My New Blog

Proposal

To Create an Institution that will enhance
(or save) the Texas Residential Real Estate Market

By Rick Baron, A Native Texan
And Professional Mortgage Lender Since 1983

Proposal for a Texas Mortgage Market Solution

For over six decades, Fannie Mae (and later Freddie Mac) served a vital role in providing affordable financing for homes in the U.S. They had the most sophisticated, conservative underwriting philosophy and risk assessment best practices ever devised, requiring good credit, down payments and income verification to ensure borrowers had both the ability and willingness to repay their mortgage debts.

In the mid 1990’s, HUD and Congress began requiring Fannie and Freddie to purchase sub-prime mortgages and mortgage-backed securities. This was equivalent to the FDA requiring Proctor & Gamble and/or Johnson & Johnson to purchase lead-tainted baby formula from China because it was more affordable. By 2007, they owned or guaranteed over $1.5 trillion of sub-prime loans and securities.

Congress now wants to eliminate, shrink, or split up and privatize Fannie and Freddie. Because of the toxic nature of sub-prime loans (predatory terms given to unqualified borrowers), Fannie Mae and Freddie Mac are now technically insolvent. Over 90% of all mortgages now go through the Federal government. As long as our wagon stays hitched to Fannie and Freddie, we go where they go.

If all mortgages are forced to go through private markets, interest rates will at least double. Bill Gross of PIMCO says that if mortgages all go through private lenders, interest rates will increase by 4.00% or more. Paul Volker recently stated the national mortgage market is broken. Both parties in Congress are working on bills to shrink, split up, privatize, or shut down Fannie and Freddie.

The State of Texas has avoided the majority of the mortgage market meltdown. We had no real estate bubbles this time around, our economy emerged from our real estate crisis in the ‘80’s much stronger and more diversified, and our state regulatory structure minimized much of the irresponsible lending practices of the last decade.

Texas is averaging $40 billion per year in residential real estate sales. We have the 15th largest economy in the world if measured as a country, the number one export economy of any state, and our population, economy, and job markets are still growing.

Texas would be extremely wise and well served if we created our own secondary mortgage market institution. This company would be a viable alternative to Fannie and Freddie, and would ensure the availability and affordability of mortgage financing if Fannie and Freddie shrink or go away. This company would exclusively serve the Texas real estate market and provide basic, old-fashioned, conservative loan products that minimize risk to investors and never put taxpayers at risk if structured properly.

We are strongly requesting the Texas Legislature pass legislation (through statute and/or charter) that will allow this entity to exist. Doing so would at least give us a “Plan B” in the event Fannie and Freddie collapse. With a state guarantee for investors, it would keep mortgage interest rates affordable for Texans and secure the foundation of our real estate market.

Initial funding could come from state and local banks and credit unions, as well as all housing related industry professionals. For example, the top 100 strongest institutions could contribute $1 million each, totaling $100 million. Otherwise, they could contribute a lesser amount and the difference could be made up by Realtors, mortgage professionals, home builders, appraisers, sub-contractors, title companies, etc. The company could then borrow up to $1 billion from the Fed window for initial purchases. All proceeds from activities (in excess of operating costs) could be reinvested to strengthen capital reserves for the first several years. No taxpayer dollars would be used or at risk.

The Texas Conforming maximum loan amount should be $750,000. This would breathe new life into our upper-end markets which have been decimated due to the lack of available financing in this range. The current state-wide maximum Fannie/Freddie conforming loan amount is $417,000. Even borrowers below the $417k level are currently finding it difficult to get approved due to the overly restrictive requirements of Fannie and Freddie.

A Texas-only secondary mortgage market corporation created by Texas for Texans and supported by Texas investors would protect the foundation of Texas real estate. Potential investors such as the State Retirement System, the Teachers Retirement System, oil companies, life insurance companies, and just about every other entity in the state looking for a safe place to invest would certainly see this institution’s securities as a viable alternative to the currently uncertain world of investments.

Proposed Structure and Safeguards for this Institution 1) The most practical structure for this entity should be as a 501c3 non-profit corporation. Such a structure would be totally transparent, 100% regulate-able, and chartered by the state using the Texas State Affordable Housing Corp. (TSAHC) as a template. Initial funding should come from state banks, local banks, credit unions, thrifts and savings institutions as well as all related industry groups and professionals. If 200,000 real estate related professionals each made a $500 tax deductible contribution, we would have $100,000,000 in start-up capital.

2) With $100 million in capital, the institution could borrow up to $1 billion directly from the Federal Reserve. This would enable it to purchase up to $1 billion in mortgage loans from state and local institutions. Doing so would replenish the state and local institutions’ funds and enable them to make more new loans.

3) The company would then pool and securitize these loans and offer them as investments to Texas based investors such as: Public state and local pension funds, insurance companies, corporations, and wealthy individuals. Pool sizes could range from $5 million to $500 million in size. The securities should only be structured as “pass through” securities, which is the simplest structure for this type of security. Once the securities are sold to investors, the proceeds will reimburse the funds borrowed from the Fed and the cycle would start over.

4) Company profits would be derived from a .50% to .75% up-front delivery fee, as well as a monthly guaranty fee of .25% to .375%. For example, using simple math and conservative fees, for every $1 billion in loans purchased, the company would receive $5 million initial fees, and approximately $3,750,000 per year in annual revenues from the guaranty fees. The guaranty fees insure investors against any losses, making these securities a safe, reliable investment.

5) All profits over and above operating expenses should be banked and added to the initial $100 million for the first several years until the company can guarantee all of its securities on its own. At that point, the decision could be made to either continue the company in its current form or go public and sever its relationship with the state.

6) Only in the event of a sudden collapse in the national mortgage system would the state need to inject funds to quickly enhance the company’s purchasing capacity. If mortgage financing seizes up, the state could inject up to $1 billion and enable the company to borrow $10 billion from the Fed to keep the flow of mortgage money going. This would only be in an extreme circumstance, but at least we would have a vehicle in place to utilize if needed.

7) Loan products offered would be limited to traditional and conservative products only (i.e. fixed terms, required down payments, no pre-payment penalties, fully documented income and assets, good credit, etc.). It would also ensure state-wide uniformity of loan products.

8) The company should not be allowed to lobby the legislature for as long as the state is affiliated with the company.

9) The state legislature should never be allowed to require the company to offer or purchase any mortgage products that do not meet the highest standards of credit quality and prudent risk management practices set forth by the company.

10) Part of the company’s mission should be to educate Texans on the best practices of financial management, credit and debt management, and conservative wealth-building strategies with a special emphasis on Texas Real Estate.

The goal is to create a mortgage financing system for the State of Texas that is entirely separate and independent from the national system and the national banks. At a minimum, this would give us a competitive alternative to the current system. Fannie Mae and Freddie Mac, as well as all of the largest nationwide banks, are saturated with sub-prime and toxic securities and are now in foreclosure quicksand. In a worst case scenario, this institution may be the only way to ensure the continued availability and affordability of mortgage financing in Texas.

Creating this institution will take an enormous collective and collaborative effort from our mortgage, real estate and title insurance industries. However, the first step will need to be taken by our Texas Legislature to lay the legal groundwork to allow this institution to exist. We could then target the end of 2011 to have the entity up and running.

We are seeking the endorsement of lenders, Realtors, and title companies and their organizations to help persuade the State Legislature to act on this measure. Please support the concept and encourage other Texans to do the same.

Rick Baron

NMLS #220934

512-422-1949

rick@rickbaron.com