Next year is shaping up to be a pivotal one for the future of the Common Securitization Platform and the issuance of the single security by Fannie Mae and Freddie Mac.
The Federal Housing Finance Agency, the conservator for Fannie and Freddie, proposed a new, combined securitization platform for the government-sponsored enterprises in February 2012. More than four years later, Freddie Mac has begun the process of moving onto the platform, and next year the FHFA will likely release a timeline for Fannie Mae to do the same.
The platform is being developed by Common Securitization Solutions, a private joint venture between Fannie and Freddie. When Fannie moves onto the platform, the GSEs will begin issuing the so-called single security, a mortgage-backed security that includes loans from both with pricing similar to Fannie's current security.
For lenders, a combined platform and security could indirectly improve the prices their loans fetch on the secondary market. That's because if all goes according to plan, the modernized platform and single security would attract more investors to the MBS market. The CSP has also been proposed as the potential foundation for rebooting private-label securitizations, which have been moribund since the financial crisis nearly a decade ago.
The plan is part of an effort to address pricing discrepancies in the secondary market. Freddie mortgage-backeds currently trade at a discount to Fannie's. Freddie compensates investors for this, which cuts into its revenue.
While the platform and security have been nearly half a decade in the making, the next year should give the industry an idea of where the finish line will be. But other questions remain, including whether investors really will take to the new security and how policy changes could influence the project. Here's a rundown of the big issues facing the common securitization platform.
How long will it take to transition to the platform and the single security?
Freddie began using the CSP in late November for data acceptance, issuance support and bond administration activities, representing the first stage, or Release 1, of the platform. This involved moving Freddie's existing single-class securities onto the platform — the transition did not involve resecuritizations or real estate mortgage investment conduits.
"Our existing securities and our participation certificates are being issued on the platform," said Steve Clinton, senior vice president of Freddie's strategic initiatives division. "So far we've not experienced any significant problems with the launch. We're only a month in and things are going well."
FHFA Director Mel Watt called the implementation "a significant milestone."
Release 2 will involve the transition to the single security and Fannie's move onto the CSP. Accomplishing this won't be easy, Clinton said.
"The next phase is challenging because you're going to more complex securities and more parties," Clinton said. "Getting the joint venture, Fannie and Freddie all aligned is a challenge."
According to the FHFA's annual "scorecard," the GSEs were supposed to have released timelines for the rest of the CSP implementation by the end of 2016. That did not happen, in part because regulators asked Fannie and Freddie to postpone releasing a timeline until the first quarter of 2017, said Renee Schultz, Fannie Mae's senior vice president of capital markets.
"Industry participants, once they know a date, are going to make investments in their own platforms, and as soon as they start to do that work, it costs them," Schultz said. "You don't want to put a date out there and then find it slipping."
The technology that will "commingle securities and structure transactions" when the GSEs begin to issue the single security "isn't ready yet," Schultz said. In the meantime, she said, Fannie is monitoring Freddie's testing of the platform to gain insight as it makes preparations for its own transition.
Some observers remain circumspect about the likelihood of any major development with the CSP in the year ahead.
"Nothing is going to happen with the CSP in 2017," said Laurie Goodman, co-director of the Housing Finance Policy Center at the Urban Institute.
She acknowledged that Freddie's move to the platform occurred "pretty much on schedule," but she questioned the importance of that milestone. "Freddie is on for back-office purposes," she said.
She noted that "there is somewhat more incentive" for Freddie to move forward than there is for Fannie, since pricing would improve only for the former's securities.
While there's no timeline yet, the 2018 goal remains, said Michael Fratantoni, the Mortgage Bankers Association's chief economist and senior vice president of research and industry technology.
"They're still confident of 2018 as a launch date," said Fratantoni, who is part of an industry advisory group for the CSP implementation.
If the timeline is released next year, a 2018 launch date would be more likely. Fannie and Freddie have committed to giving market participants a minimum of 12 months' preparation before the single security goes live. So if no timeline is released in the year ahead, then 2018 will not happen.
