the balance of the mortgage pool,
which are then purchased by Freddie Mac. Freddie Mac places the senior
tranches of securities in a trust that issues pass-through certificates
(K-certificates) that Freddie Mac guarantees and sells. This
securitization structure transfers the vast majority of the underlying
credit risk from these mortgages, as well as all the funding risk.
Despite the difference in executions, both Enterprises' multifamily
models result in the same match-funding that exists for single-family
securitizations, and, with the exception of Freddie Mac's K-deals, the
senior tranches of which are reported as off-balance sheet guarantees,
both the multifamily assets held in trust accounts and the liabilities
owed to multifamily investors are reflected on the Enterprises' balance
sheets. Like the Enterprises' single-family securitizations, the
approach to securitizing and transferring credit risk on multifamily
loans also distinguishes it from whole multifamily loans held on a
bank's balance sheet.
Non-Trust Assets
The bifurcated minimum leverage capital requirement alternative
would require more capital for the Enterprises' non-trust assets,
including assets held in the Enterprises' retained portfolios, than for
trust assets, which takes into consideration the higher risks the
Enterprises must manage for these assets. Unlike their credit guarantee
business, the Enterprises' retained portfolios expose the companies to
leverage and funding risks for these assets, as well as interest rate,
operational, and credit risk.
Prior to conservatorship, the Enterprises held large retained
portfolios to generate investment returns. While in conservatorship,
the Enterprises have substantially reduced their legacy asset levels
but continue to hold assets in their retained portfolios for three
purposes that support their credit guarantee business: (1) Purchasing
loans to support single-family and multifamily loan aggregation for
subsequent securitizations; (2) purchasing delinquent loans out of MBS
and engaging in loss mitigation options with borrowers; and (3)
supporting limited, approved affordable housing objectives where
securitization is not yet a viable market option. Single-family loan
aggregation may expose the Enterprises to credit, interest rate, and
funding risk as Enterprises hold onto newly originated loans ahead of
securitization. The Enterprises hold these loans on balance sheet for a
limited period, generally no more than 90 days, in order to aggregate
sufficient quantities before securitization. In addition, Freddie Mac's
multifamily business includes a similar aggregation function, whereas
Fannie Mae's multifamily MBS are primarily single loan securities and,
thus, do not require significant portfolio capacity for loan
aggregation.
The Enterprises have reduced their retained portfolios by a
combined 60 percent since entering conservatorship, which has reduced
their overall risk exposure but has not eliminated risk for the
remaining assets held in their retained portfolios. These assets
include some pre-conservatorship assets held on their books, such as
PLS, although the Enterprises have disposed of the majority of these
assets.
Both companies issue unsecured debt to fund their retained
portfolios holdings, and this debt exposes the companies to funding
risk for retained portfolio assets, which mortgage assets held in trust
accounts do not have. In times of market stress or economic downturns,
as debt matures the
[[Page 33386]]
Enterprises would need to issue new, unsecured debt in order to fund
and support assets already held on their retained portfolios. Because
this funding could be more expensive or harder to obtain in a stressed
market, this could result in increased risk to the Enterprise.
The nature of the Enterprises' retained portfolios makes these
assets more comparable to the risks banks have from assets held on
their balance sheets. In addition to having more funding risk, the
Enterprises must also manage interest rate, operational, and credit
risk for the mortgage assets held in their retained portfolio, which is
like the risks managed by banks for whole mortgage loans.
By specifying a higher leverage requirement for non-trust assets
under the bifurcated alternative, the minimum leverage capital
requirement would significantly increase in the event the Enterprises'
grew their retained portfolio in the future, as could occur during a
downturn if the Enterprises purchased significant numbers of newly
delinquent loans out of mortgage-backed securities in order to mitigate
losses and facilitate loss mitigation options for borrowers.
Conversely, under the bifurcated alternative, the minimum leverage
capital requirement for the Enterprises could decline in the future as
the Enterprises continue to dispose of legacy retained portfolio assets
and to sell or re-securitize seriously delinquent or re-performing
loans.
Minimum Leverage Requirement as a Backstop to the Proposed Risk-Based
Capital Requirements
The bifurcated alternative seeks to calibrate the minimum leverage
requirement so that it provides a backstop to the proposed risk-based
capital requirements, but with less likelihood that it becomes the
binding capital constraint for the Enterprises. The bifurcated
alternative identifies the proposed risk-based capital requirements as
the primary or benchmark capital measure for the Enterprises. Such an
approach would rely on the view that the proposed risk-based capital
requirements included in this rulemaking are a detailed and robust
assessment of risk to Fannie Mae and Freddie Mac and that the purpose
of the minimum leverage capital requirement would be to serve as a
backstop to guard against the potential that the risk-based
requirements would underestimate the risk of an Enterprises' assets,
due to model risk or pro-cyclicality for example.
As detailed earlier, the risk-based capital portion of the proposed
rule provides a granular assessment of credit risk specific to
different mortgage loan categories, as well as market risk and
operational risk components. The proposed risk-based requirements are,
in part, modeled on empirical losses experienced by the Enterprises as
a result of the recent severe financial crisis over the full life of
the loans. The capital required for the Enterprises would be required
and in place at the date of loan acquisition and would not take into
account any revenues from guarantee fees that they will earn. On top of
these risk-based components, the proposed rule includes a risk-
insensitive going-concern buffer as part of the risk-based capital
requirements to ensure that an Enterprise could continue to write new
business for what is projected to be a year or two following a period
of market stress or a severe economic downturn.
The leverage requirements under the proposed bifurcated alternative
also take into consideration the potential impacts that a binding
minimum leverage requirement could have on an Enterprise's economic
incentives to conduct--or not conduct--certain business transactions.
This impact on business transactions could be felt across an
Enterprises' business, including which mortgage loans to purchase for
securitization, whether to buy or sell particular assets for their
retained portfolios, whether to engage in CRT transactions and which
transactions to engage in, and what liquidity positions to hold for
periods of market stress. The economic incentives created by a binding
leverage ratio could increase the overall risk profile of an
Enterprises' book of business relative to its current operations. As a
result, while a binding minimum leverage requirement would result in
higher Enterprise capital levels, such a requirement would not
necessarily make an Enterprise more safe and sound.
More specifically, under a binding minimum leverage requirement, an
Enterprise could have reduced economic incentives to differentiate
among the relative riskiness of different mortgage loans purchased for
securitization. For example, under a scenario where the total risk-
based capital requirement was 2.5 percent and the minimum leverage
requirement was 4 percent, an Enterprise would have an economic
incentive to increase the risk-level of its aggregate loan purchases up
to the 4 percent level since the Enterprise would be required to hold 4
percent capital regardless of the riskiness of its assets. This could
encourage an Enterprise to purchase loans with multiple risk layers--
such as loans with higher LTVs, adjustable rates, and investor owned
properties--in order to earn enough of a return to be commensurate with
the capital requirement. Conversely, under this hypothetical, an
Enterprise would have a disincentive to purchase lower-risk loans--such
as loans with lower LTVs and 15-year terms--because they would make it
more difficult to earn a sufficient return relative to the binding
capital requirement. Taken together, these economic incentives could
lead an Enterprise to purchase more loans with multiple risk-layering
features that could, in turn, result in a higher risk composition of
assets. By contrast, under the proposed risk-based capital rule,
whenever the Enterprise purchases or guarantees a riskier asset, its
required capital would automatically increase. If the minimum leverage
requirement were the binding capital constraint and did not distinguish
between retained portfolio and trust assets, an Enterprise would also
have an economic incentive to increase the risk of assets held or
reduce holding of low-risk assets in their retained portfolio until the
risk-based capital requirement increases to the level of the minimum
leverage requirement.
A binding minimum leverage ratio could also have an impact on the
Enterprises' incentives to conduct credit risk transfer transactions.
In this proposed rule, an Enterprise would receive capital relief for
CRT transactions under the risk-based capital framework but not the
minimum leverage requirement. As a result, a minimum leverage ratio
that is set too high could lead to a capital requirement that exceeds
the post-CRT risk-based capital requirement. An example helps
illustrate this dynamic. If an Enterprise transferred credit risk to
private investors through fully-funded STACR or CAS transactions with
no counterparty exposure, an Enterprise's pre-CRT risk-based capital
requirement would be reduced to account for the credit risk transferred
for these loans. For example, a pre-CRT risk-based requirement of 4.5
percent could be reduced to a post-CRT risk-based requirement of 2
percent. However, a minimum leverage requirement that is set at 4
percent would become the binding capital requirement, because it would
not be reduced by the equivalent amount of credit risk transferred
through CRT transactions.
Under this example, a minimum leverage requirement of 4 percent
would likely result in an Enterprise declining to conduct these CRT
transactions because the Enterprise would need to pay for credit risk
protection twice--
[[Page 33387]]
once through the cost of holding more capital than required under the
risk-based capital requirement and a second time through the cost of
paying private investors for the credit risk protection provided
through CRT transactions.
As illustrated by this example, it is important to consider how a
minimum leverage requirement and the proposed risk-based capital
requirements would interact with one another, and what the resulting
effect would be on the Enterprises' incentives to conduct CRT
transactions or other risk reducing transactions. As conservator of the
Enterprises, FHFA has required Fannie Mae and Freddie Mac to develop
CRT programs that transfer a meaningful amount of credit risk to
private investors in an economically sensible manner. FHFA believes
that these programs are an effective way to reduce risk to the
Enterprises and, therefore, to taxpayers. Enterprise CRT transactions
effectively transfer credit risk to the private sector, and, for many
transactions, do so in a way that is fully funded up-front, without
counterparty risk. In other CRT transactions, the Enterprises require
that the transactions be partially collateralized to mitigate
counterparty risk. If capital requirements caused the Enterprises to
reduce the amount of CRT transactions they conducted, this could result
in a greater concentration of credit risk with the Enterprises and
could be counter to FHFA's overall objective of reducing credit risk to
the Enterprises and taxpayers.
Proposed Leverage Requirements Under the Bifurcated Alternative
The total leverage requirement under the proposed bifurcated
alternative would be the result of blending the 4 percent requirement
for non-trust assets and the 1.5 percent requirement for trust assets.
While the bifurcated alternative would provide an overall minimum
leverage capital requirement that would almost certainly be less than
the 2.5 percent alternative, it could also provide a backstop to guard
against Enterprise capital becoming too low. The requirements included
in the bifurcated alternative are intended to limit the instances in
which the minimum leverage capital requirement would serve as the
Enterprises' binding capital constraint and, as a result, limit the
negative impacts of a binding leverage requirement.
The proposed leverage requirements under the bifurcated alternative
would produce a total leverage requirement that is calibrated to
provide a significant backstop to the post-CRT credit risk capital
component of the proposed risk-based capital requirements for both
single-family and multifamily whole loans and guarantees currently on
the Enterprises' balance sheets. For Fannie Mae, the bifurcated
alternative would produce a 1.8 percent minimum leverage requirement as
of September 30, 2017. The total leverage requirement of 1.8 percent
compares to a total risk-based capital requirement of 3.4 percent as
currently calculated under the proposed rule, which includes credit
risk, operational risk, market risk, and the going-concern buffer, and
2.7 percent excluding the going-concern buffer. In making a comparison
specifically with the credit risk component of the proposed risk-based
capital framework, the 1.8 percent total leverage requirement compares
to a 1.8 percent post-CRT net credit risk capital requirement. As a
result, the 1.8 percent leverage level would reach 100 percent of
Fannie Mae's proposed post-CRT net credit risk capital requirement for
the third quarter of 2017.
For Freddie Mac, the proposed leverage requirements under the
bifurcated alternative would produce a 1.9 percent minimum leverage
requirement as of September 30, 2017. The total leverage requirement of
1.9 percent compares to a total risk-based capital requirement of 3.0
percent as currently calculated under the proposed rule, which includes
credit risk, operational risk, market risk, and the going-concern
buffer, and 2.3 percent excluding the going-concern buffer. In making a
comparison specifically with the credit risk component of the proposed
risk-based capital framework, the 1.9 percent total leverage
requirement compares to a 1.4 percent post-CRT net credit risk capital
requirement. As a result, the 1.9 percent leverage level would reach
135 percent of Freddie Mac's proposed post-CRT net credit risk capital
requirement for the third quarter of 2017.
Non-Trust Assets
As noted earlier, under the bifurcated alternative the proposed 4
percent leverage requirement for the Enterprises' non-trust assets,
which include the retained portfolios, would be comparable to the
leverage requirement for depository institutions. This approach would
align the riskiest part of the Enterprises' business, the part that is
most comparable with the funding risk of depository institutions, with
the leverage requirement established by other federal financial
regulators.\46\
---------------------------------------------------------------------------
\46\ Federal financial regulators have established a 4 percent
leverage ratio for depository institutions and the asset base does
not include off-balance sheet assets. In addition, regulators have
established a 3 percent supplemental leverage ratio that applies to
designated depository institutions and the asset base includes off-
balance sheet assets. Similarly, the enhanced supplemental leverage
ratio is set at 5 percent and applies to an even narrower subset of
depository institutions and the asset base also includes off-balance
sheet assets.
---------------------------------------------------------------------------
Because cash and cash equivalents are components of the retained
portfolio, the bifurcated alternative would include cash and cash
equivalents in the asset base for the 4 percent minimum leverage
capital requirement. While cash and cash equivalents are highly liquid
investment securities, they remain subject to funding risk in much the
same way as other Enterprise portfolio assets, although because of
their liquidity deleveraging with respect to them would not create the
same downward pressure on asset values as for other types of assets.
Trust Assets
The bifurcated alternative includes a 1.5 percent leverage
requirement for trust assets.\47\ This proposed requirement seeks to
balance the objectives of providing a sufficient backstop to the risk-
based capital requirements and avoiding negative economic incentives
that could reduce the usage of CRT transactions or otherwise increase
Enterprise risk levels.
---------------------------------------------------------------------------
\47\ The bifurcated alternative would also assign the 1.5
percent minimum leverage ratio to assets categorized under
accounting standards as off-balance sheet assets. Both Enterprises
have limited legacy off-balance sheet assets. In addition, Freddie
Mac's guaranteed senior tranches of its multifamily securities, most
commonly through its K-deal securitizations, are the only off-
balance sheet assets either Enterprise currently acquires. These
guarantees do constitute credit risk that Freddie Mac assumes,
although the deep subordination provided by the junior tranches that
are not guaranteed and are sold to private investors provide
significant credit protection to these guarantees.
---------------------------------------------------------------------------
The 1.5 percent requirement for trust assets under the proposed
bifurcated alternative could provide a significant backstop when
compared to the credit risk capital requirements for Enterprise trust
assets under the proposed risk-based capital requirements. In this
comparison, FHFA has defined trust assets to include new single-family
acquisitions, performing single-family seasoned loans, and all
multifamily loans held in trust accounts. Trust assets exclude re-
performing single-family loans and non-performing single-family loans
that are now held by the Enterprises in their retained portfolios, and
these assets would have a 4 percent minimum leverage requirement under
the bifurcated alternative.
For Fannie Mae, the proposed 1.5 percent leverage requirement for
trust assets would compare to a 1.3 percent
[[Page 33388]]
post-CRT net credit risk capital requirement. As a result, the 1.5
percent leverage requirement would reach 115 percent of Fannie Mae's
proposed post-CRT net credit risk capital requirement for all trust
assets. For Freddie Mac, the proposed 1.5 percent leverage requirement
for trust assets would compare to a 1.1 percent post-CRT net credit
risk capital requirement. As a result, the 1.5 percent leverage
requirement would reach 136 percent of Freddie Mac's proposed post-CRT
net credit risk capital requirement for all trust assets as of the
third quarter of 2017.
While this bifurcated minimum leverage capital requirement
alternative could provide a significant backstop for the capital
necessary to withstand credit losses in a severe stress scenario, the
proposed risk-based capital requirements would in most circumstances
remain the binding capital constraint for the Enterprises even after
accounting for CRT. This is because the post-CRT net credit risk
capital requirement is only one component of the total risk-based
capital framework proposed in this rulemaking, which also has
components for market risk, operational risk, and a going-concern
buffer.
Considering the Enterprises' current use of CRT, a 1.5 percent
minimum leverage requirement for trust assets could provide additional
protection during a period of rapid appreciation in home prices beyond
the protection provided by the proposed credit risk capital
requirements, and could be a sufficient backstop for potential
shortcomings of the proposed credit risk capital requirements such as
mis-estimations of stress losses. Should FHFA determine that the
leverage requirement is insufficient to address rapid and unsustainable
home price appreciation, FHFA could also use its authority, described
above, to adjust by order or regulation either the risk-based capital
requirement, the leverage requirement, or both.
Question 28: Should FHFA consider additional capital buffers, such
as buffers to address pro-cyclical risks, in addition to the leverage
ratio and FHFA's existing authority to temporarily increase Enterprise
leverage requirements and why?
Question 29: FHFA is soliciting comments on the advantages and
disadvantages of setting a single minimum leverage capital requirement
under the 2.5 percent alternative. FHFA is seeking views both on this
general approach and the minimum requirements proposed in the 2.5
percent alternative. FHFA is requesting data and supplementary analysis
that would support consideration of alternative requirements for a
single minimum capital requirement.
Question 30: FHFA is soliciting comments on the advantages and
disadvantages of the bifurcated alternative and establishing minimum
leverage capital requirements of 1.5 percent for mortgage assets held
in trusts and 4 percent for retained portfolio assets. FHFA is seeking
views both on this general approach and the minimum requirements
proposed in the bifurcated alternative. FHFA is requesting data and
supplementary analysis that would support consideration of alternative
approaches or requirements.
Question 31: FHFA is soliciting comments that provide feedback on
the relative advantages and disadvantages of the 2.5 percent
alternative and the bifurcated alternative.
Question 32: Instead of adopting the 2.5 percent alternative or
bifurcated alternative as proposed, should FHFA, instead, adopt another
approach to the minimum leverage capital requirement that provides a
separate leverage requirement specifically for assets that are part of
credit risk transfer transactions? If so, why? FHFA is requesting data
and supplementary analysis that would support consideration of
alternative measures.
Question 33: Given the high quality and short duration of cash and
cash equivalent assets, should FHFA consider a lower and separate
leverage ratio for these assets so as to not discourage the Enterprises
from holding cash and cash equivalent assets to support liquidity? For
the bifurcated alternative, should cash and cash equivalent assets be
subject to the 1.5 percent leverage requirement rather than the 4
percent requirement? FHFA is requesting data and supplementary analysis
that would support consideration of alternative measures.
Question 34: FHFA is soliciting comments on the advantages and
disadvantages of including off-balance sheet exposures in the 2.5
percent leverage ratio alternative, and whether off-balance sheet
assets should be included in the non-trust assets (which includes the
retained portfolio) or trust assets component of the bifurcated
alternative. FHFA is requesting data and supplementary analysis that
would support alternative perspectives.
E. Definition of Capital
This section corresponds to Proposed Rule Sec. 1240.1(a).
The Safety and Soundness Act includes definitions of core capital
and total capital. FHFA does not have the authority to change those
definitions in the proposed rule, in contrast to the banking regulators
who have greater definitional flexibility under their statutes.
Therefore, the proposed rule uses the statutory definitions of core
capital and total capital for the Enterprises.
Using the statutory definitions, core capital means the sum of the
following (as determined in accordance with GAAP): (i) The par or
stated value of outstanding common stock; (ii) the par or stated value
of outstanding perpetual, noncumulative preferred stock; (iii) paid-in
capital; and (iv) retained earnings.
The statutory definition of core capital for the Enterprises does
not reflect any specific considerations for deferred tax assets (DTAs).
DTAs are recognized based on the expected future tax consequences
related to existing temporary differences between the financial
reporting and tax reporting of existing assets and liabilities given
established tax rates. In general, DTAs are considered a component of
capital because these assets are capable of absorbing and offsetting
losses through the reduction to taxes. However, DTAs may provide
minimal to no loss-absorbing capability during a period of stress as
recoverability (via taxable income) may become uncertain.
