The US Treasury’s much-awaited Housing Reform Plan, identifying recommended legislative and administrative changes of the government sponsored enterprises (GSEs), issued last Thursday, is very much in line with mainstream expectations, with modest exceptions. Most attention should be on the administrative reform proposals, as few believe Congress will do anything for some time. Importantly, the administrative reform proposals are dominated by future studies, negotiations, and decisions – all with no public timeframe or deadline specified, most to be done by the Federal Housing Finance Agency (FHFA). Essentially, this is a roadmap and a statement of intent, with more to come at some unknown time.

Below is a list of key issues that need to be addressed in administrative reform, along with a small commentary on each, the expectations previously held by the mainstream of housing finance observers, and the result in the Treasury document, for comparison.

General Introduction:

Expectations: The introduction to the plan would call for (1) conservatorship to end, (2) the GSEs to play a smaller role in housing finance with the private sector to play a bigger one, (3) the secondary market to have more competition rather than be a duopoly, (4) taxpayers to be protected from another “bailout”, and (5) the 30-year fixed rate mortgage to be protected.

Results: Very much in line with expectations. There is also a call for coordination between the FHFA and HUD to ensure there is not unnecessary duplication between lending supported by the GSEs and the Federal Housing Administration (FHA). The wording did have some unexpectedly positive things to say about the role the GSEs play in housing for low- and moderate- income borrowers.

Business Model: Will there be any material change in how the GSEs operate today, even without legislation?

Expectations: That it would support Republican philosophy by calling for some reduction in the “footprint” of the GSEs, maybe listing a few specific areas of modest or moderate impact.

Results: Mostly as expected, but the calls for a smaller single-family footprint were put off for future study by the FHFA, with some suggestions of possibly significant impact (e.g. cash-out refinancings). It also calls for materially reducing the multifamily footprint by revising the “cap” structure in use, with the FHFA to study and implement changes.  (The document also calls for selected changes by other regulators, e.g. the SEC, to eliminate disadvantages to others in competing with the GSEs.)

The Net Worth Sweep: What will be done to address the net worth sweep, by which all profits above a modest capital buffer are sent quarterly to Treasury?

Expectations: Very strong that there would be a specific plan and commitment to end the net worth sweep quickly after negotiation between FHFA and Treasury. Open issues:  will the fee to be paid by the GSEs, in lieu of the net worth sweep, be specified; will the impact on the 10-year US fiscal budget of giving up the sweep (which could be over $100 billion) be addressed?

Results: Less specificity than expected. The ending of the net worth sweep was not even listed as a hard goal. The fee is left to future determination, and there is no mention of the budget impact.

Common and Public Preferred Shareholders: How will existing shareholders, who own the common and public preferred stock, be treated? This is an exceptionally sensitive and political issue. If it looks like something that can be called a “gift to hedge funds” or “bailout of Wall Street,” it will signal a very bad Congressional reaction to the plan.

Expectations: Strong expectation that this issue would be deferred as part of a “capital restoration plan” (to be developed by the Treasury and FHFA, with the aid of advisers to be hired).

Results: As expected, in that no decisions were made; unexpected in that all alternatives were specifically left on the table (ranging from very friendly to very unfriendly to the investors). The investors are therefore very much not happy,  with the share prices of the two companies declining significantly.

FHFA’s Proposed Capital Rule: Administrative reform requires FHFA specifying its post-conservatorship capital rule, which will provide the target for exiting conservatorship.

Expectations: The plan would call for finalization as soon as possible, and that it would make some comment that it should be consistent with what applies to SIFI (systemically important financial institution) banks.

Results: Not as expected – supportive of major review of the existing proposed rule by the FHFA’s new director, with skepticism that it is currently high enough. No timeframe mentioned. Does want capital requirement comparability to large banks in some fashion.

Raising Capital to End Conservatorship: The amounts to be raised, regardless of a capital rule’s specifics, are extremely large (e.g. over $100 billion) and will take many years.

Expectations: The plan was not expected to be specific on how this would be accomplished, leaving it to further study. Will note ending of the net worth sweep will start the process.

Results: Less specificity than expected, but very much pointing to capital restoration plans by each GSE after a joint FHFA-Treasury overall plan is developed.

Affordable Goals, Duty to Serve, Access to Credit: The current GSE business model requires significant effort devoted toward these programs, all of which are required by legislation. A highly partisan issue, with Republicans viewing the programs poorly while Democrats are very supportive.

Expectations: Little would be stated on this topic as part of administrative reform. But perhaps the plan would establish Republican bona fides by saying they are to be managed carefully to avoid mistakes from the past and generally reined in a bit.

Results: Mostly in line with expectations. Surprisingly positive comments on the role of the GSEs being strong for low- and medium-income borrowers. However, the Treasury introduction of the topic about adjusting GSE credit to reflect geographies with rent control will be controversial.

Retained Investment Portfolio: The retained investment portfolios of the two companies were expanded to excessive size pre-2008 (about $1.5 trillion in total) to exploit the implied guarantee – a classic unintended consequence. This became a major flashpoint of criticism of the GSEs. In conservatorship, the government’s support of the companies established a portfolio size limit that was implemented over time: $250 billion each.

Expectations: A call for the allowed size of the investment portfolio to either stay the same at $250 billion, or be reduced further, perhaps down to something in the $150 billion to $175 billion range.

Results: More vehement about the need for further reduction in the allowed sizes, and calls for customization between the two GSEs rather than the same for both, but no specifics – all left to future FHFA study.

PSPA (Preferred Stock Purchase Agreement): The PSPA is how Treasury currently supports the two GSEs (by promising that, if net worth goes negative, Treasury will inject enough to bring it back up to zero), replacing the previous and much-criticized implied guarantee.

Expectations: Clear statement that the PSPA would continue in place post-conservatorship under administrative reform, so the GSEs could continue to operate without disruption. May also point out that amending the PSPA is actually how administrative reform will be implemented.

Results: In line with expectations.

Level Guarantee Fees (G-fees):  Prior to conservatorship, the GSEs effectively gave volume discounts to larger lenders, causing great pushback from small lenders, who argued it was inappropriate. In conservatorship, the concept of “level g-fees” (i.e. that larger lenders do not have lower guarantee fees), was implemented.

Expectations: Level g-fees will continue under administrative reform.

Results:  As expected. There was also an unexpected emphasis on small lender access to the GSEs via the “cash window.”

Utility-style Regulation of G-fees: This is where the two GSEs, because they are a duopoly, are not allowed to implicitly collude to set g-fees. In conservatorship, the FHFA has already established this type of regulation.

Expectations: That this would not be included in the document.

Results: As expected. The administration is going down the “competition” route with no seeming interest in utility-style regulation of g-fees, not even for a transition period.

When it comes to administrative reform, the Treasury Housing Reform Plan mostly met expectations, with some differences as noted above. But the most surprising aspect is how vague implementation and the timing of that implementation are. The FHFA, in particular, has been assigned many items to study, analyze and decide, or make a recommendation to Treasury for their approval. Given that the Trump administration has only about 1 ⅓ years to go, unless the president is re-elected, there is a real risk it will not get very far before a new administration comes in – and looks to possibly start over.