How will investors respond to the single security?
Market participants may not need to be so concerned about investor receptiveness to the CSP, if Ginnie Mae's experience is any indication.
Since 1983, Ginnie Mae has issued the Ginnie Mae II securities, which can have single- or multiple-issuer pools unlike their Ginnie Mae I MBS counterparts. As a result, the underlying loans for Ginnie Mae II MBS can come from different sources, including the Federal Housing Administration, the Department of Veterans Affairs and the Department of Agriculture.
"The market has already demonstrated an appetite for that approach," said Ed DeMarco, a senior fellow at the Milken Institute and the former acting director of the FHFA.
And in recent years, the Ginnie Mae II security has become increasingly more popular than the Ginnie Mae I security, according to Fratantoni, making up as much as 95% of Ginnie's issuance.
"I give credit to the folks at Ginnie Mae," Fratantoni said. "They were giving the market assurance and incentive, and the market moved there."
Given the similarities to the Ginnie Mae II security on the multiple-issuer front, it's not too far a leap in logic to assume that the appetite for the single security from Fannie and Freddie will be similar.
But other factors beyond the design of the security could affect investors' appetite for it, Fratantoni warns. In particular, it is unclear whether investors holding onto Freddie Mac participation certificates, or PCs, will be willing to exchange them for the newer securities or let them run their course instead. Among these investors, of course, is the Federal Reserve.
The Fed has been "very circumspect about their plans to exchange out of Freddie Mac securities or to be more or less active in the market," Fratantoni said. "By the middle of next year, they may be making changes in their MBS. … If and how they would change their activity in the market is one big question."
Another major investor class that could react unfavorably to the new security is foreign investors.
"Are they going to view this as a potentially more disruptive period?" Fratantoni said. "Are they going to back away?"
For their part Fannie and Freddie have been reaching out to industry participants to gauge sentiment and to educate them about how the CSP and the single security will function. The results, they said, have thus far been positive.
"We've seen a steady rise in the focus being put on this issue by dealers and investors," Clinton said. "I think we're on a good path. Awareness is up and focus is up."
How could the CSP shape Trump's agenda?
President-elect Donald Trump's pick for Treasury secretary, Steven Mnuchin, has made calls to privatize Fannie and Freddie. The continued implementation of the platform could make such a move more feasible because that exact outcome was considered when the plan for the CSP was being created.
"We knew at some point Fannie and Freddie as GSEs were going to be shut down," DeMarco said. "To do that, the market had to have an infrastructure to make sure that the transition was seamless."
It's no mistake, in other words, that previous and current GSE reform proposals often make mention of the CSP, he said.
While Fannie and Freddie, as they currently exist, may not be around forever, the CSP should have a longer shelf life. In such an event, the CSP could become a sort of financial utility that allows for the creation of mortgage-backed securities, according to Cliff Rossi, professor of the practice and executive-in-residence at the University of Maryland's Robert H. Smith School of Business.
"That does play into this notion that market stability is achieved by virtue of having the profits in place to manufacture these securities on an ongoing basis," he said. "A common security makes a lot of sense regardless of your politics."
Rossi did caution, though, that some sort of regulatory upheaval could cause the CSP's implementation to be "slowed a little."
Of course, for all of this to transpire regulatory upheaval would need to occur in the first place.
The incoming Trump administration "doesn't have a proposal; if he had a proposal it would be different," Goodman said. "It’s going to take years and years to recapitalize them if or when the decision is made to do so."
What should concern lenders about the CSP and the single security at this point?
One concern that has cropped up time and again with the CSP and the single security is whether their introduction will cause any disruption to investors, and it's a concern the GSEs have taken seriously.
That is one of the main reasons why Fannie is moving onto the platform separately and after Freddie.