In 2008, during the financial crisis, both Enterprises concluded
that the realization of existing DTAs was uncertain based on estimated
future taxable income. Accordingly, both Enterprises established
partial valuation allowances on DTAs. A valuation allowance on DTAs is
typically established when all or a portion of DTAs is unlikely to be
realized considering projections of future taxable income, resulting in
a non-cash charge to income and a reduction to the retained earnings
component of capital. Fannie Mae established a partial valuation
allowance on DTAs of $30.8 billion in 2008, which was a major
contributor to the overall capital reduction of $66.5 billion at Fannie
Mae in 2008. Similarly, Freddie Mac established a partial valuation
allowance on DTAs of $22.4 billion in 2008, which was also a major
contributor to the overall capital reduction of $71.4 billion at
Freddie Mac in 2008.
Other financial regulators recognize the limited loss absorbing
capability of DTAs, and therefore limit the amount of DTAs that may be
included in CET1 capital. Under Basel III guidance, federally regulated
bank holding companies are subject to threshold
[[Page 33389]]
deductions, up to and including full deductions, associated with DTAs
related to temporary timing differences.
Basel III capital rules also include accumulated other
comprehensive income (AOCI) in the determination of regulatory Tier 1
capital. For the Enterprises, the statutory definition of core capital
does not include AOCI. Generally, AOCI primarily consists of unrealized
gains and losses on available-for-sale securities, which are measured
at fair value on the Enterprises' consolidated balance sheets.
Consequently, AOCI can be positive or negative depending on the
prevailing market conditions for the Enterprises' available-for-sale
securities. For example, at the end of 2008, AOCI at Fannie Mae and
Freddie Mac was negative $7.7 billion and negative $26.4 billion,
respectively. As a result, by excluding AOCI from core capital, an
Enterprise may be adequately capitalized for regulatory purposes, but
insolvent under GAAP.
Total capital, using the statutory definition, means the sum of the
following: (1) Core capital of an Enterprise; (2) a general allowance
for foreclosure losses, which (i) shall include an allowance for
portfolio mortgage losses, non-reimbursable foreclosure costs on
government claims, and an allowance for liabilities reflected on the
balance sheet for the Enterprise for estimated foreclosure losses on
mortgage-backed securities; and (ii) shall not include any reserves of
the Enterprise made or held against specific assets; and (3) any other
amounts from sources of funds available to absorb losses incurred by
the Enterprise, that the Director by regulation determines are
appropriate to include in determining total capital.
Question 35: FHFA is soliciting comments on the capital treatment
of DTAs and AOCI. How should FHFA incorporate the potential impact of
DTAs and AOCI, given that FHFA cannot change the definition of core
capital as provided in the statute? What additional modifications to
the proposed capital requirement for DTAs should FHFA consider, and
why? What additional modifications to the proposed capital requirement
for AOCI should FHFA consider, and why? Is AOCI a suitable other source
of loss-absorbing capacity for purposes of the statutory definition of
total capital?
Question 36: FHFA is soliciting comments on the capital treatment
of outstanding perpetual, noncumulative preferred stock. Given that
FHFA cannot change the definition of core capital as provided in the
statute, what modifications should FHFA consider and why?
Question 37: Given that loss reserves are for expected losses and
capital is for unexpected losses, FHFA is soliciting comments on the
appropriateness of including loss reserves in the definition of total
capital. Should loss reserves be added to the proposed risk-based
capital requirements in order to offset their inclusion in total
capital?
F. Temporary Adjustments to Minimum Leverage and Risk-Based Capital
Requirements
FHFA has additional existing regulatory flexibility so that capital
requirements can be adjusted by order to address periods of heightened
risk. While the proposed risk-based and leverage capital requirements
may be amended by subsequent regulation, revising them would generally
require soliciting and incorporating public input and would likely be
time-intensive. This process would make it difficult for the capital
requirements to quickly address new developments and anticipate rapidly
emerging risks. The current provisions authorizing FHFA to adjust both
risk-based and minimum leverage capital requirements allow FHFA to
respond more quickly to market and business developments and require
greater retention of capital when circumstances warrant it. This
additional flexibility also mitigates the pro-cyclicality of risk-based
capital standards.
Risk-based capital requirements may fail to adequately capture the
risks facing an institution. For example, any capital framework that
depends on models to assign risk-weights will be subject to model
estimation error risk. In addition, such an approach may not adequately
account for the risk related to a new asset or product. As discussed
earlier, new or previously unassigned activities would be given an
interim risk-weighting under the proposed risk-based capital
requirements. The lack of historical performance data for new products
increases the risk that an interim risk-weight assessment may prove
inadequate and that this risk would be compounded by growth of the new
product.
Risk-based capital requirements are sensitive to changes in house
prices because risk weights are tied to LTV ratios. During periods of
rapid house price appreciation, risk-based capital requirements for the
Enterprises will fall as LTVs fall. As the experience from the most
recent financial crisis reflects, housing downturns are often preceded
by rapid house price appreciation. This means that the risk-based
capital requirements, considered in isolation, can be pro-cyclical and
can lead to the shedding of loss-absorbing capital ahead of a period of
sustained credit losses.
HERA anticipated the need for flexibility in developing capital
standards and granted FHFA discretion to make capital adjustments for
both risk-based capital requirements and leverage requirements in order
to maintain the safety and soundness of the Enterprises. In 2011, FHFA
promulgated regulations describing how FHFA could implement a temporary
increase through order in the leverage requirements under HERA.\48\
Under the regulation, FHFA may consider different factors in making a
determination to increase minimum leverage capital requirements,
including the value of Enterprise assets; the Enterprises' ability to
access liquidity as well as credit and market risk; initiatives that
entail heightened risks; current and potential declines in Enterprise
capital; housing finance market conditions; and other conditions as
described by the Director.
---------------------------------------------------------------------------
\48\ 12 CFR part 1225. ``FHFA is responsible for ensuring the
safe and sound operation of regulated entities. In furtherance of
that responsibility, this part sets forth standards and procedures
FHFA will employ to determine whether to require or rescind a
temporary increase in the minimum capital levels for a regulated
entity or entities pursuant to 12 U.S.C. 4612(d).''
---------------------------------------------------------------------------
This authority provides FHFA with the flexibility to adjust
leverage requirements in an overheating mortgage market when risk-based
capital requirements may otherwise lead to the shedding of loss-
absorbing capital. This authority also provides FHFA with the
flexibility, using the leverage ratio, to address the potential
inadequacy of capital requirements for new products and it provides
FHFA with a way to mitigate a latent modeling error on an interim basis
while risk-based capital requirements are being corrected.
FHFA also possesses statutory flexibility with respect to the risk-
based capital requirements themselves. While the authority to increase
minimum leverage capital requirements can mitigate some of the pro-
cyclicality and other issues inherent in a model-based set of
standards, it can only do so indirectly by requiring more capital to be
held across all asset classes to which the leverage requirement
applies. For this reason, FHFA wishes to highlight its statutory
authority to adjust the risk-based capital requirements for particular
asset classes directly during periods of heightened risk, when the
risk-based capital requirements might otherwise be inadequate.
Elaborating on the earlier example, sustained single-family house
[[Page 33390]]
price appreciation may suggest that the single-family housing sector is
overheating ahead of a downturn. In this scenario, home prices may be
artificially inflated and LTV ratios would fall, allowing the
Enterprises to release capital. FHFA's ability to step in to adjust
capital treatment for single-family loans, or to augment the single-
family businesses' going-concern buffer, during this period would
directly address the risk that risk-based capital treatment for these
assets may become inadequate.
Authority to adjust the minimum leverage capital requirement can
address this risk as well, but does so in a less targeted way. Relying
on the minimal leverage capital adjustment exclusively may lead to
raising Enterprise-wide capital requirements when a more narrow
adjustment would suffice from a safety and soundness perspective. This
overly-broad approach may lead to skewed Enterprise decision-making as
the leverage requirement becomes greater and approaches becoming the
binding capital allocation restraint. This concern is discussed in
greater detail in the section II.D.
FHFA's existing authority to adjust risk-based capital requirements
comes from the Safety and Soundness Act. Section 1362(e) provides FHFA
with authority to implement additional capital requirements with
respect to any product or activity by the Enterprises ``as the Director
considers appropriate to ensure that the regulated entity operates in a
safe and sound manner with sufficient capital and reserves to support
the risks that arise in the operations and management of the regulated
entity.'' \49\ This authority may be exercised through order, as
opposed to regulation, and thus can be implemented swiftly should the
need to do so arise.
---------------------------------------------------------------------------
\49\ 12 U.S.C. 4612(e).
---------------------------------------------------------------------------
Question 38: FHFA is soliciting comments on the advantages and
disadvantages of the existing authority to temporarily increase minimum
leverage requirements, in particular with respect to the view that use
of this authority can serve a countercyclical role across economic
cycles. FHFA is requesting data and supplementary analysis that would
support alternative perspectives.
Question 39: Commenters are asked to discuss the advantages and
disadvantages of adjusting risk-based capital requirements by order
during periods of heightened risk.
Question 40: FHFA is soliciting views on how best to identify
periods of heightened market and Enterprise risk. In particular, what
economic indicators or other triggers should be considered in
determining when to require an adjustment to capital requirements and
how such adjustments might impact capital planning?
III. Paperwork Reduction Act
The Paperwork Reduction Act (PRA) (44 U.S.C. 3501 et seq.) requires
that regulations involving the collection of information receive
clearance from the Office of Management and Budget (OMB). The proposed
rule contains no such collection of information requiring OMB approval
under the PRA. Therefore, no information has been submitted to OMB for
review.
IV. Regulatory Flexibility Act
The Regulatory Flexibility Act (5 U.S.C. 601 et seq.) requires that
a regulation that has a significant economic impact on a substantial
number of small entities, small businesses, or small organizations must
include an initial regulatory flexibility analysis describing the
regulation's impact on small entities. FHFA need not undertake such an
analysis if the agency has certified that the regulation will not have
a significant economic impact on a substantial number of small
entities. 5 U.S.C. 605(b). FHFA has considered the impact of the
proposed rule under the Regulatory Flexibility Act. The General Counsel
of FHFA certifies that the proposed rule, if adopted as a final rule,
would not have a significant economic impact on a substantial number of
small entities because the proposed rule is applicable only to the
Enterprises, which are not small entities for purposes of the
Regulatory Flexibility Act.
List of Subjects
12 CFR Part 1206
Federal home loan banks, Reporting and recordkeeping requirements.
12 CFR Part 1240
Capital, Credit, Enterprise, Investments, Reporting and
recordkeeping requirements.
12 CFR Part 1750
Banks, banking, Capital classification, Mortgages, Organization and
functions (Government agencies), Risk-based capital, Securities.
Authority and Issuance
For the reasons stated in the preamble, under the authority of 12
U.S.C. 4511, 4513, 4514, 4526 and 4612, FHFA proposes to amend chapters
XII and XVII, of title 12 of the Code of Federal Regulations as
follows:
CHAPTER XII--FEDERAL HOUSING FINANCE AGENCY
SUBCHAPTER A--ORGANIZATION AND OPERATIONS
PART 1206--ASSESSMENTS
0
1. The authority citation for part 1206 continues to read as follows:
Authority: 12 U.S.C. 4516.
0
2. Amend Sec. 1206.2 by revising the definition of ``Total exposure''
to read as follows:
Sec. 1206.2 Definitions.
* * * * *
Total exposure means the sum of total assets as determined
according to GAAP, and off-balance sheet guarantees related to
securitization activities that are used to calculate the quarterly
minimum leverage capital requirement of the Enterprise under 12 CFR
part 1240.
* * * * *
SUBCHAPTER C--ENTERPRISES
0
3. Add part 1240 to subchapter C to read as follows:
PART 1240--ENTERPRISE CAPITAL REQUIREMENTS
Sec.
1240.1 Definitions and abbreviations.
1240.2 Board oversight of capital adequacy.
1240.3 Reporting procedure and timing.
1240.4 Risk-based capital requirement components.
1240.5 Single-family whole loans, guarantees, and related securities
risk-based capital requirement components.
1240.6 Single-family whole loans and guarantees credit risk capital
requirement methodology.
1240.7 Loan segments for single-family whole loans and guarantees
credit risk capital requirement.
1240.8 Base credit risk capital requirement for single-family whole
loans and guarantees.
1240.9 Risk multipliers for single-family whole loans and
guarantees.
1240.10 Gross credit risk capital requirement for single-family
whole loans and guarantees.
1240.11 Loan-level credit enhancement impact on gross credit risk
capital requirement.
1240.12 Counterparty Haircut for single-family whole loans and
guarantees.
1240.13 Net credit risk capital requirement for single-family whole
loans and guarantees.
1240.14 Single-family credit risk transfer capital relief for
single-family whole loans and guarantees.
1240.15 Calculation of capital relief from a single-family CRT.
1240.16 Calculation of total capital relief for single-family whole
loans and guarantees.
1240.17 Market risk capital requirement for single-family whole
loans.
[[Page 33391]]
1240.18 Market risk capital requirement for single-family
securities.
1240.19 Operational risk capital requirement for single-family whole
loans and guarantees.
1240.20 Operational risk capital requirement for single-family
securities.
1240.21 Going-concern buffer requirement for single-family whole
loans and guarantees.
1240.22 Going-concern buffer requirement for single-family
securities.
1240.23 Aggregate risk-based capital requirement for single-family
whole loans, guarantees, and related securities.
1240.24 Private-label securities risk-based capital requirement
components.
1240.25 Credit risk capital requirement for a PLS.
1240.26 Market risk capital requirement for a PLS.
1240.27 Operational risk capital requirement for a PLS.
1240.28 Going-concern buffer requirement for a PLS.
1240.29 Aggregate risk-based capital requirement for PLS.
1240.30 Multifamily whole loans, guarantees, and related securities
risk-based capital requirement components.
1240.31 Multifamily whole loans and guarantees credit risk capital
requirement methodology.
1240.32 Loan segments for multifamily whole loans and guarantees
credit risk capital requirement.
1240.33 Base credit risk capital requirement for multifamily whole
loans and guarantees.
1240.34 Risk multipliers for multifamily whole loans and guarantees.
1240.35 Gross credit risk capital requirement for multifamily whole
loans and guarantees.
1240.36 Net credit risk capital requirement for multifamily whole
loans and guarantees.
1240.37 Multifamily credit risk transfer capital relief for
multifamily whole loans and guarantees.
1240.38 Calculation of capital relief for a multifamily CRT.
1240.39 Multifamily whole loans market risk capital requirement.
1240.40 Multifamily securities market risk capital requirement.
1240.41 Operational risk capital requirement for multifamily whole
loans and guarantees.
1240.42 Operational risk capital requirement for multifamily
securities.
1240.43 Going-concern buffer requirement for multifamily whole loans
and guarantees.
1240.44 Going-concern buffer requirement for multifamily securities.
1240.45 Aggregate risk-based capital requirement for multifamily
whole loans, guarantees, and related securities.
1240.46 Non-Enterprise and non-Ginnie Mae commercial mortgage backed
securities risk-based capital requirement.
1240.47 Other assets and exposures risk-based capital requirement.
1240.48 Unassigned Activities.
1240.49 Aggregate risk-based capital requirement calculation.
1240.50 Minimum leverage capital requirement: 2.5 percent
alternative.
1240.51 Minimum leverage capital requirement: Bifurcated
alternative.
Authority: 12 U.S.C. 4511, 4513, 4514, 4526, 4612.
Sec. 1240.1 Definitions and abbreviations.
(a) The definitions in this section are used to define terms for
purposes of this part.
Amortization term refers to the time period over which the loan is
contractually scheduled to amortize at origination.
Basis points (bps) means more than one basis point where a basis
point equals one hundredth of one percent.
Charter Act(s) means the Federal National Mortgage Association
Charter Act, 12 U.S.C. 1716, et seq., and/or the Federal Home Loan
Mortgage Corporation Act, 12 U.S.C. 1451 note, et seq.
Charter-level coverage means mortgage insurance coverage levels
that meet the minimum requirements of the Enterprises' Charter Acts for
loans with a loan-to-value ratio (LTV) greater than 80%.
CMBS means commercial mortgage backed securities.
CMOs means collateralized mortgage obligations held in portfolio
that are collateralized by an Enterprise or Ginnie Mae MBS.
Core capital has the meaning provided at 12 U.S.C. 4502(7).
(i) Core capital is the sum of (as determined in accordance with
generally accepted accounting principles (GAAP))
(A) The par or stated value of outstanding common stock;
(B) The par or stated value of outstanding perpetual, noncumulative
preferred stock;
(C) Paid-in capital; and
(D) Retained earnings.
(ii) Core capital does not include any amounts the Enterprise could
be required to pay, at the option of investors, to retire capital
instruments.
Counterparty risk haircut (CPHaircut) means a reduction in the
contractual payments from a counterparty due to the risk that the
counterparty is unable to meet its obligations.
Coverage Percent or Coverage Percentage means the percentage
provided as the benefit under a mortgage insurance policy of the sum of
UPB, lost interest and foreclosure costs.
Credit risk means the risk of financial loss to an Enterprise from
nonperformance by borrowers or other obligors on instruments in which
an Enterprise has a financial interest.
Credit risk transfer (CRT) means the transfer of credit risk from
an Enterprise to an unaffiliated third party or parties through capital
markets and loss sharing transactions.
Days means calendar days.
Deferred tax assets (DTA) mean assets on the balance sheet that may
be used to reduce taxable income.
Deferred tax liabilities (DTL) mean tax liabilities deferred to a
future period.
Delinquent means one or more missed scheduled payments.
Enterprise guarantee means a credit guarantee from an Enterprise.
Ginnie Mae means the Government National Mortgage Association.
Government guarantee means a credit guarantee from the Federal
Housing Administration (FHA), United States Department of Agriculture
(USDA), or the Veterans Administration (VA).
Guide-level coverage means mortgage insurance coverage levels,
specified by an Enterprise's Seller Guide, that provide higher levels
of coverage than required by an Enterprise's Charter Act for loans with
LTVs greater than 80%. Guide-level coverage is also referred to as
standard coverage.
Loan-level credit enhancement means a credit guarantee on an
individual single-family whole loan. An Enterprise primarily uses a
loan-level credit enhancement to meet the requirements of its Charter
Act for a conventional loan with LTV greater than 80%. A conventional
loan, also known as a conventional mortgage, has the meaning provided
in the Enterprises' Charter Acts at 12 U.S.C. 1717(b)(2) (Fannie Mae)
and 12 U.S.C. 1451(i) (Freddie Mac).
Market risk means the risk that the market value, or estimated fair
value if market value is not available, of an Enterprise's portfolio
will decline as a result of changes in interest rates, spreads, foreign
exchange rates, or equity or commodity prices.
MBS means a mortgage backed security issued by an Enterprise or
Ginnie Mae.
Mortgage insurance (MI) means a loan-level credit enhancement
provided by an insurance company.
Multifamily property means a property with five or more residential
units.
Multifamily whole loan means a whole loan secured by a mortgage on
a multifamily property.
Non-trust assets mean the total assets of an Enterprise as
determined in accordance with GAAP plus off-balance sheet guarantees
related to securitization activities minus Trust assets.
Off-balance sheet guarantees means guarantees of mortgage loan
securitizations and resecuritizations
[[Page 33392]]
transactions, and other guaranty commitments over which an Enterprises
does not have control.
Operational risk means the risk of loss resulting from inadequate
or failed internal processes, people, or systems, or from external
events.
Original means at the origination of the loan.
Participation certificate means an MBS issued by Freddie Mac.
Private-label security (PLS) means a single-family residential
mortgage-backed security issued by an entity other than Fannie Mae,
Freddie Mac, or Ginnie Mae.
PLS wrap means a PLS resecuritized with an Enterprise guarantee.
Refi Plus means Fannie Mae's streamlined refinance program or other
similar refinance programs that the Director determines should receive
the same capital treatment.
Relief Refi means Freddie Mac's streamlined refinance program, or
other similar refinance programs that the Director determines should
receive the same capital treatment.
