A note to readers of The Institutional Risk Analyst, we have published a new paper entitled "Improving Liquidity for Ginnie Mae Servicing Assets" which is available on SSRN. The paper has been well received in the regulatory community. We hope that it will better inform the debate over "risk" from nonbanks in the mortgage sector. We make the point that the biggest risk to Ginnie Mae and the taxpayer is that unnecessary regulation and bank centric thinking will drive the remaining participants out of the government loan program entirely.
We provide an overview of secured finance in the post-WWII era. The paper then asks two basic questions: 1) why do Government National Mortgage Association (GNMA) servicing assets trade at a discount to conventional and even private label mortgage servicing rights (MSRs) and 2) why do lenders offer inferior terms when lending on GNMA MSRs?
To answer these questions, we examine the evolution of GNMA as part of the U.S Department of Housing and Urban Development (HUD). Particular emphasis is placed on the relationship between GNMA and private market participants in providing insured credit to support affordable home ownership. We conclude with some suggestions for reform that will improve liquidity in the GNMA market for MSRs.
Here's an excerpt:
When Ginnie Mae was created in 1968 and the issuance of government-insured mortgage backed securities (MBS) began in 1970, nonbank finance did not exist in the United States. In a 1925 decision, Supreme Court Justice Louis Brandeis applied New York State law to secured finance in a bankruptcy case, Benedict v Ratner 268 U.S. 353 (1925). The decision brought secured finance to a halt and created the six tests for legal isolation that describe a “true sale.” It took lawyers, bankers, the states and Congress nearly half a century, including several revisions to the Uniform Commercial Code and numerous pieces of federal legislation, before nonbank finance was even possible in the US.
Collateralized lending in the US was essentially impossible outside of banks from 1925 through the mid-1970s, and even then, banks felt constrained in terms of obtaining a clear lien on collateral. The market for secured finance that existed in 1970 was a bank market comprised of state-chartered banks and thrifts, a legacy of the Great Depression, WWII and the subsequent years of Cold War. In the post-WWII period, national banks held mostly commercial, government and state obligations and were not even allowed to lend generally on real property until the mid-1950s.
When Congress created GNMA, the assumption was that the agency would operate in a securities market dominated by large commercial banks and broker dealers. The rules and regulations adopted by Congress half a century ago were influenced by the experience of the Great Depression and Benedict, and were tailored for a market operated and funded by large depositories. Significantly, GNMA would blaze a path for the GSEs and later private issuers in terms of secured financing via the issuance of MBS. Consumer finance receivables and mortgages on real property were eventually packaged into private securities, all to be financed in the engine of American prosperity known as the bond market.