The latest Basel III proposal could encourage banks to hold more mortgages, but its impact on financing they provide to nonbanks selling home loans is "murkier," according to a new report.
Pennymac's early analysis of the proposed bank-capital rules' impact on warehouse lending indicates that they currently preserve part of an earlier draft providing relief in one area and heavier risk weights. The rules are currently in the midst of a comment period and may change.
"For mortgages, there were so many changes from the 2023 proposal. But when it comes to the warehouse lines, it stuck pretty close to what we saw during the Biden era," said Isaac Boltansky, managing director and head of public policy at Pennymac.
Warehouse line distinctions
Risk weights for drawn warehouse lines treated as corporate exposures could fall from 100% to as low as 65% for the largest so-called Basel III institutions, Pennymac states in its latest Policy Pulse report. The decrease would be smaller for standard banks at 95%.
Banks of systematic importance to the United States and category 2 banks, which have $700 billion or more in assets or $75 billion in cross-jurisdictional activity, would see their charge for unconditionally cancelable commitments go from 0% to 10%.
"While higher, this appears to be better than the 2023 proposal," Pennymac's report states.
All commitments that are not unconditionally cancelable would have a 40% credit conversion factor, which effectively is more punitive for unused commitments on lines maturing in less than one year. Short-term uncommitted lines currently have a credit conversion factor of just 20%.
Overall, Pennymac refers to the impact on warehouse lines as a "mixed bag," and that's a concern for nonbank mortgage companies that rely heavily on this financing.
While groups like the Mortgage Bankers Association have noted warehouse line rules are important, they've taken a back seat in discussions about home loans, where potential new breaks for portfolio products and mortgage servicing rights have been more prominent.
"I think there's going to be a very vigorous and healthy debate over what the MSR risk weighting should be. I think that'll take a lot of air out of the room. I think that there's going to be a lot of support for the whole loan risk weightings, which will gather a lot of applause," Boltansky said. "One of my questions is, are we going to be able to get enough air time to clarify and improve the warehouse language to ensure that it doesn't have a deleterious effect on credit availability?"
Where mortgage insurance stands
While the proposed rules do specifically call for feedback on the role of private mortgage insurers, the breaks for lower loan-to-value ratios don't recognize the coverage MIs provide on higher LTV mortgages, Boltansky noted.
Some are wary of private mortgage insurers because they struggled in the Great Financial Crisis. But they have undergone protective reforms since then, such as the addition of government-sponsored enterprise private mortgage-insurance eligibility requirements.
"They play an important role in the mortgage ecosystem, and leaving them out seems inconsistent with all the work that's been done," Boltansky said.
Overall takeaways, for now
Uncertainty around discussions about things like mortgage insurance and the MSR weighting make it challenging to read the tea leaves on how the proposal will impact home financing and the players involved, and so too do several nuances that impact capital rules.
Mortgage businesses and their trade groups may still need some time to get their arms fully around the rule's implications because of these nuances which sometimes mean comparisons can be tricky.
A case in point are LTV risk weightings may look like they are 5 percentage points lower for the systematically-important Basel III banks. However, Basel III institutions have a separate 5% operational risk charge "which makes the effective impact the same," Pennymac noted.
Commentators have until mid-June to analyze and provide feedback on the proposal. Barring further discoveries, it looks likely to be a net positive for mortgages, bringing more bank competition to sectors like low LTV portfolio loans, but leaving nonbanks as the main players.
"It's meaningful, not monumental," Boltansky said.