Reporting date means the date of the portfolio used for risk-based
capital and minimum capital calculations.
Single-family property means a property with one-to-four-family
residential units.
Single-family whole loan means a whole loan secured by a mortgage
on a single-family property.
Spread duration means a measure of the sensitivity of an asset's
expected price to changes in the asset's spread.
Spread risk means the risk of a loss in value of an asset relative
to a risk free or funding benchmark due to changes in perceptions of
performance or liquidity.
Supplemental loan means a multifamily loan made to a borrower for a
property for which the borrower has previously received a loan. There
can be more than one supplemental loan.
Total assets mean the total assets of an Enterprise as determined
in accordance with GAAP.
Total capital has the meaning provided at 12 U.S.C. 4502(23). It is
the sum of the following:
(i) The core capital of an Enterprise.
(ii) A general allowance for foreclosure losses, which:
(A) Shall include an allowance for portfolio mortgage losses,
nonreimbursable foreclosure costs on government claims, and an
allowance for liabilities reflected on the balance sheet for the
Enterprise for estimated foreclosure losses on mortgage backed
securities; and
(B) Shall not include any reserves of the Enterprise made or held
against specific assets.
(iii) Any other amounts from sources of funds available to absorb
losses incurred by the Enterprise, that the Director by regulation
determines are appropriate to include in determining total capital.
Tranche means all securitization exposures associated with a CRT
that have the same seniority.
Trust assets means Fannie Mae mortgage-backed securities or Freddie
Mac participation certificates held by third parties, and off-balance
sheet guarantees related to securitization activities.
Whole loan means a single loan that a lender has issued to a
borrower or borrowers.
(b) The abbreviations in this paragraph are used as short forms for
terms used in calculations in this part.
ATCH......................... Attachment point for a tranche.
BaseCapitalbps............... Base credit risk capital requirement in
basis points.
CapRelief$................... Capital relief in dollars for an entire
CRT.
CEMultiplier................. Credit enhancement multiplier.
CM%.......................... Capital markets risk relief percentage
for single-family CRTs.
CMTCRCbps.................... Tranche credit risk capital associated
with the single-family CRT capital
markets transaction, in basis points.
CntptyCollat$................ Counterparty collateral in dollars.
CntptyCreditRiskbps.......... Counterparty credit risk capital in basis
points.
CntptyCreditRisk$............ Counterparty credit risk capital in
dollars.
CntptyExposurebps............ Counterparty exposure in basis points.
CntptyExposure$.............. Counterparty exposure in dollars.
CntptyShare%................. Counterparty quota share in percent.
CombRiskMult................. Combined risk multiplier.
CreditAndMarketRiskCapReq$... Credit and market risk capital
requirement in dollars for a CMBS.
CreditAndMarketRiskCapReq$\CM Credit and market risk capital
BS. requirement in dollars in aggregate for
all CMBSs.
CreditRiskCapReq$............ Credit risk capital requirement in
dollars.
CreditRiskCapReqbps.......... Credit risk capital requirement in basis
points.
CRTLT%....................... CRT loss timing factor in percent.
DTCH......................... Detachment point for a tranche.
GCBufferReq$................. Going-concern buffer requirement in
dollars.
GCBufferReq$\CMBS............ Going-concern buffer requirement in
dollars in aggregate for all CMBS.
GCBufferReq$\MD.............. Going-concern buffer requirement in
dollars for all municipal debt.
GCBufferReq$\MFMBS........... Going-concern buffer requirement in
dollars for all multifamily MBS.
GCBufferReq$\MFWL............ Going-concern buffer requirement in
dollars for all multifamily family whole
loans and guarantees.
GCBufferReq$\SFREV........... Going-concern buffer requirement in
dollars for all reverse mortgage loans
and securities.
GCBufferReq$\SFWL............ Going-concern buffer requirement in
aggregate for all single-family whole
loans and guarantees.
GrossCreditRiskCapReqbps..... Gross credit risk capital requirement in
basis points.
KG........................... The weighted-average total capital
requirement of the underlying exposures
in a PLS.
LenderCapital$............... The portion of capital associated with
the lender's exposure.
LS%.......................... Contractual loss sharing risk relief
percentage for single-family CRTs.
LSTCRCbps.................... Tranche credit risk capital associated
with the single-family CRT loss sharing
transaction, in basis points.
MarketRiskCapReqbps.......... Market risk capital requirement in basis
points.
MarketRiskCapReq$............ Market risk capital requirement in
dollars.
MarketRiskCapReq$\MD......... Market risk capital requirement in
dollars for all municipal debt.
MarketRiskCapReq$\MFMBS...... Market risk capital requirement in
dollars for all multifamily MBS.
MarketRiskCapReq$\MFWL....... Market risk capital requirement in
dollars for all multifamily whole loans
and guarantees.
MarketRiskCapReq$\SFREV...... Market risk capital requirement in
dollars for all reverse mortgage loans
and securities.
[[Page 33393]]
MarketRiskCapReq$\SFWL....... Market risk capital requirement in
dollars for all single-family whole
loans and guarantees.
MF_LS%....................... Lender loss sharing risk relief
percentage for multifamily CRTs.
MF_MTLS%..................... Multiple tranche loss sharing risk relief
percentage for multifamily CRTs.
MF_S%........................ Capital market risk relief percentage for
multifamily CRTs.
MTLSTCRCbps.................. Capital relief from multiple tranche loss
sharing.
NetCreditRiskCapReqbps....... Net credit risk capital requirement in
basis points.
NetCreditRiskCapReq$......... Net credit risk capital requirement in
dollars.
NetCreditRiskCapReq$\MFWL.... Net credit risk capital requirement in
dollars for all multifamily whole loans
and guarantees.
NetCreditRiskCapReq$\SFWL.... Net credit risk capital requirement in
dollars for all single-family whole
loans and guarantees.
OperationalRiskCapReqbps..... Operational risk capital requirement in
basis points.
OperationalRiskCapReq$....... Operational risk capital requirement in
dollars.
OperationalRiskCapReq$\MD.... Operational risk capital requirement in
dollars for all municipal debt.
OperationalRiskCapReq$\MFMBS. Operational risk capital requirement in
dollars for all multifamily MBS.
OperationalRiskCapReq$\MFWL.. Operational risk capital requirement in
dollars for all multifamily whole loans
and guarantees.
OperationalRiskCapReq$\SFREV. Operational risk capital requirement in
dollars for all reverse mortgage loans
and securities.
OperationalRiskCapReq$\SFWL.. Operational risk capital requirement in
dollars for all single-family whole
loans and guarantees.
PGCRCbps..................... Credit risk capital on a pool group of
whole loans and guarantees underlying a
CRT, in basis points.
PGELbps...................... Lifetime net expected losses on a pool
group of whole loans and guarantees
underlying the CRT, in basis points.
PGCapReliefbps............... Capital relief for a pool group in basis
points.
PGUPB$....................... A pool group's aggregate unpaid principal
balance.
RiskBasedCapReq$\CMBS........ Risk-based capital requirement in dollars
in aggregate for all CMBS.
RiskBasedCapReq$\DTA......... Risk-based capital requirement in dollars
in aggregate for all deferred tax
assets.
RiskBasedCapReq$\MD.......... Risk-based capital requirement in dollars
for all municipal debt.
RiskBasedCapReq$\MFWLGS...... Risk-based capital requirement in dollars
for all multifamily whole loans,
guarantees, and related securities.
RiskBasedCapReq$\PLS......... Risk-based capital requirement in dollars
for all single-family PLS.
RiskBasedCapReq$\SFREV....... Risk-based capital requirement in dollars
for all reverse mortgage loans and
securities.
RiskBasedCapReq$\SFWLGS...... Risk-based capital requirement in dollars
for all single-family whole loans,
guarantees, and related securities.
RiskBasedCapReq$\TOTAL....... Total risk-based capital requirement in
dollars.
RW........................... Risk weight of a PLS.
SpreadDuration............... Spread duration for a given loan or
security.
STCRCbps..................... Capital relief from securitization.
TCRCbps...................... Tranche credit risk capital.
TotalCapRelief$\MFWL......... Total capital relief across all
multifamily CRTs.
TotalCapRelief$\SFWL......... Total capital relief across all single-
family CRTs.
TotalCombRiskMult............ Total combined risk multiplier.
UncapTotalCombRiskMult....... Uncapped total combined risk multiplier.
UPB$......................... Unpaid principal balance in dollars.
Sec. 1240.2 Board oversight of capital adequacy.
(a) The board of directors of each Enterprise is responsible for
overseeing that the Enterprise maintains capital at a level that is
sufficient to ensure the continued financial viability of the
Enterprise and that equals or exceeds the capital requirements
contained in this part.
(b) Nothing in this part permits or requires an Enterprise to
engage in any activity that would otherwise be inconsistent with its
Charter Act or the Safety and Soundness Act, 12 U.S.C. 4501 et seq.
Sec. 1240.3 Reporting procedure and timing.
(a) Capital report. Each Enterprise shall file a capital report
with the Director every quarter. The capital report must be made using
the format separately provided to the Enterprises by FHFA. The report
shall include, but not be limited to, the following:
(1) The minimum capital requirement as calculated as of the end of
each quarter.
(2) The risk-based capital requirement as calculated as of the end
of each quarter.
(b) Timing. The capital report shall be submitted not later than
sixty days after quarter end or at such other time as the Director
requires.
(c) Approval. The capital report must be approved by the Chief Risk
Officer and the Chief Financial Officer of an Enterprise prior to
submission to FHFA.
(d) Adjustment. In the event an Enterprise makes an adjustment to
its financial statements for a quarter or a date for which information
was provided pursuant to this part, which would cause an adjustment to
a capital report, an Enterprise shall file with the Director an amended
capital report not later than 15 days after the date of such
adjustment.
(e) Additional reports. The Director may request from an Enterprise
additional reports, information, and data, as appropriate, from time to
time.
Sec. 1240.4 Risk-based capital requirement components.
Each Enterprise shall maintain at all times total capital in an
amount at least equal to the sum of the risk-based capital requirements
for:
(a) Single-family whole loans, guarantees, and related securities
as provided in Sec. Sec. 1240.5 through 1240.23;
(b) Private-label securities (PLS) as provided in Sec. Sec.
1240.24 through 1240.29;
(c) Multifamily loans, guarantees, and related securities as
provided in Sec. Sec. 1240.30 through 1240.45;
(d) Non-Enterprise and non-Ginnie Mae Commercial Mortgage Backed
Securities (CMBS) as provided in Sec. 1240.46;
(e) Other assets and exposures as provided in Sec. 1240.47; and
[[Page 33394]]
(f) Unassigned activities as provided in Sec. 1240.48.
Sec. 1240.5 Single-family whole loans, guarantees, and related
securities risk-based capital requirement components.
The risk-based capital requirement for single-family whole loans,
guarantees, and related securities is the cumulative total of the
following capital requirements:
(a) A credit risk capital requirement as provided in Sec. Sec.
1240.6 through 1240.16;
(b) A market risk capital requirement for single-family whole loans
and securities having market exposure as provided in Sec. Sec. 1240.17
through 1240.18;
(c) An operational risk capital requirement as provided in
Sec. Sec. 1240.19 through 1240.20; and
(d) A going-concern buffer requirement as provided in Sec. Sec.
1240.21 through 1240.22.
Sec. 1240.6 Single-family whole loans and guarantees credit risk
capital requirement methodology.
(a) The methodology for calculating the credit risk capital
requirement for single-family whole loans and guarantees uses tables to
determine the base credit risk capital requirement, risk factor
multipliers to adjust the base credit risk capital requirement for risk
factor variations not captured in the base credit risk requirement,
credit enhancement multipliers to reduce the capital requirement due to
the presence of loan-level credit enhancement, and reductions in credit
enhancement benefits due to counterparty risk. The methodology also
provides for a reduction in the credit risk capital requirement for
single-family whole loans and guarantees subject to credit risk
transfer (CRT) transactions.
(b) The steps for calculating the credit risk capital requirement
for single-family whole loans and guarantees are as follows:
(1) Identify the loan data needed for the calculation of the
single-family whole loans and guarantees credit risk capital
requirement.
(2) Assign each loan to a single-family loan segment, as specified
in Sec. 1240.7.
(3) Determine the base credit risk capital requirement using the
assigned single-family loan segment, as specified in Sec. 1240.8.
(4) Determine the loan's total combined risk multiplier using the
assigned single-family loan segment and risk factor multipliers, as
specified in Sec. 1240.9.
(5) Determine the loan's gross credit risk capital requirement
using the total combined risk multiplier and the base capital, as
specified in Sec. 1240.10.
(6) Determine the reduction of capital from the gross credit risk
capital requirement due to the presence of loan-level credit
enhancement benefit, as specified in Sec. 1240.11.
(7) Determine the reduction in loan-level credit enhancement
benefit due to counterparty risk for the credit enhancement
counterparty, as specified in Sec. 1240.12.
(8) Determine the net credit risk capital requirement by reducing
for the loan-level credit enhancement benefit due to counterparty risk
for the credit enhancement counterparty, as specified in Sec. 1240.13.
(9) Determine the aggregate net credit risk capital requirement for
single-family whole loans and guarantees, as specified in Sec.
1240.13.
(10) Determine the capital relief from single-family CRTs, as
specified in Sec. Sec. 1240.14 through 1240.16.
(c) The credit risk capital requirement applies to any Enterprise
conventional single-family whole loan and guarantee with exposure to
credit risk.
(d) Table 1 to part 1240 lists the data needed for the calculation
of the single-family whole loans and guarantees credit risk capital
requirement. Table 1 contains variable names, definitions, acceptable
values, and treatments for missing or unacceptable values.
Table 1 to Part 1240--Single-Family Whole Loans and Guarantees Data Inputs
----------------------------------------------------------------------------------------------------------------
Treatment of missing
Variable Definition/logic Acceptable values or unacceptable values
----------------------------------------------------------------------------------------------------------------
Back-end Debt-to-Income (DTI) Ratio DTI is calculated as the 0% < DTI < 100%....... Set to 42%.
ratio of debt to income.
Debt consists of the
borrowers' monthly
mortgage payments for
principal and interest,
mortgage-related
obligations (property
taxes, Home Owners
Association (HOA) fees,
condominium fees,
cooperative fees, and
insurance), current debt
obligations, alimony, and
child support. Income
consists of the total pre-
tax monthly income of all
borrowers as determined at
the time of origination.
DTI at origination should
be used for Home
Affordable Modification
Program (HAMP) and HAMP-
like modifications.
Loan-level Credit Enhancement Types Types of loan-level credit Participation Not Applicable.
enhancement that provide Agreements,
credit protection to the Repurchase or
Enterprises for replacement
conventional single-family Agreements, Recourse
whole loans. Loan-level and Indemnification
credit enhancements are Agreements, Mortgage
typically used to meet the Insurance, Not
Charter requirements for Applicable.
loans with LTVs greater
than 80%.
Streamlined Refi................... Indicator for a loan that Yes, No............... No.
was refinanced through one
of an Enterprise's
streamlined refinance
programs, including, for
example Home Affordable
Refinance Program (HARP),
Relief Refi and Refi-Plus.
Interest-Only (IO)................. A loan that requires only Yes, No............... Yes.
payment of interest
without any principal
amortization during all or
part of the loan term.
[[Page 33395]]
Loan Age........................... Loan age is calculated as 0 months <= Loan Age If the difference in
the difference in months <= 500 months. months between the
between the origination origination month and
month and the month of the the month of the
reporting date. reporting date is
negative, set Loan
Age to 0. If the
difference is greater
than 500, set Loan
Age to 500.
Loan Documentation Level........... The level of income No Documentation, Low Set to No
documentation used to Documentation, Full Documentation.
underwrite the loan. Documentation.
Loan Purpose....................... Purpose of the mortgage at Purchase, Cashout Set to Cashout
origination. Refinance, Rate/Term Refinance.
Refinance.
Mark-to-Market Loan-to-Value MTMLTV is calculated as.... 0% < MTMLTV <= 300%... Set MTMLTV to 300% if
(MTMLTV) Ratio. UPB/((UPBOriginal/OLTV) x any of the following
house_price_growth_factor). conditions apply:
Special instructions for The
determining calculated MTMLTV is
house_price_growth_factor:. less than or equal to
Use the FHFA 0.
Purchase Only State-Level The
House Price Index (HPI). calculated MTMLTV is
Use the USA HPI greater than 300%.
for Puerto Rico and the
Virgin Islands.
Use the Hawaii
HPI for Guam..
If a loan was
originated before 1991,
use an Enterprise's
proprietary HPI.
If an HPI series
ends before the reporting
date, keep the HPI series
constant (flat line).
Use geometric
interpolation to convert
quarterly HPI data to
monthly HPI data.
house_price_growth_factor
is equal to the ratio of
HPI at the reporting date
(or latest available HPI)
to HPI at the loan's
origination date.
Market Value....................... The value of the loan used ...................... Set to UPB.
to inform an Enterprise's
fair value disclosures.
Months since Last Delinquency...... For re-performing loans, Non-negative integer.. Set to 0.
months since last
delinquency is calculated
as the difference in
months between the ending
date of the last
delinquency period and the
reporting date.
Months since Last Modification..... For modified loans, months Non-negative integer.. Set to 0.
since last modification is
calculated as the
difference in months
between the effective date
of the modification and
the reporting date.
Mortgage Insurance (MI) Mortgage insurance is Cancellable, Non- Set to Cancellable.
Cancellation Feature. cancellable if coverage Cancellable.
can or will terminate
before the maturity date
of the mortgage (e.g., due
to the Homeowners
Protection Act).
Mortgage insurance is non-
cancellable if the
coverage extends to the
maturity of the mortgage.
MI Coverage Percent................ The percentage of the sum 0% <= MI Coverage Set to 0%.
of UPB, lost interest and Percent <= 100%.
foreclosure costs used to
determine the benefit
under a mortgage insurance
policy.
Number of Borrowers................ The number of borrowers on Multiple borrowers, Set to One borrower.
the mortgage note. One borrower.
Number of Missed Payments.......... For delinquent loans, the Non-negative integer.. Set to 7.
number of missed payments,
measured in months, as of
the reporting date.
Occupancy Type..................... The borrowers' intended use Investment, Owner Set to Investment.
of the property. Occupied, Second Home.
Original Credit Score.............. The borrower's credit score 300 <= Original Credit Set to 600.
as of the origination date Score <= 850.
If there are credit scores
from multiple credit
repositories for a
borrower, use the
following logic to
determine a single
Original Credit Score:.
If there are
credit scores from two
repositories, take the
lower credit score
If there are
credit scores from three
repositories, use the
middle credit score
If there are
credit scores from three
repositories and two of the
credit scores are
identical, use the
identical credit score
If there are multiple
borrowers, use the
following logic to
determine a single
Original Credit Score:
Using the logic
above, determine a single
credit score for each
borrower
[[Page 33396]]
Select the
lowest single credit score
across all borrowers
Original Loan-to-Value (OLTV)...... OLTV is calculated as the 0% < OLTV <= 300%..... Set OLTV to 300% if
ratio between the original any of the following
loan amount and the lesser conditions apply:
of appraised value or sale The
price. calculated OLTV is
less than or equal to
0.
The
calculated OLTV is
greater than 300%.
Both the
sales price and
appraised value are
missing.
Origination Channel................ Source of the loan......... Retail, Third-Party Set to TPO.
Origination (TPO)
(includes Broker and
Correspondent).
Payment Change from Modification... The change in the monthly -80% < Payment Change Set to 0% if missing.
payment resulting from a from Modification < If the change in the
permanent loan 50%. monthly payment
modification. resulting from a
Payment Change from permanent loan
Modification is calculated modification is
as:. greater than or equal
100% * (post-modification to 50%, set Payment
monthly payment/pre- Change from
modification monthly Modification to 49%.
payment-1). If the change in the
If the modified loan has an monthly payment
adjustable or step rate resulting from a
feature, the post- permanent loan
modification monthly modification less
payment is calculated than or equal to -
using the initial modified 80%, set Payment
rate. The Payment Change Change from
from Modification is not Modification to -79%.
updated subsequent to any
rate resets.
