FHFA: The Little Agency that Could (But Hasn’t)

Updated on

Summary: In his House Financial Services Committee testimony last week, FHFA Director Mel Watt appeared to deliberately misinterpret the HERA statute to justify turning on affordable housing funds even though the GSEs have no capital with which to meet safety and soundness requirements. When Fannie Mae and Freddie Mac lose money, as they eventually will, he will have to turn these affordable housing funds off unless he negotiates a new agreement with the Treasury Department or takes other action to require them to build up capital. In executing his mission as Conservator of the housing enterprises, Fannie Mae and Freddie Mac, Director Watt has the authority to require they suspend all dividends, including those paid to the Treasury as agreed to in the Preferred Stock Purchase Agreements between the FHFA and Treasury.

FHFA: The Little Agency that Could (But Hasn’t)

As public focus begins to shift toward the next Presidential election and who will be the candidates, the Democrats and Republicans will inevitably begin to attempt to recast legacies and focus the public on their accomplishments and the opposing party’s shortcomings. These efforts will begin the cycle of blame games, half-truths and trial balloons to see what resonates with the public. The economy, Wall Street and housing will certainly become part of the focus.

Last week we saw the beginning of one such effort to recast the record as Federal Housing Finance Agency (FHFA) Director Mel Watt, an Obama appointee, testified before the House Financial Services Committee and began the effort to cleanse the Administration’s record regarding unfinished business on mortgage market reform.

In testimony, Mr. Watt stated, “there is nothing worse, I have found, in this area of the market than uncertainty, and the longer this [GSE reform] drags out, the more uncertainty there is”. In reality, uncertainty has only increased in recent months as the Director deliberately misinterpreted the Housing and Economic Recovery Act of 2008 (HERA) in a manner that offered him a legally questionable pretense for turning on the affordable housing funds that were set up under the same statute. In HERA, these funds were to be suspended if they diminished the GSEs’ capital and if they risked the further instability of the enterprises. Instead, Director Watt chose to ignore the plain language of HERA, to divert money that should have been used to rebuild the GSEs’ capital as required by the statute, and instead to justify the new flow of affordable housing funds based on the GSEs’ profitability and the Treasury’s financial backstop. The current Treasury support of the GSEs is not capital, it is not the equivalent of capital and, in fact, both the allocation of funds toward affordable housing and the sweep of the GSEs’ profits to the Treasury are directly contrary to the clear legislative intent of Congress in passing HERA – for FHFA either to restore the GSEs to solvency or to liquidate them through a receivership.

Through these actions Director Watt has created a new threat to affordable housing. If either Fannie or Freddie ever lose money and have to draw once again on the Treasury backstop, and we expect that is a near certainty, he will have to be consistent in his misinterpretation of HERA and stop putting money into these funds. Alternatively, if he used his Congressionally defined power and negotiated a new support arrangement with Treasury that allowed the GSEs to begin to build capital, he could allocate funds to affordable housing and be legally grounded in doing so at this time.

In the hearing, Republican committee members’ questions turned to Mr. Watt’s decision to have the GSEs begin contributions to the affordable housing funds when such contributions would violate HERA, as they:

‘‘(1) Are contributing, or would contribute, to the financial instability of the enterprise; (2) are causing, or would cause, the enterprise to be classified as undercapitalized; or (3) are preventing, or would prevent, the enterprise from successfully completing a capital restoration plan under section 1369C.”i

In response to repeated questions on the subject, Mr. Watt stated that the FHFA’s Preferred Stock Purchase Agreements, signed between FHFA and Treasury, “trump the law”.ii The assertion that an agreement between two Federal Agencies can supersede a federal statute passed by Congress and signed by the President is a staggering one, especially when made by the director of an agency who practiced law for 22 years and then served as a member of Congress for another 22 years (including during the time when HERA was passed by the House Financial Services Committee on which he served). The basis of these claims becomes more peculiar in the context of Director Watt’s claims that he is “not part of the Administration. The Federal Housing Finance Agency is an independent regulatory agency. We don’t play out the administration’s policy. We follow the statute”.

See full PDF below.

Signup to ValueWalk!

Get the latest posts on what's happening in the hedge fund and investing world sent straight to your inbox! 
This is information you won't get anywhere else!