Financing Focus

Separation Anxiety

Does splitting Fannie and Freddie’s platforms make sense?

In February the White House published a report to Congress mandated by the Dodd-Frank Financial Reform Bill. The white paper indicated a significantly reduced role for the government-sponsored entities Fannie Mae and Freddie Mac, winding down their conventional lending programs and allowing the private capital markets to fill the void.

The paper’s three options indicate government support of the mortgage markets should re-emerge in times of crisis. However none of the options clearly ensure taxpayers will be shielded from billion dollar losses in the event of a future crisis.

Performance Comparisons

Like the Dodd-Frank bill, the white paper makes only a few distinctions between reforming the single-family and multifamily mortgage markets. If the ultimate goal is to privatize both mortgage markets, why is it important to distinguish between single family and multifamily?

By analyzing the state of the two mortgage platforms separately, we gain insight into one strategy for consummating the privatization process. As of third-quarter 2010, the Federal Housing Finance Agency reported that Fannie and Freddie had drawn $151 billion of capital through the Treasury Department’s preferred stock purchase program to bolster the $78 billion the two already held in capital. Of the $229 billion in total capital between Fannie and Freddie, $175 billion — more than 76 percent — has been used to support guarantees on single-family loans. By comparison, the GSEs have used only $11 billion in draws, less than 5 percent, to support guarantees on multifamily loans. Additionally, $5 billion of the $11 billion drawn to support multifamily loans is associated with accounting write-downs for tax credits, according to FHFA — not actual losses — meaning only $6 billion has been drawn to support multifamily guarantees.

The contrast in performance is further demonstrated by comparing the GSEs’ multifamily and single-family loan performances. In 4Q10, the Fannie and Freddie 60+ day multifamily delinquency rates were 0.71 percent and 0.31 percent respectively, according to the Mortgage Bankers Association, while the combined 60+ day 3Q10 delinquency rate for GSE single-family loans was 5.60 percent, according to the Office of Thrift Supervision’s OCC and OTS Mortgage Metrics Report: Third Quarter 2010.

In addition to outperforming the single-family platforms, Fannie and Freddie’s multifamily programs stack up well against other commercial mortgage lenders’ platforms. The two enterprises have respective delinquency rates of 0.71 percent and 0.31 percent, while commercial mortgage-backed securities’ multifamily delinquency rates stand at 10.15 percent as of January, according to Realpoint. Life company delinquency rates were a low 0.19 percent at the end of the 4Q10, while bank and thrift delinquency rates stood at 4.19 percent, according to MBA.

Now consider origination volumes: Fannie and Freddie combined to originate $31.9 billion in new multifamily mortgages in 2010, two-and-a-half times more than the $12.3 billion of CMBS issuance in all of 2010, according to the CRE Finance Council’s Compendium of Statistics, and more than 50 percent higher than the $20.3 billion in life company commercial mortgage commitments during the first three quarters of 2010, according to MBA.

Good Bank/Bad Bank

With Fannie and Freddie’s multifamily platforms thriving and the single-family platforms costing taxpayers billions, what strategy should legislators pursue to reduce the government’s role in the mortgage markets? One approach follows precisely what the data spells out — reforming and privatizing the multifamily and single-family platforms separately.

A good bank/bad bank strategy separates a lender’s bad assets from the performing ones in order to unburden a company’s healthy and profitable business lines. Because federal money has almost entirely gone to supporting single-family loan guarantees, the GSEs simply can split the already distinct multifamily and single-family assets and operating businesses. Fannie and Freddie’s multifamily platform and assets could be sold off as a performing enterprise, separate from the single-family platform. Selling the GSE multifamily programs would reduce political oversight and bureaucracy, as well as provide a faster path to mortgage market privatization than a progressive winding down of origination activity. Additionally, if the multifamily platforms were privatized through a buyout, the government could use its share of the profits as a capital buffer for the single-family platform and lessen the need for the preferred stock purchase program to cover losses.

A rapid privatization could have drawbacks: Many feel the absence of government support for Fannie and Freddie would leave a large void in the capital markets, and a buyout of the multifamily platforms raises concerns over apartment financing availability. However, the recent resurgence of CMBS and life company lending should progressively decrease multifamily borrowers’ reliance on the GSEs.

The white paper also notes that without federal backing on Fannie and Freddie mortgage bonds, interest rates would be higher and borrowers would suffer. While higher rates may be an unavoidable consequence of reducing the government’s role in the mortgage markets, it is a cost necessary to limit taxpayer exposure to financial crises.

The magnitude of Fannie and Freddie in today’s mortgage markets makes the transition one of the most complex tasks in reforming the financial markets. During 2011 we hope that legislators and regulators consider the good bank/bad bank model.

Nick Silbergeld is a vice president at George Smith Partners, a Los Angeles-based real estate investment banking firm. Contact him at


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