Previous Maximum Delinquency....... For re-performing loans, Non-negative integer.. Set to 6 months.
the maximum number of
months delinquent at any
point in the prior 36
months.
Product Type....................... The mortgage product type FRM 30, FRM 20, FRM Set to ARM 1/1.
as of the loan's 15, ARM 1/1.
origination date.
Fixed rate loans are
classified according to
their original
amortization terms:
FRM30 = Fixed Rate with
amortization term > 309
months and <= 429 months.
FRM20 = Fixed Rate with
amortization term > 189
months and <= 309 months.
FRM15 = Fixed Rate with
amortization term <= 189
months.
The ARM 1/1 is an
adjustable-rate mortgage
(ARM) where the rate and
the payment adjust
annually.
Product types other than
FRM30, FRM20, FRM15 or ARM
1/1 should be assigned to
FRM30.
Use the post-modification
product type for modified
loans.
Property Type...................... The physical structure of Single-family 1-Unit, Set to Single-family 2-
the property. Single-family 2-4 4 Units.
Units, Condominium,
Manufactured Home.
Refreshed Credit Score............. The borrower's credit score 300 <= Refreshed If a refreshed credit
as of the reporting date. Credit Score <= 850. score is not
If there are credit scores available, use the
from multiple credit most recent score. If
repositories for a no credit score is
borrower, use the available set the
following logic to credit score to 600.
determine a single
Refreshed Credit Score:
If there are
credit scores from two
repositories, take the
lower credit score.
If there are
credit scores from
three repositories, use
the middle credit score.
If there are
credit scores from
three repositories and
two of the credit
scores are identical,
use the identical
credit score.
If there are multiple
borrowers, use the
following logic to
determine a single
Refreshed Credit Score:
Using the logic
above, determine a
single credit score for
each borrower.
Select the
lowest single credit
score across all
borrowers.
[[Page 33397]]
Subordination (Second lien Original The ratio of the original 0% <= Subordination <= Set to 80% if greater
LTV). loan amount of the second 80%. than 80%.
lien to the lesser of
appraised value or sale
price.
Unpaid Principal Balance (UPB)..... The remaining unpaid $0 < UPB < $2,000,000. Set to $45,000.
principal balance on the
loan as of the reporting
date.
----------------------------------------------------------------------------------------------------------------
(e) Table 2 to part 1240 lists the data needed to determine the
CPHaircut used in the calculation of the single-family whole loans and
guarantees credit risk capital requirement. The table contains variable
names, definitions, acceptable values, and treatments for missing or
unacceptable values.
Table 2 to Part 1240--Data Inputs for CPHaircut Calculation
----------------------------------------------------------------------------------------------------------------
Treatment of missing or
Variable Definition/logic Acceptable values unacceptable values
----------------------------------------------------------------------------------------------------------------
Counterparty Name.............. The name of the
counterparty.
Counterparty Rating............ Counterparty rating as 1......................... Set to 8.
defined in Table 3. An 2.........................
Enterprise should 3.........................
assign the 4.........................
counterparty rating 5.........................
that most closely 6.........................
aligns to the 7.........................
assessment of the
counterparty from the
Enterprise's internal
counterparty risk
framework.
8.........................
Mortgage Concentration Risk.... An Enterprise's High, Not High............ Set to High.
assessment of a
counterparty's
exposure to mortgage
credit risk relative
to the counterparty's
exposure to other
lines of business.
This assessment may
include both
quantitative and
qualitative factors.
----------------------------------------------------------------------------------------------------------------
(f) An Enterprise must have internally generated ratings for
counterparties. The internally generated ratings must be converted into
the counterparty ratings provided in Table 3 to part 1240. Table 3
provides the counterparty financial strength ratings and descriptions
used in this part to determine CPHaircuts.
Table 3 to Part 1240--Counterparty Financial Strength Ratings
------------------------------------------------------------------------
Counterparty rating Description
------------------------------------------------------------------------
1.................................... The counterparty is exceptionally
strong financially. The
counterparty is expected to meet
its obligations under
foreseeable adverse events.
2.................................... The counterparty is very strong
financially. There is negligible
risk the counterparty may not be
able to meet all of its
obligations under foreseeable
adverse events.
3.................................... The counterparty is strong
financially. There is a slight
risk the counterparty may not be
able to meet all of its
obligations under foreseeable
adverse events.
4.................................... The counterparty is financially
adequate Foreseeable adverse
events will have a greater
impact on `4' rated
counterparties than higher rated
counterparties.
5.................................... The counterparty is financially
questionable. The counterparty
may not meet its obligations
under foreseeable adverse
events.
6.................................... The counterparty is financially
weak. The counterparty is not
expected to meet its obligations
under foreseeable adverse
events.
7.................................... The counterparty is financially
extremely weak. The
counterparty's ability to meet
its obligations is questionable.
8.................................... The counterparty is in default on
an obligation or is under
regulatory supervision.
------------------------------------------------------------------------
(g) Table 4 to part 1240 provides the data inputs supplied by FHFA
needed for the calculation of the single-family whole loans and
guarantees credit risk capital requirement.
Table 4 to Part 1240--Data Inputs Provided by FHFA
------------------------------------------------------------------------
Item Description
------------------------------------------------------------------------
Cohort Burnout............................. A table containing
historical origination
dates and the number of
opportunities, measured in
months, a loan originated
on a given origination
date has had to refinance
to a lower interest rate.
For a given origination
month/year cohort, an
opportunity to refinance
occurs when the Primary
Mortgage Market Survey
(PMMS) rate for the cohort
exceeds the prevailing
PMMS rate by more than 50
basis points.
[[Page 33398]]
Cohort Burnout is
designated as ``No
Burnout'' if the cohort
has not experienced a
refinance opportunity.
Cohort Burnout is ``Low''
if the cumulative
occurrence of refinance
opportunities is between 1
month and 12 months.
Cohort Burnout is
``Medium'' if the
cumulative occurrence of
refinance opportunities is
between 13 months and 24
months. Cohort Burnout is
``High'' if the cumulative
occurrence of refinance
opportunities exceeds 24
months.
House Price Index (HPI).................... FHFA's seasonally adjusted
purchase-only HPI by
state.
------------------------------------------------------------------------
Sec. 1240.7 Loan segments for single-family whole loans and
guarantees credit risk capital requirement.
(a) An Enterprise must assign each single-family whole loan and
guarantee with exposure to credit risk to a single-family loan segment.
The single-family loan segments are: New Origination Loan; Performing
Seasoned Loan; Non-Modified Re-Performing Loan (RPL); Modified RPL;
Non-Performing Loan (NPL).
(b) The definitions for the single-family loan segments are
provided in Table 5 to part 1240.
Table 5 to Part 1240--Definitions for Single-Family Loan Segments
------------------------------------------------------------------------
Segment Definition
------------------------------------------------------------------------
New Origination Loan....................... Loan age less than
or equal to 5 months, and
Never delinquent.
Excludes:
Streamlined Refi
loans.
Performing Seasoned Loan................... Loan age greater
than 5 months, and
Never delinquent.
Also includes:
Newly funded
Streamlined Refi loans.
Loans that were
delinquent, were not
modified or put on a
repayment plan, and have
made 48 consecutive
payments as of the
reporting date.
Loans that were
delinquent, were not
modified or put on a
repayment plan, and have
made 36 consecutive
payments as of the
reporting date and had no
more than one missed
payment in the 12 months
preceding the 36 months.
Non-Modified RPL........................... Performing,
Had a prior
delinquency, and
Never modified or
entered a repayment plan.
Excludes:
Loans that have
made 48 consecutive
payments as of the
reporting date.
Loans that have
made 36 consecutive
payments as of the
reporting date and had no
more than one missed
payment in the 12 months
preceding the 36 months.
Modified RPL............................... Performing and
Modified or
entered into a repayment
plan.
NPL........................................ Delinquent.
------------------------------------------------------------------------
(c) The process for assigning a loan to the appropriate single-
family loan segment is presented in the decision tree shown in Figure 1
to part 1240.
[[Page 33399]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.015
Sec. 1240.8 Base credit risk capital requirement for single-family
whole loans and guarantees.
An Enterprise must determine the base credit risk capital
requirement in basis points (BaseCapitalbps) for a loan by using the
Table that corresponds to a particular loan segment.
(a) Single-family New Origination Loan BaseCapitalbps is shown in
Table 6 to part 1240. For each loan classified as a New Origination
Loan, BaseCapitalbps is the value in the cell in Table 6 determined
using the original credit score and OLTV of the loan.
BILLING CODE 8070-01-P
[[Page 33400]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.016
(b) Single-family Performing Seasoned Loan BaseCapitalbps is shown
in Table 7 to part 1240. For each loan classified as a Performing
Seasoned Loan, BaseCapitalbps is the value in the cell in Table 7
determined using the refreshed credit score and MTMLTV of the loan.
[[Page 33401]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.017
(c) Single-family Non-Modified RPL BaseCapitalbps is shown in Table
8 to part 1240. For each loan classified as a Non-Modified RPL,
BaseCapitalbps is the value in the cell in Table 8 determined using the
Months Since Last Delinquency and the MTMLTV of the loan.
[[Page 33402]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.018
(d) Single-family Modified RPL BaseCapitalbps is shown in Table 9
to part 1240. For each loan classified as a Modified RPL,
BaseCapitalbps is the value in the cell in Table 9 determined using the
minimum of the Months Since Last Modification and Months Since Last
Delinquency and the MTMLTV of the loan.
[[Page 33403]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.019
(e) Single-family NPL BaseCapitalbps is shown in Table 10 to part
1240. For each loan classified as an NPL, BaseCapitalbps is the value
in the cell in Table 10 determined using the Number of Missed Payments
and the MTMLTV of the loan.
[[Page 33404]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.020
BILLING CODE 8070-01-C
Sec. 1240.9 Risk multipliers for single-family whole loans and
guarantees.
(a) Risk multiplier values increase or decrease the credit risk
capital requirement for single-family whole loans and guarantees based
on a loan's assigned loan segment and risk characteristics. The Single-
family Risk Multipliers are presented in Table 11 to part 1240.
(b) The steps for calculating the total combined risk multiplier
(TotalCombRiskMult) are as follows:
(1) Determine the appropriate risk multipliers values from Table 11
based on the loan's characteristics and assigned loan segment.
(2) Apply the appropriate formula as set forth in paragraph (c) of
this section to calculate the uncapped total combined risk multiplier
(UncapTotalCombRiskMult).
(3) For high LTV loans, the combined risk multiplier is subject to
a cap. For those loans, apply the calculation set forth in paragraph
(d) of this section, to determine TotalCombRiskMult.
(4) For loans not subject to the cap, TotalCombRiskMult will equal
UncapTotalCombRiskMult.
[[Page 33405]]
Table 11 to Part 1240--Single-Family Risk Multipliers
--------------------------------------------------------------------------------------------------------------------------------------------------------
Risk multipliers by single-family loan segment
-------------------------------------------------------------------------------
Risk factor Value or range New
origination Performing Non-modified Modified RPL NPL
loan seasoned loan RPL
--------------------------------------------------------------------------------------------------------------------------------------------------------
Loan Purpose.............................. Purchase.................... 1.0 1.0 1.0 1.0 ..............
Cashout Refinance........... 1.4 1.4 1.4 1.4 ..............
Rate/Term Refinance......... 1.3 1.3 1.2 1.3 ..............
Other....................... 1.0 1.0 1.0 1.0 ..............
Occupancy Type............................ Owner Occupied or Second 1.0 1.0 1.0 1.0 1.0
Home.
Investment.................. 1.2 1.2 1.5 1.3 1.2
Property Type............................. 1-Unit...................... 1.0 1.0 1.0 1.0 1.0
2-4 Unit.................... 1.4 1.4 1.4 1.3 1.1
Condominium................. 1.1 1.1 1.0 1.0 1.0
Manufactured Home........... 1.3 1.3 1.8 1.6 1.2
Number of Borrowers....................... Multiple borrowers.......... 1.0 1.0 1.0 1.0 1.0
One borrower................ 1.5 1.5 1.4 1.4 1.1
Third-Party Origination Channel........... Non-TPO..................... 1.0 1.0 1.0 1.0 1.0
TPO......................... 1.1 1.1 1.1 1.1 1.0
DTI....................................... DTI <= 25%.................. 0.8 0.8 0.9 0.9 ..............
25% < DTI <= 40%............ 1.0 1.0 1.0 1.0 ..............
DTI > 40%................... 1.2 1.2 1.2 1.1 ..............
Product Type.............................. FRM 30 year................. 1.0 1.0 1.0 1.0 1.0
ARM 1/1..................... 1.7 1.7 1.1 1.0 1.1
FRM 15 year................. 0.3 0.3 0.3 0.5 0.5
FRM 20 year................. 0.6 0.6 0.6 0.5 0.8
Loan Size................................. UPB <= $50,000.............. 2.0 2.0 1.5 1.5 1.9
$50,000 < UPB <= $100,000... 1.4 1.4 1.5 1.5 1.4
UPB > $100,000.............. 1.0 1.0 1.0 1.0 1.0
Subordination (OTLV x Second Lien)........ No subordination............ 1.0 1.0 1.0 1.0 ..............
30% < OLTV <= 60% and 0% < 1.1 1.1 0.8 1.0 ..............
subordination <= 5%.
30% < OLTV <= 60% and 1.5 1.5 1.1 1.2 ..............
subordination > 5%.
OLTV > 60% and 0% < 1.1 1.1 1.2 1.1 ..............
subordination <= 5%.
OLTV > 60% and subordination 1.4 1.4 1.5 1.3 ..............
> 5%.
Loan Age.................................. Loan Age <= 24 months....... .............. 1.0 .............. .............. ..............
24 months < Loan Age <= 36 .............. 0.95 .............. .............. ..............
months.
36 months < Loan Age <= 60 .............. 0.80 .............. .............. ..............
months.
Loan Age > 60 months........ .............. 0.75 .............. .............. ..............
Cohort Burnout............................ No Burnout.................. .............. 1.0 .............. .............. ..............
Low......................... .............. 1.2 .............. .............. ..............
Medium...................... .............. 1.3 .............. .............. ..............
High........................ .............. 1.4 .............. .............. ..............
Interest-Only (IO)........................ No IO....................... .............. 1.0 1.0 1.0 ..............
Yes IO...................... .............. 1.6 1.4 1.1 ..............
Loan Documentation Level.................. Full Documentation.......... .............. 1.0 1.0 1.0 ..............
No Documentation or Low 1.3 1.3 1.2 ..............
Documentation.
Streamlined Refi.......................... No.......................... .............. 1.0 1.0 1.0 ..............
Yes......................... .............. 1.0 1.2 1.1 ..............
Refreshed Credit Score for RPLs........... Refreshed Credit Score < 620 .............. .............. 1.6 1.4 ..............
620 <= Refreshed Credit .............. .............. 1.3 1.2 ..............
Score < 640.
640 <= Refreshed Credit .............. .............. 1.2 1.1 ..............
Score < 660.
660 <= Refreshed Credit .............. .............. 1.0 1.0 ..............
Score < 700.
700 <= Refreshed Credit .............. .............. 0.7 0.8 ..............
Score < 720.
720 <= Refreshed Credit .............. .............. 0.6 0.7 ..............
Score < 740.
740 <= Refreshed Credit .............. .............. 0.5 0.6 ..............
Score < 760.
760 <= Refreshed Credit .............. .............. 0.4 0.5 ..............
Score < 780.
[[Page 33406]]
Refreshed Credit Score >= .............. .............. 0.3 0.4 ..............
780.
Payment change from modification.......... Payment Change >= 0%........ .............. .............. .............. 1.1 ..............
-20% <= Payment Change < 0%. .............. .............. .............. 1.0 ..............
-30% <= Payment Change < - .............. .............. .............. 0.9 ..............
20%.
Payment Change < -30%....... .............. .............. .............. 0.8 ..............
Previous Maximum Delinquency (in the last 0-1 Months.................. .............. .............. 1.0 1.0 ..............
36 months). 2-3 Months.................. .............. .............. 1.2 1.1 ..............
4-5 Months.................. .............. .............. 1.3 1.1 ..............
6+ Months................... .............. .............. 1.5 1.1 ..............
Refreshed Credit Score for NPLs........... Refreshed Credit Score < 580 .............. .............. .............. .............. 1.2
580 <= Refreshed Credit .............. .............. .............. .............. 1.1
Score < 640.
640 <= Refreshed Credit .............. .............. .............. .............. 1.0
Score < 700.
700 <= Refreshed Credit .............. .............. .............. .............. 0.9
Score < 720.
720 <= Refreshed Credit .............. .............. .............. .............. 0.8
Score < 760.
760 <= Refreshed Credit .............. .............. .............. .............. 0.7
Score < 780.
Refreshed Credit Score >= .............. .............. .............. .............. 0.5
780.
--------------------------------------------------------------------------------------------------------------------------------------------------------
(c) The following loan characteristics risk multiplier calculations
are to be used for each respective loan segment to determine the
UncapTotalCombRiskMult:
(1) For each loan classified as a Single-family New Origination
Loan determine the risk multiplier values associated with the relevant
risk factors from Table 11 and apply the following formula to calculate
UncapTotalCombRiskMult:
UncapTotalCombRiskMult = Loan Purpose Multiplier x Occupancy Type
Multiplier x Property Type Multiplier x Number of Borrowers Multiplier
x Third-Party Origination Channel Multiplier x Back-End Debt-to-Income
Multiplier x Product Type Multiplier x Loan Size Multiplier x
Subordination Multiplier.
(2) For each loan classified as a Seasoned Performing Loan
determine the risk multiplier values associated with the relevant risk
factors from Table 11 and apply the following formula to calculate
UncapTotalCombRiskMult:
UncapTotalCombRiskMult = Loan Purpose Multiplier x Occupancy Type
Multiplier x Property Type Multiplier x Number of Borrowers Multiplier
x Third-Party Origination Channel Multiplier x Back-End Debt-to-Income
Multiplier x Product Type Multiplier x Loan Size Multiplier x
Subordination Multiplier x Loan Age Multiplier x Cohort Burnout
Multiplier x Interest-Only Multiplier x Loan Documentation Level
Multiplier x Streamlined Refi Multiplier.
(3) For each loan classified as a Non-Modified RPL determine the
risk multiplier values associated with the relevant risk factors from
Table 11 and apply the following formula to calculate
UncapTotalCombRiskMult:
UncapTotalCombRiskMult = Loan Purpose Multiplier x Occupancy Type
Multiplier x Property Type Multiplier x Number of Borrowers Multiplier
x Third-Party Origination Channel Multiplier x Back-End Debt-to-Income
Multiplier x Product Type Multiplier x Loan Size Multiplier x
Subordination Multiplier x Loan Age Multiplier x Interest-Only
Multiplier x Loan Documentation Level Multiplier x Streamlined Refi
Multiplier x Refreshed Credit Score for RPLs Multiplier x Previous
Maximum Delinquency Multiplier.
(4) For each loan classified as a Modified RPL determine the risk
multiplier values associated with the relevant risk factors from Table
11 and apply the following formula to calculate UncapTotalCombRiskMult:
UncapTotalCombRiskMult = Loan Purpose Multiplier x Occupancy Type
Multiplier x Property Type Multiplier x Number of Borrowers Multiplier
x Third-Party Origination Channel Multiplier x Back-End Debt-to-Income
Multiplier x Product Type Multiplier x Loan Size Multiplier x
Subordination Multiplier x Loan Age Multiplier x Interest-Only
Multiplier x Loan Documentation Level Multiplier x Streamlined Refi
Multiplier x Refreshed Credit Score for RPLs Multiplier x Payment
change from modification Multiplier x Previous Maximum Delinquency
Multiplier.
(5) For each loan classified as an NPL determine the risk
multiplier values associated with the relevant risk factors from Table
11 and apply the following formula to calculate UncapTotalCombRiskMult:
UncapTotalCombRiskMult = Occupancy Type Multiplier x Property Type
Multiplier x Number of Borrowers Multiplier x Product Type Multiplier x
Loan Size Multiplier x Prior Maximum Delinquency Multiplier x Refreshed
Credit Score for NPLs Multiplier.
