Senators Draft Plan to Abolish Fannie Mae, Shrink Backstop

A bipartisan group of U.S. senators is putting the final touches on a bill that would liquidate Fannie Mae and Freddie Mac (FMCC) and replace them with a government reinsurer of mortgage securities behind private capital.

The legislation, written by Tennessee Republican Bob Corker and Virginia Democrat Mark Warner with input from other senators, is likely to be the first detailed blueprint reflecting a growing consensus in Washington that the U.S. role in mortgage finance should be limited to assuming risk only in catastrophic circumstances. It also reflects the prevailing view among lawmakers that the two government-sponsored enterprises should cease to exist, according to a discussion draft obtained by Bloomberg News.

As a serious bipartisan effort written by members of the Senate Banking Committee, the measure could restart the long-stalled debate over the future of the mortgage-finance system. Still, it represents only a first step in what is likely to be a long legislative process, and it’s unclear how much support the authors will get from their colleagues.

“We expect the bill to change over time, as that is what happens when legislation is debated,” Jaret Seiberg, an analyst at Guggenheim Securities LLC’s Washington Research Group, said today in a note to clients. “We continue to believe that GSE reform may not cross the finish line until after the next president is inaugurated” in 2017.

Photographer: Andrew Harrer/Bloomberg

According to the draft, Washington-based Fannie Mae and McLean, Virginia-based Freddie Mac would be liquidated within five years and the U.S. Treasury would assume responsibility for their existing mortgage guarantees. Close

According to the draft, Washington-based Fannie Mae and McLean, Virginia-based Freddie... Read More

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Photographer: Andrew Harrer/Bloomberg

According to the draft, Washington-based Fannie Mae and McLean, Virginia-based Freddie Mac would be liquidated within five years and the U.S. Treasury would assume responsibility for their existing mortgage guarantees.

First-Loss Position

The draft bill would require private financiers to take a first-loss position adequate to cover price declines as steep as those seen during recessions over the past century.

Housing-industry participants who have seen the draft have been critical of the amount of risk that private capital would assume. Meanwhile, small lenders have expressed concern that the measure would place the burden of securitizing loans on banks without adequate resources.

The proposal reflects the broad outlines of a plan issued in February by the Bipartisan Policy Center, a group headed by former Democratic and Republican senators and housing officials. That plan has gained attention in Congress and in President Barack Obama’s administration, which has yet to issue recommendations on a path forward on housing.

“A bipartisan bill that’s thorough becomes, at a minimum, a good baseline to begin the process of the full debate that could go through Congress,” David Stevens, president of the Mortgage Bankers Association, said in an interview.

Assume Responsibility

According to the draft, Washington-based Fannie Mae and McLean, Virginia-based Freddie Mac would be liquidated within five years and the U.S. Treasury would assume responsibility for their existing mortgage guarantees. The two companies, which have been under U.S. conservatorship since 2008, package mortgages into securities on which they guarantee payment of principal and interest.

The two government-sponsored enterprises have begun posting record profits after drawing a total of $187.5 billion in aid from taxpayers to stay afloat after the housing crisis brought them to the brink of bankruptcy. Heartened by the change of fortune, hedge funds including Paulson & Co Inc. and Claren Road Asset Management LLC have been buying shares of the companies’ junior preferred stock and urging lawmakers to drop plans for abolishing them.

The discussion draft of the bill says any proceeds from the liquidation first would go to the U.S. government as the senior preferred shareholder in each of the companies, and then to holders of junior preferred shares, followed by holders of the common shares.

Fannie Mae (FNMA)’s 8.25 percent of preferred shares were trading at $8.75 at 11 a.m., up 7 percent from yesterday’s close of $8.20. They have climbed from $1.67 at the end of last year. The securities have a par value of $25.

Securitization Platform

The new agency, to be named the Federal Mortgage Insurance Corp., would continue existing efforts to build a common securitization platform and would have the capacity to help small lenders issue securities. The agency would continue Fannie Mae and Freddie Mac’s existing multifamily housing guarantees.

“We continue to work on a responsible and bipartisan proposal that will maintain the availability of mortgage credit, expand the role of the private sector in housing finance, and better protect the taxpayers,” Kevin Hall, a spokesman for Warner, said in an e-mail.

Laura Herzog, a Corker spokeswoman, said it would be premature to discuss specifics of the bill “because the process is still very fluid.”

“We hope to find something that materially improves from the past system where gains were privatized, losses were left for the taxpayer to clean up, and the system was way too thinly capitalized against downturns,” she wrote in an e-mail.

The process is likely to take time.

“Given the size and complexity and government-dominance of the mortgage market, lawmakers have to move slowly and really take note of input from various stakeholders,” Isaac Boltansky, an analyst at Compass Point Research and Trading, said in an interview.

To contact the reporter on this story: Clea Benson in Washington at cbenson20@bloomberg.net

To contact the editor responsible for this story: Maura Reynolds at mreynolds34@bloomberg.net

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