Private sector institutions, such as banks and other lenders, issue and service the mortgage-backed securities that Ginnie Mae guarantees. Our guarantee ensures that investors who own the securities are paid their principal and interest. If borrowers fail to make payments, Issuers are still required to remit scheduled payments to investors.
If a servicer fails to remit scheduled payments, though, the federal government, through Ginnie Mae, could be forced to intervene and make the payments. That’s known as “counterparty risk,” and there has been a paradigm shift over the past decade in the way that Ginnie Mae handles it.
At the recent Ginnie Mae Summit, I laid out our approach to limiting counterparty risk. We’re emphasizing engagement with Issuers, giving them tools to self-monitor their position against their peer group and utilizing various vehicles — on-site reviews, regular “spotlight Issuer” calls, periodic Issuer liquidity meetings — to make sure we have a strong understanding of Issuer business activities, and they have an understanding of how we are looking at things.
We know that working together is the best way to mitigate risk. We also know that a purely one-size-fits-all approach won’t best serve Issuers or Ginnie Mae. Because of the diversity of business models among our Issuers, we need to employ a tailored approach to ensure that potential risks, big or small, don’t fall through the cracks.
We’re now using advanced analytics to apply individual oversight to each Issuer. We are refining a newly-developed Issuer Stress Test model. The model uses a variety of data points to forecast an Issuer’s financial performance over the short- and medium-term under different economic scenarios. It provides a number of outputs, all of which give Ginnie Mae and our Issuers a view of where risk may emerge or grow. We use this forecasting to inform our work with Issuers.
For example, simpler ways of assessing counterparty risk look solely at the net worth of counterparties, using that measure as an indicator of how well an Issuer could weather a financial storm. In figure 1, both Issuers appear identical, equal to the task of withstanding an unexpected financial shock. However, when probed more deeply, another picture appears.
Given the size of their servicing portfolios, each Issuer is required to have a net worth of at least $6 million. However, meeting that threshold and having room to spare are two different things, as shown in figure 2.
One Issuer is clearly more leveraged than the other with significantly less overall equity available to manage unforeseen stresses. It would not be prudent for Ginnie Mae to assess these Issuers equally because one clearly is more of a risk to the agency than the other. Our customized counterparty risk tools dig deeper to reveal these potential exposures.
Broad-based capital and liquidity minimum standards are important, but the ability to take a more situational approach as well makes for a stronger risk management program. As always, our goal is to address risk appropriately before it adversely affects the ability of the Issuer to manage its Ginnie Mae business or has an impact on the system overall.
As we continue through 2019, our Issuers, servicers and other stakeholders can expect to hear more about our approach to measuring and managing counterparty risk, including steps we are taking to increase the flexibility of how holders of Ginnie Mae mortgage servicing rights (MSRs) can use the asset to enhance their liquidity and overall risk profile.
For over 50 years, Ginnie Mae has created tremendous value in the housing markets of the United States. Because Ginnie Mae provides access to the global capital markets, borrowers —especially people who are low-income, first-time homebuyers, people who live in rural areas and veterans — can reliably obtain affordable mortgage credit. Renters can obtain safe, clean and more affordable housing because global capital flows to multifamily developments securitized through Ginnie Mae. And many seniors take advantage of reverse mortgages to be able to afford aging in place or live in assisted-living and skilled-nursing facilities funded by Ginnie Mae’s mortgage-backed securities.
As Ginnie Mae has grown to $2 trillion in outstanding securities, our Issuers and servicers who make and manage these loans have been able to grow, too, as has the value in their firms. And investors in Ginnie Mae’s securities, who put up the capital that makes our program work, have enjoyed investment options free from credit risk at yields superior to U.S. Treasury issues.
The Issuers who package our MBS are key to the Ginnie Mae model’s ability to protect the U.S. taxpayer from risk. The roles and responsibilities of a Ginnie Mae Issuer are substantial and require constant focus. Our Issuers bear primary responsibility for the timely and complete monthly cash flows of our MBS. They must have the financial resources to deliver, without fail, MBS investors’ principal and interest payments on the 20th of each month.
As stewards of the Ginnie Mae guaranty, we regularly assess whether our Issuers can fulfill their obligations. Today, because the stakes are high for all involved, and because the Ginnie II market has grown so large, Ginnie Mae is evolving its view of what a successful participant in the program looks like.
Many of these ideas have been outlined in “Ginnie Mae 2020,” our roadmap for sustaining low-cost homeownership, and Issuers have already seen some changes to our MBS Guide. APM 18-02, published in January, provides examples of situations outside the acceptable risk parameters that put Issuers in violation of our program requirements. If an Issuer violates these program requirements, we will impose greater restrictions on that Issuer’s participation in the MBS program. These steps may include, but are not limited to, requiring that an Issuer recalibrate its high-risk portfolio to fall within the acceptable risk parameters; requiring that the Issuer diversify its portfolio; or placing a restriction on the Issuer’s participation in the PIIT program and/or multiple Issuer pools.
Issuers should also understand that additional commitment authority is not a sure thing, even for approved Issuers in our program. Commitment authority — the right of an Issuer to issue more Ginnie MBS — comes in discrete increments so we can manage the growth of our program in a responsible way. When we tell an Issuer it has not met our requirements or has been found to be operating in a risky way, it needs to remedy the deficiencies quickly before we extend it the right to do additional business with us.
In the coming months, we will expand on these concepts and publish guidance making it clear that while an Issuer may be in compliance with the MBS Guide, its financial condition and performance may be viewed as being riskier than is wise. A high-risk profile hinders Issuers’ ability to provide the Ginnie Mae guaranty. In addition, we believe that as an Issuer’s participation in our program grows, its level of operational sophistication, governance and financial metrics need to continue to evolve as well.
With this in mind, we will soon require our largest Issuers to secure servicer ratings and, in some cases, credit ratings from a statistical rating agency.
This winter, we will roll out Ginnie Mae’s version of a stress test. It will evaluate our Issuer’s ability to comply with Ginnie Mae and GSE requirements and warehouse lenders’ covenants, and to remain liquid and solvent in any economic environment.
Some of our recent changes are not just about the micro safety and soundness of our counterparties. Issuers share in the overall stewardship of our program. That is why, in APM 18-02, Ginnie Mae included new rulemaking on how an Issuer’s portfolio prepayment experience may affect its participation in the program. We are responding to growing concerns emanating from the investor community that selected Issuers’ MBS paid off at a rate in excess of modeled expectations, in large part due to Issuer business practices. Investors began to shun Ginnie Mae MBS, and American borrowers paid the price as mortgage rates ticked upward. Ginnie Mae did not and will not stand by and let the actions of a few participants harm borrowers and damage the relative value of the security for the remaining Issuers. All Issuers must protect the liquidity and value of the Ginnie Mae security and not benefit themselves above the greater good of the program.
Being a Ginnie Mae Issuer is a privilege that should not be taken lightly. We expect a lot from our Issuers and will expect more from them as non-banks continue to grow as a proportion of our Issuer base and as we plan for the consequences of a potential economic downturn. As the Chief Risk Officer for Ginnie Mae, I will work with my department to ensure the success of these initiatives in the coming years. Ginnie Mae and its Issuers are in it together to protect American homebuyers, renters, MBS investors and, ultimately, the American taxpayer.