[[Page 33407]]
(d) TotalCombRiskMult is calculated as described below:
(1) For high LTV loans, the combined risk multiplier is subject to
a cap. If the OLTV for a loan classified as a New Origination Loan or
the MTMLTV for a loan classified in any other loan segment is greater
than 95%, TotalCombRiskMult is capped at 3.0 according to the following
formula:
TotalCombRiskMult = MIN(UncapTotalCombRiskMult, 3.0)
(2) If the OLTV for a loan classified as a New Origination Loan or
the MTMLTV for a loan classified in any other loan segment is less than
or equal to 95%, then TotalCombRiskMult equals UncapTotalCombRiskMult.
Sec. 1240.10 Gross credit risk capital requirement for single-family
whole loans and guarantees.
An Enterprise must determine the gross credit risk capital
requirement in basis points (GrossCreditRiskCapReqbps) for a loan by
taking the product of BaseCapitalbps and TotalCombRiskMult, where the
product is subject to a limit of 3,000 basis points according to the
following formula:
GrossCreditRiskCapReqbps = MIN(BaseCapitalbps x TotalCombRiskMult,
3,000)
Sec. 1240.11 Loan-level credit enhancement impact on gross credit
risk capital requirement.
(a) Loan-level credit enhancement comprises participation
agreements, repurchase or replacement agreements, recourse and
indemnification agreements and mortgage insurance.
(b) Loan-level credit enhancement reduces an Enterprise's gross
credit risk capital requirement. Only loans covered by a loan-level
credit enhancement as of the reporting date receives a loan-level
credit enhancement benefit.
(c) An Enterprise must determine the credit enhancement multiplier
(CEMultiplier) using Tables 12, 13, 14, 15, and 16, and the special
provisions in paragraphs (d) through (i) of this section.
(1) Table 12 to part 1240 shows CEMultipliers for New Origination
Loan, Performing Seasoned Loan, and Non-Modified RPL loan segments
where MI Cancellation Feature is set to Non-Cancellable.
Table 12 to Part 1240--CEMultipliers for New Origination Loan,
Performing Seasoned Loan, and Non-Modified RPL Loan Segments When MI
Cancellation Feature Is Set to Non-Cancellable
------------------------------------------------------------------------
Amortization term/coverage type Coverage category CEMultiplier
------------------------------------------------------------------------
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.846
Guide-level Coverage. MI Coverage Percent = 0.701
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.408
MI Coverage Percent =
25%.
95% < OLTV <= 97% and 0.226
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.184
Coverage Percent = 35%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.706
Guide-level Coverage. MI Coverage Percent = 0.407
12%.
85% < OLTV <= 90% and
MI Coverage Percent =
25%.
90% < OLTV <= 95% and 0.312
MI Coverage Percent =
30%.
95% < OLTV <= 97% and 0.230
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.188
Coverage Percent = 35%.
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.846
Charter-level Coverage. MI Coverage Percent = 0.701
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.612
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.570
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.535
Coverage Percent = 20%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.850
Charter-level Coverage. MI Coverage Percent = 0.713
6%.
85% < OLTV <= 90% and
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.627
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.590
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.558
Coverage Percent = 20%.
------------------------------------------------------------------------
(2) Table 13 to part 1240 shows CEMultipliers for New Origination
Loan, Performing Seasoned Loan, and Non-Modified RPL loan segments
where MI Cancellation Feature is set to Cancellable.
BILLING CODE 8070-01-P
[[Page 33408]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.021
(3) Table 14 to part 1240 shows CEMultipliers for the Modified RPL
loan segment with 30-Year Post-Modification Amortization when MI
Cancellation Feature is set to Cancellable. The 30 Year and 15/20 Year
Amortizing Loan characteristics refer to pre-modification original
amortization terms.
[[Page 33409]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.023
(4) Table 15 to part 1240 shows CEMultipliers for Modified RPL with
40-Year Post-Modification Amortization when MI Cancellation Feature is
set to Cancellable. The 30 Year and 15/20 Year Amortizing Loan
characteristics refer to pre-modification original amortization terms.
[[Page 33410]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.024
BILLING CODE 8070-01-C
(5) Table 16 to part 1240 shows CEMultipliers for NPLs.
[[Page 33411]]
Table 16 to Part 1240--CEMultipliers for NPLs
------------------------------------------------------------------------
Original amortization term/
coverage type Coverage category CEMultiplier
------------------------------------------------------------------------
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.893
Guide-level Coverage. MI Coverage Percent =
6%.
85% < OLTV <= 90% and 0.803
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.597
MI Coverage Percent =
25%.
95% < OLTV <= 97% and 0.478
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.461
Coverage Percent = 35%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.813
Guide-level Coverage. MI Coverage Percent =
12%.
85% < OLTV <= 90% and 0.618
MI Coverage Percent =
25%.
90% < OLTV <= 95% and 0.530
MI Coverage Percent =
30%.
95% < OLTV <= 97% and 0.490
MI Coverage Percent =
35%.
OLTV > 97% and MI 0.505
Coverage Percent = 35%.
15/20 Year Amortizing Loan with 80% < OLTV <= 85% and 0.893
Charter-level Coverage. MI Coverage Percent =
6%.
85% < OLTV <= 90% and 0.803
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.775
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.678
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.663
Coverage Percent = 20%.
30 Year Amortizing Loan with 80% < OLTV <= 85% and 0.902
Charter-level Coverage. MI Coverage Percent =
6%.
85% < OLTV <= 90% and 0.835
MI Coverage Percent =
12%.
90% < OLTV <= 95% and 0.787
MI Coverage Percent =
16%.
95% < OLTV <= 97% and 0.765
MI Coverage Percent =
18%.
OLTV > 97% and MI 0.760
Coverage Percent = 20%.
------------------------------------------------------------------------
(d) CEMultipliers calculated from Tables 12, 13, 14, 15 and 16 to
part 1240 may be subject to special provisions depending on the
characteristics of the single-family whole loan and guarantee.
(1) If a loan is covered by MI and its OLTV is less than or equal
to 80 percent, use the CEMultiplier associated with the appropriate 80
to 85 percent OLTV cell.
(2) If a loan has an interest-only feature and its MI Cancellation
Feature is set to Cancellable, treat the MI as non-cancellable when
selecting the appropriate CEMultiplier.
(3) If a loan has an MI Coverage Percent between the MI Coverage
Percentages for Charter-level Coverage and Guide-level Coverage, use
linear interpolation to determine the CEMultiplier.
(4) If a loan has an MI Coverage Percent that is less than the MI
Coverage Percent for Charter-Level Coverage, use linear interpolation
between a hypothetical policy with zero coverage and a CEMultiplier of
one, and the Charter-level Coverage to determine the CEMultiplier.
(5) If a loan has an MI Coverage Percent that is greater than the
Guide-level Coverage, set the CEMultiplier equal to the CEMultiplier
for the Guide-level Coverage.
(e) CEMultiplier for full repurchase or replacement agreements is
set to 0.0.
(f) CEMultiplier for full recourse and indemnification agreements
is set to 0.0.
(g) CEMultiplier for partial repurchase or replacement agreements
shall be calculated using the methodology for calculating capital
relief as provided in Sec. 1240.14.
(h) CEMultiplier for partial recourse and indemnification
agreements shall be calculated using the methodology for calculating
capital relief as provided in Sec. 1240.14.
(i) CEMultiplier for participation agreements is set to 1.0.
Sec. 1240.12 Counterparty Haircut for single-family whole loans and
guarantees.
(a) The amount by which credit enhancement lowers the
GrossCreditRiskCapReqbps for single-family whole loans and guarantees
must be reduced to account for the risk that the counterparty is unable
to pay claims.
(b) An Enterprise shall determine the CPHaircut using Table 17 to
part 1240.
Table 17 to Part 1240--CPHaircut by Rating, Mortgage Concentration Risk, Segment, and Product
--------------------------------------------------------------------------------------------------------------------------------------------------------
Mortgage concentration risk: Not high Mortgage concentration risk: High
-----------------------------------------------------------------------------------------------
New originations, performing New originations, performing
Counterparty rating seasoned, and RPLs (%) seasoned, and RPLs (%)
-------------------------------- NPLs (%) -------------------------------- NPLs (%)
30 Year 20/15 Year 30 Year 20/15 Year
product product product product
--------------------------------------------------------------------------------------------------------------------------------------------------------
1....................................................... 1.8 1.3 0.6 2.8 2.0 0.9
2....................................................... 4.5 3.5 2.0 7.3 5.6 3.2
3....................................................... 5.2 4.0 2.4 8.3 6.4 3.9
4....................................................... 11.4 9.5 6.9 17.2 14.3 10.4
5....................................................... 14.8 12.7 9.9 20.9 18.0 14.0
6....................................................... 21.2 19.1 16.4 26.8 24.2 20.8
7....................................................... 40.0 38.2 35.7 43.7 41.7 39.0
8....................................................... 47.6 46.6 45.3 47.6 46.6 45.3
--------------------------------------------------------------------------------------------------------------------------------------------------------
[[Page 33412]]
Sec. 1240.13 Net credit risk capital requirement for single-family
whole loans and guarantees.
(a) The net credit risk capital requirement for a single-family
whole loan and guarantee is the GrossCreditRiskCapReqbps adjusted for
the loan-level credit enhancement benefit and CPHaircut.
(b) For a loan with loan-level credit enhancement, an Enterprise
shall determine the net credit risk capital requirement in basis points
(NetCreditRiskCapReqbps) using the following equation:
NetCreditRiskCapReqbps = GrossCreditRiskCapReqbps x (1-(1-CEMultiplier)
x (1-CPHaircut))
(c) For a loan without loan-level credit enhancement, an Enterprise
shall determine the net credit risk capital requirement in basis points
(NetCreditRiskCapReqbps) using the following equation:
NetCreditRiskCapReqbps = GrossCreditRiskCapReqbps
(d) An Enterprise shall determine the net credit risk capital
requirement in dollars (NetCreditRiskCapReq$) using the following
equation:
NetCreditRiskCapReq$ = UPB x NetCreditRiskCapReqbps/10,000
(e) The aggregate net credit risk capital requirement for all
single-family whole loans and guarantees (NetCreditRiskCapReq$\SFWL) is
the sum of each loan's NetCreditRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.027
Sec. 1240.14 Single-family credit risk transfer capital relief for
single-family whole loans and guarantees.
(a) A single-family credit risk transfer (``single-family CRT'') is
a credit risk transfer where the whole loans and guarantees underlying
the CRT, or referenced by the CRT, are single-family whole loans and
guarantees. Single-family CRTs may reduce NetCreditRiskCapReq$\SFWL.
The reduction is called capital relief. The methodology for calculating
capital relief combines aggregate credit risk capital requirements and
expected losses on the single-family whole loans and guarantees
underlying or referenced by the single-family CRT, tranche structure,
ownership, loss timing, and counterparty credit risk. The methodology
is provided in Sec. 1240.15.
(b) The steps for calculating capital relief from a single-family
CRT are as follows:
(1) Identify the single-family whole loans and guarantees
underlying or referenced by the CRT.
(2) Calculate the aggregate net credit risk capital requirements
and expected losses on the single-family whole loans and guarantees
underlying or referenced by the CRT.
(3) Distribute the aggregate net credit risk capital requirements
and expected losses across the tranches of the CRT so that relatively
higher capital requirements are allocated to the more risky junior
tranches that are the first to absorb losses, and relatively lower
requirements are allocated to the more senior tranches.
(4) Identify capital relief, adjusting for an Enterprise's retained
tranche interests.
(5) Adjust capital relief for loss timing and counterparty credit
risk.
(6) Calculate total capital relief by adding up capital relief for
each tranche in the CRT.
Sec. 1240.15 Calculation of capital relief from a single-family CRT.
(a) To calculate capital relief from a single-family CRT, an
Enterprise must have data that enables it to assign accurately the
parameters described in paragraphs (b) and (c) of this section.
(1) Data used to assign the parameters must be the most currently
available data. If the contracts governing the single-family CRT
require payments on a monthly or quarterly basis, the data used to
assign the parameters must be no more than 91 calendar days old.
(2) If an Enterprise does not have the data to assign the
parameters described in paragraphs (b) and (c) of this section, then an
Enterprise must treat the single-family CRT as if no capital relief had
occurred.
(b) To calculate capital relief from a single-family CRT, an
Enterprise must have accurate data on the following set of inputs:
(1) CRT tranche attachment point. An Enterprise must have accurate
information on each tranche's attachment point (ATCH) in the single-
family CRT. For a given tranche, ATCH represents the threshold at which
credit losses of principal will first be allocated. For a given
tranche, ATCH equals 10,000 multiplied by the ratio of the current
dollar amount of underlying subordinated tranches relative to the
current dollar amount of all tranches. ATCH is expressed in basis
points or as a value between zero and 10,000.
(2) CRT tranche detachment point. An Enterprise must have accurate
information on each tranche's detachment point (DTCH) in the single-
family CRT. For a given tranche, DTCH represents the threshold at which
credit losses of principal would result in total loss of principal. For
a given tranche, DTCH equals the sum of the tranche's ATCH and 10,000
multiplied by the ratio of the current dollar amount of tranches that
are pari passu with the tranche (that is, have equal seniority with
respect to credit risk) to the current dollar amount of all tranches.
DTCH is expressed in basis points or as a value between zero and
10,000.
(3) Capital markets risk relief percentage by tranche. An
Enterprise must have accurate information on each tranche's capital
markets risk relief percentage (CM) in the single-family CRT.
For a given tranche, CM is the percentage of the tranche sold
in the capital markets. CM is expressed as a value between 0%
and 100%.
(4) Contractual loss sharing risk relief percentage by tranche. An
Enterprise must have accurate information on each tranche's contractual
loss sharing risk relief percentage (LS) in the single-family
CRT. For a given tranche, LS is the percentage of the tranche
that is either insured, reinsured, or afforded coverage through lender
reimbursement of credit losses of principal. LS is expressed as
a value between 0% and 100%.
(5) Credit risk capital on the underlying reference pool. The
Enterprises must have accurate data on each pool group's credit risk
capital (PGCRCbps) in the single-family CRT. PGCRCbps is expressed in
basis points or as a value between zero and 10,000. For each pool group
of single-family whole loans and guarantees in the single-family CRT,
PGCRCbps is calculated in one of the following ways:
(i) For single-family CRTs where the contractual terms of the
single-family CRT indicate that the single-family CRT will not convey
the counterparty credit risk associated with loan-level credit
enhancement on the single-family whole loans and guarantees underlying
the single-family CRT, then PGCRCbps is calculated using the aggregate
net credit risk capital requirement for all single-family whole loans
and guarantees
[[Page 33413]]
underlying the given pool group assuming a 0% CPHaircut as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.028
(ii) For all other single-family CRTs, PGCRCbps is calculated using
the aggregate net credit risk capital requirement for all single-family
whole loans and guarantees underlying the given pool group as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.029
(6) CRT expected losses. An Enterprise must have accurate data on
total lifetime net expected credit risk losses (PGELbps) on the whole
single-family loans and guarantees underlying each pool group in the
single-family CRT. PGELbps shall be calculated internally by an
Enterprise. PGELbps does not include the operational risk capital
requirement or going-concern buffer. PGELbps is expressed in basis
points or as a value between zero and 10,000. For each pool group,
PGELbps is calculated in one of the following ways:
(i) For single-family CRTs where the contractual terms of the
single-family CRT indicate that the single-family CRT will not convey
the counterparty credit risk associated with MI on the single-family
whole loans and guarantees underlying the single-family CRT, PGELbps
reflects an Enterprise's internal calculation of aggregate lifetime net
expected credit risk losses on all single-family whole loans and
guarantees underlying the given pool group while assuming no
counterparty haircuts on MI.
(ii) For all other single-family CRTs, PGELbps reflects an
Enterprise's internal calculation of aggregate lifetime net expected
credit risk losses on all single-family whole loans and guarantees
underlying the given pool group.
(7) Counterparty collateral on loss sharing transactions. An
Enterprise must have accurate data on the dollar amounts of
counterparty collateral (CntptyCollat$) for each counterparty by
tranche and pool group from a single-family CRT involving contractual
loss sharing. For a given counterparty, tranche, and pool group,
CntptyCollat$ is the dollar amount of collateral to fulfill the
counterparty's trust funding obligation for loss sharing. CntptyCollat$
is expressed in dollar terms as a value greater than or equal to $0.
(8) Counterparty quota shares on loss sharing transactions. An
Enterprise must have accurate information on counterparty quota shares
on contractual loss sharing transactions for each counterparty by
tranche and pool group. For a given counterparty, tranche, and pool
group, the counterparty share is the percentage of LS that is
insured, reinsured, or afforded coverage through lender reimbursement
of credit losses of principal by the given counterparty
(CntptyShare). CntptyShare is expressed as a value
between 0% and 100%.
(9) Counterparty ratings on loss sharing transactions. An
Enterprise must have internally generated ratings for counterparties on
contractual loss sharing transactions. The internally generated ratings
must be converted into counterparty financial strength ratings
consistent with Table 3: Counterparty Financial Strength Ratings, of
this part.
(10) Counterparty mortgage concentration risk on loss sharing
transactions. An Enterprise must have an internally generated indicator
for mortgage concentration risk for the counterparties on contractual
loss sharing transactions. The internally generated indicator for
mortgage concentration risk must be converted into ratings that reflect
the following categories: High and Not High. An Enterprise should
designate counterparties with a significant concentration of mortgage
credit as High. An Enterprise should designate all other counterparties
as Not High.
(11) CRT loss timing factor. (i) Table 18 to part 1240 sets forth
loss timing factors which account for maturity differences between the
CRT and the CRT's underlying single-family whole loans and guarantees.
Maturity differences arise when the CRT's maturity date arises before
the maturity dates on the underlying single-family whole loans and
guarantees. The loss timing factors reflect estimates of the cumulative
percentages of lifetime losses by the number of months between the
CRT's original closing date (or effective date) and the maturity date
on the CRT such that CRTs with longer maturities cover more lifetime
losses. The loss timing factors also vary by original amortization term
and OLTVs on the underlying single-family whole loans and guarantees.
(ii) Using Table 18 to Part 1240, the Enterprises must calculate a
single-family CRT loss timing factor (CRTLT) for each pool
group. CRTLT is expressed as a value between 0% and 100%. To
calculate the CRTLT, an Enterprise must have the following
information by pool group at the time of deal issuance:
(A) CRT's original closing date (or effective date) and the
maturity date on the CRT;
(B) UPB share of single-family whole loans and guarantees in the
pool group that have original amortization terms of less than or equal
to 189 months (CRTF15); and
(C) UPB share of single-family whole loans and guarantees in the
pool group that have original amortization terms greater than 189
months and OLTVs of less than or equal to 80 percent
(CRT80NotF15).
(iii) An Enterprise must use the following method to calculate
CRTLT for each pool group:
(A) Calculate CRT months to maturity (CRTMthstoMaturity) using one
of the following methods:
(1) For single-family CRTs with reimbursement based upon occurrence
or resolution of delinquency, CRTMthstoMaturity is the difference
between the CRT's maturity date and original closing date, except for
the following:
(i) If the coverage based upon delinquency is between 1 and 3
months, add 24 months to the difference between the CRT's maturity date
and original closing date.
(ii) If the coverage based upon delinquency is between 4 and 6
months,
[[Page 33414]]
add 18 months to the difference between the CRT's maturity date and
original closing date.
(2) For all other single-family CRTs, CRTMthstoMaturity is the
difference between the CRT's maturity date and original closing date.
