September 15, 2010 – Defaulted mortgage loans sold to Fannie Mae and Freddie Mac during the peak years of the mortgage boom are now resulting in billion dollar losses for some of the largest banks in the country.
Fannie Mae and Freddie Mac, now under the conservatorship of the Federal Housing Finance Agency (FHFA), are seeking to limit their losses on defaulted mortgages by demanding that banks repurchase defaulted mortgages. Fannie and Freddie are claiming that banks sold them loans that did not “meet the Enterprises’ underwriting and eligibility guidelines” and are therefore contractually obligated to repurchase the defaulted loans.
Buyback requests have resulted in major losses for some banks. Bank of America, facing buyback requests of up to $20 billion, has already incurred losses of about $3.5 billion since early 2009.
Banks selling loans to Fannie and Freddie are obligated to repurchase loans that did not meet the contractual “representations and warranties” made when the loans were sold. In order to reduce their own losses on defaulted mortgages, Fannie and Freddie are scrutinizing defaulted loans for any evidence of contractual violations.
The amount of defaulted mortgages that banks are being asked to repurchase now totals approximately $30 billion. In testimony before Congress, Edward DeMarco, Acting Director of the FHFA, detailed the extent of the buybacks requests and noted that many banks are resisting the buyback demands.
Although the Enterprises have made progress in enforcing lenders’ representation and warranty obligations, outstanding repurchase requests continue to be of concern to FHFA. During 2009, the Enterprises’ lenders repurchased $8.7 billion of single-family mortgages, and slightly higher volumes are being repurchased in 2010. However, as of the end of the second quarter 2010, Fannie Mae had $4.7 billion in outstanding repurchase requests, and Freddie Mac had $6.4 billion in outstanding repurchase requests.
More than one-third of these repurchase requests have been outstanding for more than 90 days. Many of the lenders with aged, outstanding repurchase requests are among the largest financial institutions in the United States. The delays by lenders in repurchasing these loans are a significant concern to FHFA. There are ongoing discussions between the Enterprises and lenders to reach a workable solution. If these discussions do not yield reasonable outcomes soon, FHFA may look to its supervisory and conservatorship authorities provided under the statute to resolve the situation.
The FHFA, as conservator for Fannie and Freddie, has considerable power to eventually force the banks to buy back defaulted mortgages. The goal of the FHFA is to limit the need for future capital request from the US Treasury and reduce losses to the taxpayer. The banks that receive buyback requests often go after the lender that originally sold the loan to them. With hundreds of billions in defaulted mortgages, the battle over who eventually takes the losses is likely to take years.
The FHFA is also seeking potentially larger buyback requests on their portfolio of defaulted private-label mortgage-backed securities (MBS). Private-label mortgages are mortgage loans not underwritten under Fannie and Freddie guidelines. Many of the private label mortgages were underwritten with little regard to income verification or credit rating and have experienced very high default rates.
Private-label mortgages were often packaged into MBS and Fannie and Freddie unwisely purchased significant amounts of these securities which resulted in huge losses. Fannie Mae and Freddie Mac presently hold about $43 billion and $97 billion, respectively, of private-label mortgages.
Due to the fact that the FHFA did not have the proper documentation to determine if reps and warranties were violated by the private-label MBS counterparties, the FHFA issued subpoenas to 64 “various entities” requesting loan files and transaction documents. If the FHFA determines that the MBS issuers are liable for losses incurred by Fannie and Freddie, they will seek to recover those losses. Many of the MBS were issued by some of the largest firms on Wall Street who may now be facing billions of dollars in losses.