"We want to be mindful of the TBA market," Schultz said, referring to "to be announced" trading, in which the securities to be delivered are not designated at the time of the trade. "And as a larger issue, we want to make sure there isn't a disruption to the market."
And as detailed before, investor appetite for the new security might not be robust enough, which could hurt liquidity.
"There's the danger of less liquidity being available in the market," Fratantoni said. "If you're in an environment where there is uncertainty about where the administration is headed for GSE policy, that may cause foreign investors to be more hesitant to invest until that policy is cleared up. Hesitancy and uncertainty is going to be negatively impacting the market no matter what."
But market response to the new security and the platform is not the only concern on lenders' minds when considering the CSP. Who controls the platform is another worry for some smaller lenders.
While the CSP is run by Common Securitization Solutions, a joint venture between Fannie and Freddie, legislation has cropped up in the past that would shift ownership to a fully private entity.
Sen. Richard Shelby, R-Ala., introduced a bill in 2015 that would do that as part of broader changes to financial regulation, but the legislation never went to a full Senate vote. Similar language also made it into the Senate version of a Treasury appropriations bill but was taken out in the final version.
Now with Republican control of Congress and the White House, such a proposal could become more feasible. Similarly, if the GSEs were to be privatized, it is not clear how control of the platform would be regulated.
"The fact that it was considered in a comprehensive bill that passed the Senate Banking Committee is a source of concern," said Scott Olson, executive director of the Community Home Lenders Association. "Given that it had moved forward before, it will continue to be a source of concern that it could happen."
While his trade group supports the broader effort to implement the CSP, it is opposed to the platform moving into private hands for fear that it could make it harder for smaller lenders to compete, Olson said.
"Our opposition to turning the CSP over to a private entity is specifically that it could be controlled by Wall Street banks that are vertically integrated, so they use that then to capture, monopolize or get better pricing in the origination of loans," Olson said.
Is the CSP really that important?
While it's the CSP that gets the most discussion when talking about this issue — largely due to the time it's taken to get the thing up and running — more attention should be paid to the single security, Goodman said.
"It's not a huge policy issue," she said of the platform. "It's a piece of software."
The CSP, she said, is merely a replacement to the deteriorating platforms used by Fannie and Freddie. "They needed to put in new infrastructure—it made sense to do it as one effort and not two efforts," she said.
Rather than focus so much on the CSP and the single security, Goodman identified credit-risk transfers as something to study in the year ahead.
"What happens to CRT is really interesting," she said. "To what extent do they move ahead with front-end credit risk transfers? Does it get slowed down because of rising rates?"
To others, the CSP is still not the ideal conduit for government-guaranteed MBS. DeMarco points to Ginnie Mae's platform, in particular, as an alternative to the CSP. Earlier this year, he released a paper arguing that using the Ginnie Mae platform would make the transfer to a new system for GSE MBS smoother than using a completely new platform.
"We think that Congress should direct Ginnie Mae and FHFA to do a detailed due diligence review of the CSP to determine how it optimally fits into that framework," DeMarco said.
But where the CSP could make more of a difference to the secondary market is not in how it handles MBS issued by Fannie and Freddie, but in how it could become a platform for private securitization as well.
The FHFA has supported plans for the CSP's open architecture to support private-label securitization. But some worry that goal has been lost in the mix. In May 2015, a bipartisan group of senators wrote to Watt to bring up concerns about the CSP's development, including steps that were "setting up for the CSP to act as an appendage of the GSEs, rather than a truly unbiased and open market utility available for multiple issuers."
Opening up the CSP to the private-label side of the market, while theoretically feasible, is not an easy undertaking.
"That's a different set of data and considerations that's required than for the agency MBS market," Fratantoni said. "It could be possible, but it would be more difficult than adding another guarantor as what Fannie and Freddie are doing."
That said, its applications for the private-label market could allow the CSP to retain significance if intervening policy changes come about.
"There are multiple ways that what's going on at the CSP could still have value," DeMarco said.