(B) If CRTMthstoMaturity is a multiple of 12, then an Enterprise
must use the first column of Table 18 to identify the row matching
CRTMthstoMaturity and take a weighted average of the three loss timing
factors in columns 2, 3, and 4 as follows:
CRTLT = (CRTLT15 * CRTF15) + (CRTLT80Not15 *
CRT80NotF15) + (CRTLTGT80Not15 * (1 - CRT80NotF15 -
CRTF15))
(C) If CRTMthstoMaturity is not a multiple of 12, an Enterprise
must use the first column of Table 18 to identify the two rows that are
closest to CRTMthstoMaturity and take a weighted average between the
two rows of loss timing factors using linear interpolation, where the
weights reflect CRTMthstoMaturity.
Table 18 to Part 1240--Single-Family CRT Loss Timing Factors
----------------------------------------------------------------------------------------------------------------
CRT loss timing factors
------------------------------------------------------------------------------------
CRTMthstoMaturity: (#1) CRTLT80Not15: (#3) CRTLT CRTLTGT80Not15: (#4) CRTLT
Number of months from the CRTLT15: (#2) CRTLT for for pool groups backed by for pool groups backed by
single-family CRT's pool groups backed by single-family whole loans single-family whole loans
original closing date (or single-family whole loans and guarantees with and guarantees with
effective date) to the and guarantees with original amortization original amortization
maturity date on the CRT original amortization terms terms > 189 months and terms > 189 months and
< = 189 months (%) OLTVs < = 80 (%) OLTVs > 80 (%)
----------------------------------------------------------------------------------------------------------------
0 0 0 0
12 1 0 0
24 6 3 2
36 21 13 11
48 44 31 26
60 66 49 43
72 82 65 58
84 90 74 68
96 94 80 76
108 96 85 81
120 98 88 86
132 99 91 89
144 99 93 92
156 100 94 94
168 100 96 95
180 100 96 96
192 100 97 97
204 100 98 98
216 100 98 98
228 100 98 98
240 100 99 99
252 100 99 99
264 100 99 99
276 100 99 99
288 100 99 99
300 100 100 100
312 100 100 100
324 100 100 100
336 100 100 100
348 100 100 100
360 100 100 100
----------------------------------------------------------------------------------------------------------------
(12) Aggregate unpaid principal balance by pool group. An
Enterprise must have accurate information on each pool group's
aggregate unpaid principal balance (PGUPB$).
(c) An Enterprise must use the parameters described in paragraph
(b) of this section to calculate CRT capital relief, by single-family
CRT pool group, using the following steps:
(1) An Enterprise must distribute PGCRCbps, by pool group, to the
tranches of the CRT, while controlling for PGELbps. For a given pool
group and tranche, tranche credit risk capital (TCRCbps) is as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.030
TCRCbps takes values between 0 and 10,000. TCRCbps must be calculated
for each tranche in the single-family CRT.
(2) For each pool group and tranche in a single-family CRT, an
Enterprise must use the following formulae to identify the capital
relief from the capital markets (CMTCRCbps) and loss sharing
(LSTCRCbps) portions of the single-family CRT:
CMTCRCbps = CM * TCRCbps * CRTLT
LSTCRCbps = LS * TCRCbps * CRTLT
CMTCRCbps and LSTCRCbps are expressed in basis points and take values
between 0 and 10,000.
(3) For loss sharing transactions, an Enterprise must determine the
uncollateralized counterparty exposure
[[Page 33415]]
(CntptyExposurebps) and counterparty credit risk (CntptyCreditRiskbps)
by pool group and tranche.
(i) For each pool group, tranche and counterparty, an Enterprise
must use the following formula to calculate CntptyExposurebps:
[GRAPHIC] [TIFF OMITTED] TP17JY18.031
CntptyExposurebps takes values between 0 and 10,000.
(ii) For each pool group, tranche and counterparty, an Enterprise
must determine CntptyCreditRiskbps. An Enterprise must use its
internally generated counterparty ratings converted into the
counterparty ratings provided in Table 3: Counterparty Financial
Strength Ratings, and its internally generated indicator for mortgage
concentration risk converted into ratings that reflect High and Not
High together with the CPHaircuts for New Origination Loan, Performing
Seasoned Loan, and RPLs from Table 17: CPHaircut by Rating, Mortgage
Concentration Risk, Segment, and Product, and the following formula to
calculate CntptyCreditRiskbps:
CntptyCreditRiskbps = CntptyExposurebps * CPHaircut
CntptyCreditRiskbps takes values between 0 and 10,000.
(4) For each pool group in the single-family CRT, an Enterprise
must calculate aggregate capital relief (PGCapReliefbps) across all
tranches and counterparties associated with the given pool group using
the following formula:
[GRAPHIC] [TIFF OMITTED] TP17JY18.032
(5) An Enterprise must calculate total capital relief in dollars
for the entire single-family CRT (CapRelief$) by adding up the capital
relief in dollars from each pool group as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.033
Sec. 1240.16 Calculation of total capital relief for single-family
whole loans and guarantees.
To calculate total capital relief across all single-family CRTs
(TotalCapRelief$\SFWL), an Enterprise must aggregate capital relief
using the following:
[GRAPHIC] [TIFF OMITTED] TP17JY18.034
Sec. 1240.17 Market risk capital requirement for single-family whole
loans.
(a) Each single-family whole loan with market risk exposure is
subject to the single-family whole loan market risk capital
requirement. There is no market risk exposure for single-family
guarantees. The market risk capital requirement for a single-family
whole loan is limited to spread risk.
(b) The single-family whole loan market risk capital requirement in
dollars (MarketRiskCapReq$) utilizes different calculation
methodologies based on the loan product type and performance status.
(1) The dollar amount of the MarketRiskCapReq$ for an RPL or NPL is
calculated as follows:
MarketRiskCapReq$ = Market Value x 0.0475
(2) The dollar amount of the MarketRiskCapReq$ for a performing
loan is determined by an Enterprise using its internal market risk
model.
(c) The aggregate market risk capital requirement for all single-
family whole loans (MarketRiskCapReq$\SFWL) is the sum of each loan's
MarketRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.035
Sec. 1240.18 Market risk capital requirement for single-family
securities.
(a) Enterprise- and Ginnie Mae-guaranteed single-family mortgage
backed securities (MBSs) and collateralized mortgage obligations (CMOs)
(collectively ``SFMBS'') held in an Enterprise's portfolio, have market
risk exposure and are subject to a market risk capital requirement.
(b) The dollar amount of the MarketRiskCapReq$ for SFMBS is
determined by an Enterprise using its internal market risk model.
(c) The aggregate market risk capital requirement for SFMBS
(MarketRiskCapReq$\SFMBS) is the sum of each security's
MarketRiskCapReq$:
[[Page 33416]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.036
Sec. 1240.19 Operational risk capital requirement for single-family
whole loans and guarantees.
(a) Each single-family whole loan and guarantee is subject to an 8
basis point operational risk capital requirement
(OperationalRiskCapReq$).
(b) The dollar amount of the OperationalRiskCapReq$ is calculated
as follows:
(1) If the Enterprise holds only credit risk or both credit and
market risk, the calculation is as follows:
OperationalRiskCapReq$ = UPB x 0.0008
(2) Otherwise, if the Enterprise holds only market risk the
calculation is as follows:
OperationalRiskCapReq$ = Market Value x 0.0008
(c) The aggregate operational risk capital requirement for all
single-family whole loans and guarantees (OperationalRiskCapReq$\SFWL)
is the sum of each loan's OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.037
Sec. 1240.20 Operational risk capital requirement for single-family
securities.
(a) Each SFMBS is subject to an 8 basis point operational risk
capital requirement.
(b) The operational risk capital requirement for SFMBS in dollar
terms (OperationalRiskCapReq$) is calculated as follows:
OperationalRiskCapReq$ = SFMBS Market Value x 0.0008
(c) The aggregate operational risk capital requirement for all
SFMBS (OperationalRiskCapReq$\SFMBS) is the sum of each security's
OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.038
Sec. 1240.21 Going-concern buffer requirement for single-family
whole loans and guarantees.
(a) Each single-family whole loan and guarantee is subject to a 75
basis point going-concern buffer requirement (GCBufferReq$).
(b) The dollar amount of the GCBufferReq$ is calculated as follows:
(1) If the Enterprise holds only credit risk or both credit and
market risk, the calculation is as follows:
GCBufferReq$ = UPB x 0.0075
(2) Otherwise, if the Enterprise holds only market risk the
calculation is as follows:
GCBufferReq$ = Market Value x 0.0075
(c) The aggregate going-concern buffer requirement for all single-
family whole loans and guarantees (GCBuffer Req$\SFWL) is the sum of
each loan and guarantee's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.039
Sec. 1240.22 Going-concern buffer requirement for single-family
securities.
(a) Each SFMBS is subject to a 75 basis point going-concern buffer
requirement.
(b) The going-concern buffer requirement for an SFMBS in dollar
terms (GCBufferReq$) is calculated as follows:
GCBufferReq$ = SFMBS Market Value x 0.0075
(c) The aggregate going-concern buffer requirement for all SFMBS
(GCBufferReq$\SFMBS) is the sum of each security's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.040
Sec. 1240.23 Aggregate risk-based capital requirement for single-
family whole loans, guarantees, and related securities.
(a) As provided in Sec. 1240.5, the aggregate risk-based capital
requirement for single-family whole loans, guarantees, and related
securities is the cumulative total of: The aggregate net credit risk
capital requirement; the aggregate market risk capital requirement for
single-family whole loans and securities with market exposure; the
aggregate operational risk capital requirement, and the aggregate
going-concern buffer requirement, net of the total capital relief from
single-family CRTs.
(b) The aggregate risk-based capital requirement for all single-
family whole loans, guarantees, and related securities
(RiskBasedCapReq$\SFWLGS) is calculated as follows:
RiskBasedCapReq$\SFWLGS = NetCreditRiskCapReq$\SFWL +
MarketRiskCapReq$\SFWL + MarketRiskCapReq$\SFMBS +
OperationalRiskCapReq$\SFWL + OperationalRiskCapReq$\SFMBS +
GCBufferReq$\SFWL +
[[Page 33417]]
GCBufferReq$\SFMBS - TotalCapRelief$\SFWL
Sec. 1240.24 Private-label securities risk-based capital requirement
components.
The risk-based capital requirement for a private-label security
(PLS), including PLS wraps, is the cumulative total of the following
capital requirements:
(a) A credit risk capital requirement as provided in Sec. 1240.25;
(b) A market risk capital requirement as provided in Sec. 1240.26;
(c) An operational risk capital requirement as provided in Sec.
1240.27; and
(d) A going-concern buffer requirement as provided in Sec.
1240.28.
Sec. 1240.25 Credit risk capital requirement for a PLS.
(a) Each PLS to which an Enterprise has credit risk exposure is
subject to a credit risk capital requirement.
(b) An Enterprise must calculate the credit risk capital
requirement for a PLS by taking the following steps:
(1) Calculate the risk weight (RW) of a PLS; and
(2) Multiply the RW of a PLS by 8 percent.
(c) To determine the RW for a PLS, an Enterprise must use the
Simplified Supervisory Formula Approach (SSFA) as modified and provided
below in this section (FHFA SSFA). FHFA SSFA provided in this section
follows the SSFA provided in Sec. 217.43(a) through (d) of this title,
as of the effective date of this part, with the following exceptions:
(1) Excludes Sec. 217.43(b)(2)(v)(A) through (B) of this title:
(2) Assigns the weighted-average total capital requirement of the
underlying exposures KG;
(3) Assigns the supervisory calibration parameter p for a PLS wrap;
(4) Removes references to the nth to default credit derivatives;
and
(5) Substitutes references to a bank with references to an
Enterprise.
(d) To use FHFA SSFA to determine the risk weight for a PLS or PLS
Wrap, also known as a securitization exposure, an Enterprise must have
data that enables it to assign accurately the parameters described in
paragraph (e) of this section. The data must be the most currently
available data. If the contracts governing the underlying exposures of
the securitization require payments on a monthly or quarterly basis,
the data must be no more than 91 calendar days old. An Enterprise that
does not have the appropriate data to assign the parameters described
in paragraph (e) of this section must assign a risk weight of 1,250
percent to the exposure.
(e) To calculate the risk weight for a securitization exposure
using FHFA SSFA, an Enterprise must have accurate data on the following
five inputs to FHFA SSFA calculation:
(1) KG is the weighted-average total capital requirement
of the underlying exposures. KG is 8 percent.
(2) Parameter W is expressed as a decimal value between zero and
one. Parameter W is the ratio of the sum of the dollar amounts of any
underlying exposures of the securitization to include collateral
backing the PLS or PLS Wrap that meet any of the criteria as set forth
in paragraphs (e)(2)(i) through (vi) of this section, to the balance,
measured in dollars, of underlying exposures:
(i) Ninety days or more past due;
(ii) Subject to a bankruptcy or insolvency proceeding;
(iii) In the process of foreclosure;
(iv) Held as real estate owned;
(v) Has contractually deferred payments for 90 days or more; or
(vi) Is in default.
(3) Parameter ATCH is the attachment point for the exposure, which
represents the threshold at which credit losses will first be allocated
to the exposure. Parameter ATCH equals the ratio of the current dollar
amount of underlying exposures that are subordinated to the exposure of
an Enterprise to the current dollar amount of underlying exposures. Any
reserve account funded by the accumulated cash flows from the
underlying exposures that is subordinated to an Enterprise's
securitization exposure may be included in the calculation of parameter
ATCH to the extent that cash is present in the account. Parameter ATCH
is expressed as a decimal value between zero and one.
(4) Parameter DTCH is the detachment point for the exposure, which
represents the threshold at which credit losses of principal allocated
to the exposure would result in a total loss of principal. Parameter
DTCH equals parameter ATCH plus the ratio of the current dollar amount
of the securitization exposures that are pari passu with the exposure
(that is, have equal seniority with respect to credit risk) to the
current dollar amount of the underlying exposures. Parameter DTCH is
expressed as a decimal value between zero and one.
(5) A supervisory calibration parameter, p, is equal to 0.5 for
securitization exposures that are not resecuritization exposures and
equal to 1.5 for resecuritization exposures. A PLS Wrap has a
supervisory calibration parameter equal to the supervisory calibration
parameter of the underlying PLS.
(f) KG and W are used to calculate KA, the
augmented value of KG, which reflects the observed credit
quality of the underlying exposures. KA is defined in
paragraph (g) of this section. The values of parameters ATCH and DTCH,
relative to KA, determine the risk weight assigned to a
securitization exposure as described in paragraph (g) of this section.
The risk weight assigned to a securitization exposure, or portion of a
securitization exposure, as appropriate, is the larger of the risk
weight determined in accordance with paragraphs (f) or (g) of this
section, and a risk weight of 20 percent.
(1) When the detachment point, parameter DTCH, for a securitization
exposure is less than or equal to KA, the exposure must be
assigned a risk weight of 1,250 percent.
(2) When the attachment point, parameter ATCH, for a securitization
exposure is greater than or equal to KA, the Enterprise must
calculate the risk weight in accordance with paragraph (g) of this
section.
(3) When ATCH is less than KA and DTCH is greater than
KA, the risk weight is a weighted-average of 1,250 percent
and 1,250 percent times KFHFA SSFA calculated in accordance with
paragraph (g) of this section. For the purpose of this weighted-average
calculation:
(i) The weight assigned to 1,250 percent equals
[GRAPHIC] [TIFF OMITTED] TP17JY18.041
(ii) The weight assigned to 1,250 percent times KFHFA SSFA equals
[[Page 33418]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.042
(iii) The risk weight will be set equal to
[GRAPHIC] [TIFF OMITTED] TP17JY18.043
(g) FHFA SSFA equation involves the following steps:
(1) An Enterprise must define the following parameters:
[GRAPHIC] [TIFF OMITTED] TP17JY18.044
(2) An Enterprise must calculate KFHFA SSFA according to the
following equation:
[GRAPHIC] [TIFF OMITTED] TP17JY18.045
(3) The risk weight for the exposure (expressed as a percent) is
equal to:
KFHFA SSFA * 1,250
(h) Determine the credit risk capital requirement for a PLS in bps
(CreditRiskCapReqbps) as follows:
CreditRiskCapReqbps = RW x 8% x 10,000
(i) Determine the credit risk capital requirement for a PLS in
dollar terms (CreditRiskCapReq$) as follows:
CreditRiskCapReq$ = Market Value x CreditRiskCapReqbps/10,000
Sec. 1240.26 Market risk capital requirement for a PLS.
(a) Each PLS to which an Enterprise has market risk exposure is
subject to a market risk capital requirement. The market risk capital
requirement of a PLS wrap is zero as an Enterprise does not have market
risk exposure to a PLS wrap.
(b) The MarketRiskCapReqbps is equal to the product of the PLS
spread duration as estimated by the Enterprise and a shock in the
spread of the PLS of 265 bps as follows:
MarketRiskCapReqbps = 265bps x SpreadDuration
(c) The MarketRiskCapReq$ is calculated as follows:
MarketRiskCapReq$ = Market Value x MarketRiskCapReqbps/10,000
Sec. 1240.27 Operational risk capital requirement for a PLS.
(a) Each Enterprise PLS exposure is subject to an operational risk
capital requirement.
(b) The operational risk capital requirement for a PLS in dollar
terms (OperationalRiskCapReq$) is calculated as follows:
OperationalRiskCapReq$ = Market Value x 0.0008
Sec. 1240.28 Going-concern buffer requirement for a PLS.
(a) Each Enterprise PLS exposure is subject to a going-concern
buffer requirement (GCBufferReq).
(b) The GCBufferReq for a PLS in dollar terms (GCBufferReq$) is
calculated as follows:
GCBufferReq$ = Market Value x 0.0075
Sec. 1240.29 Aggregate risk-based capital requirement for PLS.
(a) The RiskBasedCapReq$ for a PLS is calculated as follows:
RiskBasedCapReq$ = CreditRiskCapReq$ + MarketRiskCapReq$ +
OperationalRiskCapReq$ + GCBufferReq$
(b) The RiskBasedCapReq$ for all Enterprise PLS
(RiskBasedCapReq$\PLS) is calculated by aggregating RiskBasedCapReq$
for each PLS.
[GRAPHIC] [TIFF OMITTED] TP17JY18.046
[[Page 33419]]
Sec. 1240.30 Multifamily whole loans, guarantees, and related
securities risk-based capital requirement components.
The risk-based capital requirement for multifamily whole loans,
guarantees, and related securities is the cumulative total of the
following capital requirements:
(a) A credit risk capital requirement, as provided in Sec. Sec.
1240.31 through 1240.38;
(b) A market risk capital requirement for multifamily whole loans
and securities with market exposure, as provided in Sec. Sec. 1240.39
through 1240.40;
(c) An operational risk capital requirement, as provided in
Sec. Sec. 1240.41 through 1240.42; and
(d) A going-concern buffer requirement, as provided in Sec. Sec.
1240.43 through 1240.44.
Sec. 1240.31 Multifamily whole loans and guarantees credit risk
capital requirement methodology.
(a) The methodology for calculating the credit risk capital
requirement for a multifamily whole loan and guarantee uses tables to
determine the base credit risk capital requirement and risk factor
multipliers to adjust the base credit risk capital requirement for risk
factor variations not captured in the base tables. The methodology also
provides for a reduction in the credit risk capital requirement for
multifamily whole loans and guarantees due to credit risk transfer
transactions.
(b) The steps for calculating the credit risk capital requirement
for multifamily whole loans and guarantees are as follows:
(1) Identify the loan data needed for the calculation of the
multifamily whole loans and guarantees credit risk capital requirement.
(2) Assign each multifamily whole loan and guarantee into a
multifamily loan segment, as specified in Sec. 1240.32.
(3) Determine BaseCapitalbps for each whole loan and guarantee
using the loan's assigned multifamily loan segment and the appropriate
segment-specific table, as specified in Sec. 1240.33.
(4) Determine TotalCombRiskMult for each whole loan and guarantee
based on the loan's assigned loan segment and risk characteristics, as
specified in Sec. 1240.34.
(5) Calculate GrossCreditRiskCap Reqbps for each whole loan and
guarantee by multiplying BaseCapitalbps by TotalCombRiskMult, as
specified in Sec. 1240.35.
