FHFA Acting Director Edward DeMarco offered some prepared remarks today making it abundantly clear that his preference is for forbearance over forgiveness in the great mortgage hole in the US balance sheet's dam. As Bank of America's Chris Flanagan noted this evening "[DeMarco] effectively nixed the idea of broad-based principal forgiveness by Fannie Mae and Freddie Mac" in his comments on the Treasury's incentives to forgive principal on underwater borrowers. Citing three factors - NPV Impact to taxpayer, moral hazard, and operational costs - the FHFA Director indicated that forbearance (simply put - delaying foreclosure) is effectively a shared appreciation mortgage (SAM) without the operational complexities of a more formal SAM. BofA concludes: "his preliminary remarks on the incentive approach to principal forgiveness of GSE loans [mean] that there will be zero to minimal scale of such an approach." Back to the drawing board for the Treasury (or more forced-through unintended consequences?).
30Y Mortgage spread to 10Y TSY remains close to all-time lows...
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Acting FHFA Director DeMarco Effectively Says No to Principal Forgiveness by GSEs
In prepared remarks today, Acting FHFA Director Edward DeMarco offered preliminary thoughts on the use of Treasury incentives to forgive principal on underwater borrowers and effectively nixed the idea of broad-based principal forgiveness by Fannie Mae and Freddie Mac. DeMarco cited three key factors in the analysis:
- NPV impact to taxpayer. The Treasury incentive payments would be considered as an offset to the NPV benefits of a principal reduction modification.
- Borrower incentives. This is the moral hazard issue associated with principal forgiveness. DeMarco noted that less than 1 million of the 11 million underwater borrowers would benefit from forgiveness. He expressed specific concern about keeping the remaining borrowers current on their mortgages, most of whom have always been current. He clearly expressed concern about incentivizing these borrowers to claim hardship or go delinquent on their mortgage.
- Operational costs. He noted that forgiveness guidelines would have to be clearly rolled out to over 1000 servicers and that there would be costs associated with such a rollout. Moreover, he cited opportunity costs relative to other retention programs, such as HARP. These operational costs need to be factored into the benefit analysis of principal forgiveness.
DeMarco expressed a clear preference for forbearance over forgiveness, and indicated that forbearance is effectively a shared appreciation mortgage, with far fewer operational complexities than an explicit shared appreciation mortgage. He indicated that he would like to wrap up the discussion on principal forgiveness within the next few weeks.
We conclude from his preliminary remarks on the incentive approach to principal forgiveness of GSE loans that there will be zero to minimal scale of such an approach.