OFHEO Reduces GSE Capital Requirement

The Office of Federal Housing Enterprise Oversight, Fannie Mae and Freddie Mac have made a major initiative to increase liquidity and support the U.S. mortgage market. The move is expected to offer up to $200 billion of immediate liquidity to the MBS market. OFHEO projects that two GSEs’ existing capabilities along with this new initiative and the release of the portfolio caps announced in February, should allow the GSEs to buy or guarantee about $2 trillion in mortgages this year. This capacity will permit them to do more in the jumbo temporary conforming market, subprime refinancing and loan modifications areas. OFHEO announced that it would now permit a considerable portion of the GSEs’ 30% OFHEO-directed capital surplus to be invested in mortgages and MBS. As part of this move, both companies announced that they will start raising significant capital. The agencies also said they would maintain overall capital levels well in excess of requirements while the mortgage market recovers. OFHEO will also immediately reduce the existing 30% OFHEO-directed capital requirement to 20%, and will consider further reductions in the future. This move by the OFEO will free up $2 to $3 billion in excess capital and will result in the GSEs having a significant capital cushion over the new 20% regulatory requirement, which eventually should drop to 0%, according to Morgan Stanley equity analysts. With excess capital, Fannie Mae and Freddie Mac might be able to buy as much as $100 billion or more in MBS. However, Morgan Stanley expects spreads to compress on the announcement of this deal, thus actual purchases by the GSEs would likely be lower. Morgan Stanley analysts viewed this announcement as a positive in terms of allowing faster growth in retained portfolios and net interest income for Fannie Mae and Freddie Mac. It also reduces the probability for the need to raise dilutive common equity if credit losses trend upward. Another positive is that it is a philosophical victory “that reaffirms the mission-purpose of the retained portfolios, which government officials and politicians had called into question in recent years,” Morgan Stanley analysts said.