(6) Calculate NetCreditRiskCapReqbps as equal to
GrossCreditRiskCapReqbps and determine the aggregate net credit risk
capital requirement for multifamily whole loans and guarantees both as
specified in Sec. 1240.36. For multifamily whole loans and guarantees,
there is no charter required credit enhancement and
NetCreditRiskCapReqbps is equal to GrossCreditRiskCapReqbps.
(7) Determine the capital relief from multifamily CRTs, as
specified in Sec. Sec. 1240.37 and 1240.38.
(c) The credit risk capital requirement applies to any Enterprise
multifamily whole loan or guarantee with exposure to credit risk.
(d) Table 19 to part 1240 lists the loan data needed for the
calculation of the multifamily whole loans and guarantees credit risk
capital requirement. Table 19 contains variable names, definitions,
acceptable values, and treatments for missing or unacceptable values.
Table 19 to Part 1240--Multifamily Whole Loans and Guarantees Data Inputs
----------------------------------------------------------------------------------------------------------------
Treatment of missing or
Variable Definition/logic Acceptable value unacceptable value
----------------------------------------------------------------------------------------------------------------
Acquisition Debt-Service Coverage The Debt-Service-Coverage Greater than or equal In a case where the
Ratio (DSCR). Ratio is the ratio of Net to 0. acquisition DSCR is not
Operating Income (NOI) to available, use DSCR at
the scheduled mortgage the time the loan was
payment. If NOI is underwritten as a
unavailable, use Net Cash substitute. For a newly
Flow (NCF). acquired loan, the
Acquisition DSCR is the origination DSCR can be
DSCR reported at the time used as a proxy for the
the loan is acquired. acquisition DSCR if the
For interest-only loans, loan is acquired within
use fully amortizing six months of
acquisition DSCR when acquisition and an
determining BaseCapital. acquisition DSCR record
is not available.
If missing, use
origination DSCR. If
origination DSCR is
missing, use DSCR at the
time the loan was
underwritten. If the
DSCR at the time the
loan is underwritten is
missing, use 1.00.
Acquisition LTV................... Acquisition LTV is the LTV Greater than or equal Where the acquisition LTV
at the time a loan is to 0. is not available, use
acquired. the LTV at the time the
loan is underwritten. If
acquisition LTV is
missing, use origination
LTV. If origination LTV
is missing, use LTV at
the time the loan is
underwritten. If LTV at
the time the loan is
underwritten is missing,
use 100%.
Amortization Term................. The amortization term is Non-negative integer If missing, use 31 years.
the period that would in years.
take a borrower to pay a
loan completely if the
borrower only makes the
scheduled payments, for a
given loan balance, at a
specified interest rate,
and without making any
balloon payment.
Interest-Only (IO)................ A loan that requires only Yes, No.............. Yes.
payment of interest
without any principal
amortization during all
or part of the loan term.
Loan Term......................... The loan term is the Non-negative integer If missing, use 11 years.
period between in years.
origination and final
loan payment (which may
be a balloon payment) as
stated in the loan
origination documents.
[[Page 33420]]
Mark-to-Market DSCR (MTMDSCR)..... MTMDSCR is the DSCR stated Greater than or equal In a case where MTMDSCR
on the most recent to 0. is not available, the
property operating last observed DSCR can
statement. For interest- be marked to market
only loans, use fully using a property NOI
amortizing MTMDSCR when index or an NOI estimate
determining BaseCapital. based on rent and
expense indices. If the
index is not
sufficiently granular,
either because of its
frequency or geography,
or with respect to a
certain multifamily
property type, use a
more geographically
broad index or a
recently estimated mark-
to-market value.
Mark-To-Market Loan-to-Value MTMLTV is an estimate of Greater than or equal If missing, mark to
(MTMLTV) ratio. the current LTV, derived to 0. market using an index.
by marking to market the If the index is not
acquisition LTV using a sufficiently granular,
multifamily property either because of its
value index or property frequency or geography
value estimate based on or with respect to a
NOI and cap rate indices. certain multifamily
property type, use more
geographically broad
index or a recently
estimated mark-to-market
value.
Market Value...................... The value of the loan ..................... UPB.
reported in an
Enterprise's fair value
disclosures.
Net Operating Income (NOI)/Net NOI is defined as the Greater than or equal Infer using origination
Cash Flow (NCF). rental income generated to 0. LTV or origination DSCR.
by the property net of Alternatively, infer
vacancy and property using actual MTMLTV or
operating expenses. NCF actual MTMDSCR.
is defined as NOI minus
any below-the-line
expenses, which usually
include capital
improvement reserves and
leasing commissions.
Original Loan Size................ The original loan size is Non-negative dollar $3,000,000.
the dollar amount of the value.
loan at origination.
Payment Performance............... The payment status or Performing, If missing, set to
history of a multifamily Delinquent, Re- Modified.
loan. performing (without
Modification),
Modified.
Special Product................... Multifamily loans that are Not a Special If missing, set to Rehab/
Government-Subsidized, Product, Government- Value-Add/Lease-Up.
Student Housing, Rehab/ Subsidized, Student
Value-Add/Lease-Up, Housing, Rehab/Value-
Supplemental. Add/Lease-Up,
Supplemental.
Unpaid Principal Balance (UPB$)... The remaining unpaid UPB > $0............. If missing, use
principal balance on the $100,000,000.
loan as of the reporting
date.
----------------------------------------------------------------------------------------------------------------
Sec. 1240.32 Loan segments for multifamily whole loans and
guarantees credit risk capital requirement.
(a) An Enterprise must assign each multifamily whole loan and
guarantee in its portfolio with exposure to credit risk to a loan
segment. Multifamily loan segments are determined based on the type of
interest rate contract used in the whole loan or guarantee. The
multifamily loan segments are: Multifamily Fixed Rate Mortgage
(Multifamily FRM) and Multifamily Adjustable Rate Mortgage (Multifamily
ARM).
(b) A multifamily whole loan and guarantee that has both a fixed
rate period and an adjustable rate period, also known as a hybrid loan,
should be classified and treated as a Multifamily FRM during the fixed
rate period, and classified and treated as a Multifamily ARM during the
adjustable rate period.
Sec. 1240.33 Base credit risk capital requirement for multifamily
whole loans and guarantees.
An Enterprise must determine BaseCapitalbps for a multifamily whole
loan and guarantee by using the multifamily credit risk capital grid
that corresponds to a particular loan segment, presented in Tables 20
and 21 to part 1240. A new acquisition is a multifamily whole loan or
guarantee that was originated within five months or less.
(a) Multifamily FRM BaseCapitalbps is shown in Table 20. For each
whole loan and guarantee classified as Multifamily FRM, BaseCapitalbps
is the value in the cell in Table 20 determined using the whole loan or
guarantee's acquisition DSCR and acquisition LTV in the case of a new
acquisition, or using the whole loan or guarantee's MTMDSCR and MTMLTV
in the case of a seasoned loan. For a multifamily IO whole loan and
guarantee, an Enterprise must use the fully amortized payment to
calculate acquisition DSCR and MTMDSCR.
BILLING CODE 8070-01-P
[[Page 33421]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.047
(b) Multifamily ARM BaseCapitalbps is shown in Table 21. For each
whole loan or guarantee classified as a multifamily ARM loan,
BaseCapitalbps is the value in the cell in Table 21 determined using
the whole loan and guarantee's acquisition DSCR and acquisition LTV in
the case of a new acquisition, or using the whole loan or guarantee's
MTMDSCR and MTMLTV in the case of a seasoned loan. For multifamily IO
whole loans and guarantees, an Enterprise must use the fully amortized
payment to calculate acquisition DSCR and MTMDSCR.
[[Page 33422]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.048
BILLING CODE 8070-01-C
Sec. 1240.34 Risk multipliers for multifamily whole loans and
guarantees.
(a) Risk multipliers increase or decrease the credit risk capital
requirement for multifamily whole loans and guarantees based on a
multifamily loan's assigned loan segment and risk characteristics. The
multifamily risk multipliers are presented in Table 22 to part 1240.
(b) The steps for calculating TotalCombRiskMult are as follows:
(1) Determine the appropriate multifamily risk multipliers values
from Table 22 based on the loan's characteristics and assigned loan
segment.
(2) Apply the appropriate formula to calculate the combined risk
multiplier, CombRiskMult.
(3) Calculate the TotalCombRiskMult as the larger of CombRiskMult
and a combined multiplier floor of 0.5.
Table 22 to Part 1240--Multifamily Risk Multipliers
------------------------------------------------------------------------
Risk factor Value or range Risk multiplier
------------------------------------------------------------------------
Payment Performance......... Performing.......... 1.00.
[[Page 33423]]
Delinquent.......... 1.10.
Re-Performing 1.10.
(without
Modification).
Modified............ 1.20.
Interest-Only............... No.................. 1.00.
Yes (during the 1.10.
interest-only
period).
Original/Remaining Loan Term Loan Term <= 1Yr.... 0.70.
in Years (Yr). 1Yr < Loan Term <= 0.75.
2Yr.
2Yr < Loan Term <= 0.80.
3Yr.
3Yr < Loan Term <= 0.85.
4Yr.
4Yr < Loan Term <= 0.90.
5Yr.
5Yr < Loan Term <= 0.95.
7Yr.
7Yr < Loan Term <= 1.00.
10Yr.
Loan Term < 10Yr.... 1.15.
Original Amortization Term.. Amort. Term <= 20Yr. 0.70.
20Yr < Amort. Term 0.80.
<= 25Yr.
25Yr < Amort. Term 1.00.
<= 30Yr.
Amort. Term < 30Yr.. 1.10.
Original Loan Size.......... Loan Size <= 1.45.
$3,000,000.
$3,000,000 < Loan 1.15.
Size <= $5,000,000.
$5,000,000 < Loan 1.00.
Size <= $10,000,000.
$10,000,000 < Loan 0.80.
Size <= $25,000,000.
Loan Size < 0.70.
$25,000,000.
Special Products............ Government- 0.60.
Subsidized.
Not a Special 1.00.
Product.
Student Housing..... 1.15.
Rehab/Value-Add/ 1.25.
Lease-Up.
Supplemental........ Use FRM or ARM
Capital Grid by
adding supplemental
UPB to the base
loan and
recalculating DSCR
and LTV.
------------------------------------------------------------------------
(c) The following risk multiplier calculations are to be used for
each respective multifamily whole loan and guarantee with the described
characteristics:
(1) For each multifamily whole loan and guarantee that is a new
acquisition, determine the appropriate risk multiplier values from
Table 22 and apply the following formula to calculate
TotalCombRiskMult:
TotalCombRiskMult = Max(CombRiskMult, 0.5) = Max(Payment Performance
Multiplier x Interest-Only Multiplier x Original Loan Term Multiplier x
Original Amortization Term Multiplier x Original Loan Size Multiplier x
Special Products Multiplier, 0.5)
(2) For each multifamily whole loan and guarantee classified as a
seasoned loan, determine the appropriate risk multiplier values from
Table 22 and apply the following formula to calculate
TotalCombRiskMult:
TotalCombRiskMult = Max(CombRiskMult, 0.5) = Max(Payment Performance
Multiplier x Interest-Only Multiplier x Remaining Loan Term Multiplier
x Original Amortization Term Multiplier x Original Loan Size Multiplier
x Special Products Multiplier, 0.5)
(3) For each multifamily whole loan and guarantee defined as a
supplemental loan, an Enterprise must determine the additional capital
required for that supplemental loan, or supplemental loans if there is
more than one supplemental loan on a property. The steps for
calculating the additional capital are as follows:
(i) An Enterprise must recalculate DSCRs and LTVs for the original
and supplemental loans using combined loan balances and combined
income/payment information.
(ii) Using the recalculated DSCR and LTV for each supplemental
loan, use Table 20 for a multifamily FRM, or Table 21 for a multifamily
ARM, to calculate the credit risk capital.
(iii) For each supplemental loan, using the combined loan balance
of the original and the supplemental, apply the loan size risk
multiplier specified in Table 22 for the factor Original Loan Size.
(iv) The capital for a supplemental loan must be calculated as the
difference between the combined capital requirements for the original
and all previous supplemental loans using the combined DSCR, LTV, and
loan balance, and the capital requirement for the original loan plus
other supplemental loans using the combined DSCR, LTV, and loan
balance.
Sec. 1240.35 Gross credit risk capital requirement for multifamily
whole loans and guarantees.
An Enterprise must determine GrossCreditRiskCapReqbps for each
multifamily loan and guarantee as the product of BaseCapitalbps and
TotalCombRiskMult as follows:
GrossCreditRiskCapReqbps = BaseCapitalbps x TotalCombRiskMult
Sec. 1240.36 Net credit risk capital requirement for multifamily
whole loans and guarantees.
(a) An Enterprise must determine the net credit risk capital
requirement for a multifamily whole loan and guarantee
(NetCreditRiskCapReqbps). For a multifamily whole loan and guarantee,
NetCreditRiskCapReqbps equals GrossCreditRiskCapReqbps:
NetCreditRiskCapReqbps = GrossCreditRiskCapReqbps
(b) An Enterprise shall determine the net credit risk capital
requirement in dollars (NetCreditRiskCapReq$) using the following
equation:
NetCreditRiskCapReq$ = UPB x NetCreditRiskCapReqbps/10,000
(c) The aggregate net credit risk capital requirement for all
multifamily whole loans and guarantees (NetCreditRiskCapReq$\MFWL) is
the sum of each loan's NetCreditRiskCapReq$.
[[Page 33424]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.049
Sec. 1240.37 Multifamily credit risk transfer capital relief for
multifamily whole loans and guarantees.
A multifamily credit risk transfer (``multifamily CRT'') is a
credit risk transfer where the underlying whole loans and guarantees
backing the CRT, or referenced by the CRT, are multifamily whole loans
and guarantees. A multifamily CRT may reduce required credit risk
capital. The methodology for calculating the reduction, also known as
capital relief, combines credit risk capital requirements and expected
losses on the multifamily whole loans and guarantees underlying or
referenced by the CRT, tranche structure, ownership, and counterparty
credit risk. The methodology is provided in Sec. 1240.38.
Sec. 1240.38 Calculation of capital relief for a multifamily CRT.
(a) To calculate capital relief for a multifamily CRT, an
Enterprise must have data that enables it to assign accurately the
parameters described in paragraphs (b) and (c) of this section.
(1) Data used to assign the parameters must be the most currently
available data. If the contracts governing the multifamily CRT require
payments on a monthly or quarterly basis, the data used to assign the
relevant parameters must be no more than 91 calendar days old.
(2) If an Enterprise does not have the data to assign the
parameters described in paragraphs (b) and (c) of this section, then an
Enterprise must treat the multifamily CRT as if no capital relief had
occurred.
(b) To calculate capital relief on a multifamily CRT, an Enterprise
must have accurate data on the following parameters:
(1) CRT tranche attachment point. An Enterprise must have accurate
information on each tranche's attachment point (ATCH) in the
multifamily CRT. For a given tranche, ATCH represents the threshold at
which credit losses of principal will first be allocated. For a given
tranche, ATCH equals the ratio of the current dollar amount of
underlying subordinated tranches relative to the current dollar amount
of all tranches all multiplied by 10,000. ATCH is expressed in basis
points or as a value between zero and 10,000.
(2) CRT tranche detachment point. An Enterprise must have accurate
information on each tranche's detachment point (DTCH) in the
multifamily CRT. For a given tranche, DTCH represents the threshold at
which credit losses of principal would result in total loss of
principal. For a given tranche, DTCH equals the sum of the tranche's
ATCH and 10,000 multiplied by the ratio of the current dollar amount of
tranches that are pari passu with the tranche (that is, have equal
seniority with respect to credit risk) to the current dollar amount of
all tranches. DTCH is expressed in basis points or as a value between
zero and 10,000.
(3) Multifamily lender loss sharing risk relief percentages. An
Enterprise must have accurate information on each tranche's multifamily
lender loss sharing risk relief percentage (MF_LS) in the
multifamily CRT. Lender loss sharing CRTs are multifamily CRTs where
the lender and an Enterprise share all multifamily credit losses on a
pari passu basis. For a given tranche, MF_LS is the percentage
of the tranche that is subject to lender loss sharing. MF_LS is
expressed as a value between zero and 100%.
(4) Multiple tranche loss sharing percentage by tranche. An
Enterprise must have accurate information on each tranche's multiple
tranche loss sharing risk relief percentage (MF_MTLS) for the
multifamily CRT. For a given tranche, MF_MTLS is the percentage
of the tranche that is either insured, reinsured, or afforded coverage
through lender reimbursement of credit losses of principal and is not
part of lender loss sharing. MF_MTLS is expressed as a value
between zero and 100%.
(5) Securitization risk relief percentage by tranche. An Enterprise
must have accurate information on each tranche's securitization risk
relief percentage (MF_S) in the multifamily CRT. For a given
tranche, MF_S is the percentage of the tranche sold in the
capital markets. MF_S is expressed as a value between zero and
100%.
(6) Credit risk capital on the underlying multifamily whole loans
and guarantees. The Enterprises must have accurate data on PGCRCbps for
the multifamily CRT. PGCRCbps is calculated using the aggregate
NetCreditRiskCapReqbps for all multifamily whole loans and guarantees
underlying the given multifamily CRT.
(7) CRT expected losses. An Enterprise must have accurate data on
total lifetime net expected credit risk losses (PGELbps) on the whole
loans and guarantees underlying the multifamily CRT. PGELbps shall be
calculated internally by an Enterprise. PGELbps does not include the
operational risk capital requirement or going-concern buffer
requirement. PGELbps is expressed in basis points or as a value between
zero and 10,000.
(8) Counterparty collateral on lender and multiple tranche loss
sharing transactions. An Enterprise must have accurate data on the
dollar amounts of CntptyCollat$ for each counterparty and by tranche in
a multifamily CRT involving lender and multiple tranche loss sharing.
For a given counterparty and tranche, CntptyCollat$ is the dollar
amount of collateral to fulfill the counterparty's trust funding
obligation. CntptyCollat$ is expressed in dollar terms as a value
greater than or equal to zero.
(9) Counterparty quota shares on lender and multiple tranche loss
sharing transactions. An Enterprise must have accurate information on
counterparty quota shares on lender and multiple tranche loss sharing
transactions for each counterparty by tranche. For a given counterparty
and tranche, CntptyShare is the percentage of MF_LS or
MF_MTLS that the given counterparty covers. CntptyShare
is expressed as a value between zero and 100%.
(10) Counterparty ratings on lender and multiple tranche loss
sharing transactions. An Enterprise must have internally generated
ratings for the counterparties on lender and multiple tranche loss
sharing transactions. An Enterprise should use the data inputs
consistent with Table 2 to part 1240 to identify the CPHaircut. The
internally generated ratings must be converted into the counterparty
ratings provided in Table 3 to part 1240. The CPHaircut percentages for
each counterparty rating provided in Table 3, are shown in Table 23 to
part 1240.
[[Page 33425]]
Table 23 to Part 1240--CPHaircut for Counterparty Rating on Lender and
Multiple Tranche Loss Sharing Transactions
------------------------------------------------------------------------
CPHaircut for
concentration CPHaircut for
Counterparty rating risk: Not high concentration
(%) risk: High (%)
------------------------------------------------------------------------
1....................................... 2.1 3.4
2....................................... 5.3 8.5
3....................................... 6.0 9.6
4....................................... 12.7 19.2
5....................................... 16.2 22.9
6....................................... 22.5 28.5
7....................................... 41.2 45.1
8....................................... 48.2 48.2
------------------------------------------------------------------------
(11) Aggregate unpaid principal balance. An Enterprise must have
accurate information on each multifamily CRT's aggregate unpaid
principal balance (UPB$).
(c) For each multifamily CRT, an Enterprise must use the parameters
described in paragraph (b) of this section to calculate multifamily CRT
capital relief using one of the three following methods:
(1) Lender loss sharing. The lender loss sharing capital relief
formulae are as follows:
(i) An Enterprise must calculate the portion of capital associated
with the lender's exposure (LenderCapital$) using the following
formula:
LenderCapital$ = (PGCRCbps/10,000) * UPB$ * MF_LS
(ii) An Enterprise must determine the uncollateralized counterparty
exposure (CntptyExposure$), which is reduced by 50% if the Enterprise
has the contractual right to receive future lender guarantee-fee
revenue. CntptyExposure$ is calculated as follows:
CntptyExposure$ = max([LenderCapital$-
CntptyCollat$],0)
(iii) An Enterprise must determine counterparty credit risk in
dollars (CntptyCreditRisk$). An Enterprise must use the following
formula to calculate CntptyCreditRisk$:
CntptyCreditRisk$ = CntptyExposure$ * (CPHaircut)
(iv) An Enterprise must calculate total CapRelief$ for the entire
multifamily CRT by adding up the capital relief in dollars and
subtracting counterparty credit risk.
CapRelief$ = LenderCapital$ -
CntptyCreditRisk$
(2) Securitization. The securitization multifamily capital relief
formulae are as follows:
(i) An Enterprise must distribute PGCRCbps to the tranches of the
multifamily CRT, while controlling for PGELbps. For a given tranche,
TCRCbps is as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.050
TCRCbps takes values between 0 and 10,000. TCRCbps must be calculated
for each tranche in the multifamily CRT.
(ii) For each tranche in a multifamily CRT, an Enterprise must use
the following formula to identify the capital relief from
securitization (STCRCbps):
STCRCbps = MF_S * TCRCbps
STCRCbps is expressed in basis points and takes values between 0 and
10,000.
(iii) An Enterprise must calculate total CapRelief$ for the entire
multifamily CRT by adding up the capital relief in dollars across each
tranche.
[GRAPHIC] [TIFF OMITTED] TP17JY18.051
(3) Multiple tranche loss sharing. The multiple tranche loss
sharing multifamily capital relief formulae are as follows:
(i) An Enterprise must distribute PGCRCbps to the tranches of the
multifamily CRT, while controlling for PGELbps. For a given tranche,
TCRCbps is as follows:
[GRAPHIC] [TIFF OMITTED] TP26JN18.052
TCRCbps takes values between 0 and 10,000. TCRCbps must be calculated
for each tranche in the multifamily CRT.
(ii) For each tranche in a multifamily CRT, an Enterprise must use
the following formulae to identify the capital relief from multiple
tranche loss sharing (MTLSTCRCbps):
MTLSTCRCbps = MF_MTLS * TCRCbps
MTLSTCRCbps is expressed in basis points and takes values between 0 and
10,000.
(iii) An Enterprise must determine the uncollateralized
counterparty exposure (CntptyExposurebps) as follows:
[[Page 33426]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.053
CntptyExposurebps takes values between 0 and 10,000. CntptyExposurebps
is reduced by 50% if the Enterprise has the contractual right to
receive future lender guarantee-fee revenue.
(iv) An Enterprise must determine counterparty credit risk
(CntptyCreditRiskbps), using the following formula to calculate
CntptyCreditRiskbps:
CntptyCreditRiskbps = CntptyExposurebps * (CPHaircut)
(v) An Enterprise must calculate total capital relief in dollars
for the entire multiple tranche loss sharing multifamily CRT
(CapRelief$) by adding up the capital relief in dollars across each
tranche and subtracting counterparty credit risk.
[GRAPHIC] [TIFF OMITTED] TP17JY18.054
(d) Total multifamily capital relief. To calculate total capital
relief across all multifamily CRTs (TotalCap Relief$\MFWL), an
Enterprise must aggregate capital relief using the following:
[GRAPHIC] [TIFF OMITTED] TP17JY18.055
Sec. 1240.39 Multifamily whole loans market risk capital
requirement.
(a) Each multifamily whole loan with market risk exposure is
subject to the multifamily whole loan market risk capital requirement.
There is no market risk exposure for multifamily guarantees. The market
risk capital requirement for a multifamily whole loan is limited to
spread risk.
(b) The multifamily whole loan market risk capital requirement is
defined as the product of the market value, a defined spread shock of
15 bps and SpreadDuration derived from an Enterprise's internal models.
(c) The dollar amount of the MarketRiskCapReq$ for a multifamily
whole loan is calculated as follows:
MarketRiskCapReq$ = Market Value x 0.0015 x SpreadDuration
(d) The aggregate market risk capital requirement for all
multifamily whole loans and guarantees (MarketRiskCapReq$\MFWL) is the
sum of each loan's MarketRiskCapReq$:
[GRAPHIC] [TIFF OMITTED] TP17JY18.056
Sec. 1240.40 Multifamily securities market risk capital requirement.
(a) Each Enterprise and Ginnie Mae guaranteed multifamily MBS
(MFMBS) in portfolio is subject to a market risk capital requirement.
The market risk capital requirement for MFMBS is limited to spread
risk.
(b) The MFMBS market risk capital requirement is defined as the
product of the market value, a spread shock of 100 bps and the
SpreadDuration derived from an Enterprise's internal models. The dollar
amount of the MarketRiskCapReq$ for an MFMBS is calculated as follows:
MarketRiskCapReq$ = MFMBS Market Value x 0.0100 x SpreadDuration
(c) The aggregate market risk capital requirement for all MFMBS
(MarketRiskCapReq$\MFMBS) is the sum of each security's
MarketRiskCapReq$:
[GRAPHIC] [TIFF OMITTED] TP17JY18.057
Sec. 1240.41 Operational risk capital requirement for multifamily
whole loans and guarantees.
(a) Each multifamily whole loan and guarantee is subject to an 8
basis point operational risk capital requirement.
(b) The operational risk capital requirement in dollar terms
(OperationalRiskCapReq$) is calculated as follows:
(1) If the Enterprise holds only credit risk or both credit and
market risk, the calculation is as follows:
OperationalRiskCapReq$ = UPB x 0.0008
(2) Otherwise, if the Enterprise holds only market risk the
calculation is as follows:
OperationalRiskCapReq$ = Market Value x 0.0008
(c) The aggregate operational risk capital requirement for all
multifamily whole loans and guarantees (OperationalRiskCapReq$\MFWL) is
the sum of each loan's OperationalRiskCapReq$.
[[Page 33427]]
[GRAPHIC] [TIFF OMITTED] TP17JY18.058
Sec. 1240.42 Operational risk capital requirement for multifamily
securities.
(a) Each MFMBS is subject to an 8 basis point operational risk
capital requirement.
(b) The operational risk capital requirement for MFMBS in dollar
terms (OperationalRiskCapReq$) is calculated as follows:
OperationalRiskCapReq$ = MFMBS Market Value x 0.0008
(c) The aggregate operational risk capital requirement for MFMBS
(OperationalRiskCapReq$\MFMBS) is the sum of each security's
OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.059
Sec. 1240.43 Going-concern buffer requirement for multifamily whole
loans and guarantees.
(a) Each multifamily whole loan and guarantee is subject to a 75
basis point going-concern buffer requirement (GCBufferReq$).
(b) The dollar amount of the GCBufferReq$ is calculated as follows:
(1) If the Enterprise holds only credit risk or both credit and
market risk, the calculation is as follows:
GCBufferReq$ = UPB x 0.0075
(2) Otherwise, if the Enterprise holds only market risk the
calculation is as follows:
GCBufferReq$ = Market Value x 0.0075
(c) The aggregate going-concern buffer requirement for all
multifamily whole loans and guarantees (GCBufferReq$\MFWL) is the sum
of each loan's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.060
Sec. 1240.44 Going-concern buffer requirement for multifamily
securities.
(a) Each MFMBS is subject to a 75 basis point going-concern buffer
requirement.
(b) The going-concern buffer requirement for MFMBS in dollar terms
(GCBufferReq$) is calculated as follows:
GCBufferReq$ = MFMBS Market Value x 0.0075
(c) The aggregate going-concern buffer requirement for all MFMBS
(GCBufferReq$\MFMBS) is the sum of each security's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.061
Sec. 1240.45 Aggregate risk-based capital requirement for
multifamily whole loans, guarantees, and related securities.
The aggregate capital requirement for multifamily whole loans,
guarantees and related securities is the cumulative total of: The
aggregate net credit risk capital requirement; the aggregate market
risk capital requirement; the aggregate operational risk capital
requirement; the aggregate going-concern buffer requirement; net of the
total capital relief from multifamily CRTs. The aggregate risk-based
capital requirement for multifamily whole loans and guarantees
(RiskBasedCapReq$\MFWLGS) is calculated as follows:
RiskBasedCapReq$\MFWLGS = NetCreditRiskCapReq$\MFWL +
MarketRiskCapReq$\MFWL + MarketRiskCapReq$\MFMBS +
OperationalRiskCapReq$\MFWL + OperationalRiskCapReq$\MFMBS +
GCBufferReq$\MFWL + GCBufferReq$\MFMBS -TotalCapRelief$\MFWL
Sec. 1240.46 Non-Enterprise and non-Ginnie Mae CMBS risk-based
capital requirement.
(a) The risk-based capital requirement for a CMBS is the cumulative
total of: A combined credit risk and market risk capital requirement,
an operational risk capital requirement, and a going-concern buffer
requirement.
(b) A CMBS is subject to 200 basis point combined credit and market
risk capital requirement. The combined credit and market risk capital
requirement for a CMBS in dollar terms (CreditAndMarketRiskCapReq$) is
calculated as follows:
CreditAndMarketRiskCapReq$ = CMBS Market Value x 0.0200
(c) The aggregate combined credit and market risk capital
requirement for CMBS (CreditAndMarketRiskCap Req$\CMBS) is the sum of
each security's CreditAndMarketRiskCapReq$ as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.062
(d) A CMBS is subject to an 8 basis point operational risk capital
requirement. The operational risk capital requirement for CMBS in
dollar terms (OperationalRiskCapReq$) is calculated as follows:
OperationalRiskCapReq$ = CMBS Market Value x 0.0008
[[Page 33428]]
(e) The aggregate operational risk capital requirement for CMBS
(OperationalRiskCapReq$\CMBS) is the sum of each loan's
OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.063
(f) A CMBS is subject to a 75 basis point going-concern buffer
requirement. The going-concern buffer requirement for CMBS in dollar
terms (GCBufferReq$) is calculated as follows:
GCBufferReq$ = CMBS Market Value x 0.0075
(g) The aggregate going-concern buffer requirement for all CMBS
(GCBufferReq$\CMBS) is the sum of each security's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.064
(h) The total risk-based capital requirement for CMBS in dollar
terms (RiskBasedCap$\CMBS) is calculated as follows:
RiskBasedCapReq$\CMBS = CapitalAndMarketRiskCap Req$\CMBS +
OperationalRisk CapReq$\CMBS + GCBuffer Req$\CMBS
Sec. 1240.47 Other assets and exposures risk-based capital
requirement.
(a) Deferred Tax Assets (DTA). DTA are assets on the balance sheet
that may be used to reduce taxable income. For purpose of this section,
adjusted core capital is core capital less DTA that arise from net
operating losses and tax credit carryforwards, net of any related
valuation allowances and net of deferred tax liabilities (DTL). The
risk-based capital requirement for DTA is calculated as follows:
RiskBasedCapReq$_DTA =
100 percent of DTA that arise from net operating losses and tax credit
carryforwards, net of any related valuation allowances and net DTL +
100 percent of DTA arising from temporary differences that could not be
realized through net operating loss carrybacks, net of related
valuation allowances and net of DTL, that exceed 10 percent of adjusted
core capital + 20 percent of DTA arising from temporary differences
that could not be realized through net operating loss carrybacks, net
of related valuation allowances and net of DTL, that do not exceed 10
percent of adjusted core capital + 8 percent of DTA arising from
temporary differences that could be realized through net operating loss
carrybacks, net of related valuation allowances and net of DTL.
(b) Municipal Debt. A Municipal Debt instrument is an obligation
issued by a state, a local government, or a state agency such as a
housing finance agency. The risk-based capital requirement for
Municipal Debt is the cumulative total of a market risk capital
requirement; an operational risk capital requirement; and a going-
concern buffer requirement. There is no credit risk capital requirement
for Municipal Debt.
(1)(i) A Municipal Debt instrument is subject to a 760 basis point
market risk capital requirement. The market risk capital requirement
for a Municipal Debt instrument in dollar terms (MarketRiskCapReq$) is
calculated as follows:
MarketRiskCapReq$ = Municipal Debt Market Value x 0.076
(ii) The aggregate market risk capital requirement for all
Municipal Debt (MarketRiskCapReq$\MD) is the sum of each instrument's
MarketRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.065
(2) Municipal debt is subject to an 8 basis point operational risk
capital requirement. The operational risk capital requirement for
municipal debt in dollar terms (OperationalRiskCapReq$) is calculated
as follows:
OperationalRiskCapReq$ = Municipal Debt Market Value x 0.0008
The aggregate operational risk capital requirement for municipal debt
(OperationalRiskCapReq$\MD) is the sum of each instrument's
OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.066
(3)(i) Municipal debt is subject to a 75 basis point going-concern
buffer requirement. The going-concern buffer requirement for municipal
debt in dollar terms (GCBufferReq$\MD) is calculated as follows:
GCBufferReq$ = Municipal Debt Market Value x 0.0075
(ii) The aggregate going-concern buffer requirement for all
municipal debt (GCBufferReq$\MD) is the sum of each security's
GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.067
[[Page 33429]]
(4) The total risk-based capital requirement for municipal debt in
dollar terms (RiskBasedCap$\MD) is calculated as follows:
RiskBasedCapReq$\MD = MarketRiskCapReq$\MD + OperationalRiskCapReq$\MD
+ GCBufferReq$\MD
(c) Cash and cash equivalents. Cash and cash equivalents are highly
liquid investment securities that have a maturity at the date of
acquisition of three months or less and are readily convertible to
known amounts of cash. Cash and cash equivalents are not subject to
credit risk, market risk, or operational risk capital requirements, nor
is there a going-concern buffer requirement for cash and cash
equivalents. The total risk-based capital requirement for cash and cash
equivalent assets is zero.
(d) Reverse Mortgage Loans and Securities. The capital requirement
for Reverse Mortgage Loans and Securities is the cumulative total of: A
market risk capital requirement, an operational risk capital
requirement, and a going-concern buffer requirement.
(1) The dollar amount of the MarketRiskCapReq$ for a reverse
mortgage loan is calculated as follows:
MarketRiskCapReq$ = Market Value x 0.05
(2) The dollar amount of the MarketRiskCapReq$ for a reverse
mortgage security is calculated as follows:
MarketRiskCapReq$ = Market Value x 0.0410
(3) The aggregate market risk capital requirement for all reverse
mortgage loans and securities (MarketRiskCapReq$\SFREV) is the sum of
each loan's and security's MarketRiskCapReq$:
[GRAPHIC] [TIFF OMITTED] TP17JY18.068
(4)(i) Reverse mortgage loans and securities are subject to an 8
basis point operational risk capital requirement. The operational risk
capital requirement for reverse mortgage loans and securities in dollar
terms (OperationalRiskCapReq$) is calculated as follows:
OperationalRiskCapReq$ = Market Value x 0.0008
(ii) The aggregate operational risk capital requirement for reverse
mortgage loans and securities (MarketRiskCapReq$\SFREV)is the sum of
each loan's and security's OperationalRiskCapReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.069
(5)(i) Reverse mortgage loans and securities are subject to a 75
basis point going-concern buffer requirement. The going-concern buffer
requirement for reverse mortgage loans and securities in dollar terms
(GCBufferReq$) is calculated as follows:
GCBufferReq$ = Market Value x 0.0075
(ii) The aggregate going-concern buffer requirement for all reverse
mortgage loans and securities (GCBuffer Req$\SFREV) is the sum of each
loan's and security's GCBufferReq$.
[GRAPHIC] [TIFF OMITTED] TP17JY18.070
(6) The total risk-based capital requirement for reverse mortgage
loans and securities in dollar terms (RiskBasedCap$\SFREV) is
calculated as follows:
RiskBasedCapReq$\SFREV = CapitalAndMarketRiskCap Req$\SFREV +
OperationalRisk CapReq$\SFREV + GCBuffer Req$\SFREV
(e) Single-family rentals. Single-family rentals are multiple
income-producing single-family units owned by an investor for the
purpose of renting them and deriving a profit from their operation.
Single-family Rentals shall be treated as multifamily whole loans and
guarantees for the purposes of assigning risk-based capital.
Sec. 1240.48 Unassigned Activities.
(a) For purposes of this part, an Unassigned Activity means any
asset, guarantee, off-balance sheet guarantee, or activity for which
this part does not have an explicit risk-based capital treatment. An
Unassigned Activity must be assigned a capital requirement.
(b) The Director has the authority under 12 U.S.C. 4612(e) to treat
as an Unassigned Activity any asset, guarantee, off-balance sheet
guarantee or activity that exists as of the effective date of this
part, or is not in existence as of the effective date of this part,
which has:
(1) Characteristics or unusual features that create risks for an
Enterprise that are not adequately reflected in the specified
treatments in this part; or
(2) For which the specified treatment in this part no longer
adequately reflects the risks to an Enterprise, either because of
increased volume or because new information concerning those risks has
become available.
(c) The methodology for determining the capital requirement for an
Unassigned Activity includes the following steps:
(1) An Enterprise must provide a notification to FHFA of a proposal
related to an Unassigned Activity as soon as possible, but in no event
later than thirty days after the date on which the transaction closes
or is settled. This obligation applies with respect to any activity for
which this part does not otherwise specifically prescribe a risk-based
capital requirement, or that FHFA has notified the Enterprise is an
Unassigned Activity. The notification must include:
(i) A proposal for an appropriate capital treatment that will
capture the credit and market risk of the Unassigned Activity; and
(ii) Narrative and data to explain the Unassigned Activity
sufficient for FHFA to understand the risk profile of the Unassigned
Activity.
[[Page 33430]]
(2) FHFA will review the notification and determine whether an
existing treatment specified in this part captures the risks of the
Unassigned Activity. If FHFA determines there is no effective existing
treatment, FHFA will determine an appropriate treatment. FHFA will
provide an Enterprise with an order specifying the risk-based capital
treatment for the Unassigned Activity. If FHFA does not provide an
Enterprise with an order specifying the risk-based capital treatment
for the Unassigned Activity in time for the Enterprise to prepare its
capital report, an Enterprise shall use its own proposed capital
treatment, reflecting its assessment of the capital required in light
of the various risks the activity presents, including an operational
risk capital requirement and a going-concern buffer requirement.
(d) This part may be amended from time to time to provide for a
risk-based capital requirement treatment for a specified Unassigned
Activity.
Sec. 1240.49 Aggregate risk-based capital requirement calculation.
(a) The calculation for the aggregate risk-based capital
requirements for total capital (RiskBasedCapReq$_TOTAL), as described
in Sec. 1240.4, is as follows:
[GRAPHIC] [TIFF OMITTED] TP17JY18.200
(b) RiskBasedCapReq$_TOTAL shall also include any capital
requirements for Unassigned Activities.
Sec. 1240.50 Minimum leverage capital requirement: 2.5 percent
alternative.
Each Enterprise shall maintain at all times core capital in an
amount at least equal to 2.5 percent of total assets and off-balance
sheet guarantees related to securitization activities, or such higher
amount as the Director may require pursuant to part 1225 of this
chapter.
Sec. 1240.51 Minimum leverage capital requirement: Bifurcated
alternative.
Each Enterprise shall maintain at all times core capital in an
amount at least equal to 4% of non-trust assets and 1.5% of trust
assets, or such higher amount as the Director may require pursuant to
part 1225 of this chapter.
CHAPTER XVII--OFFICE OF FEDERAL HOUSING ENTERPRISE OVERSIGHT,
DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT
SUBCHAPTER C--SAFETY AND SOUNDNESS
PART 1750--[REMOVED]
0
4. Remove part 1750.
Dated: June 27, 2018.
Melvin L. Watt,
Director, Federal Housing Finance Agency.
[FR Doc. 2018-14255 Filed 7-16-18; 8:45 am]
BILLING CODE 8070-01-P