[Federal Register Volume 74, Number 38 (Friday, February 27, 2009)]
[Notices]
[Pages 8955-8961]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E9-4262]


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FEDERAL HOUSING FINANCE AGENCY

[No. 2009-N-03]


FHFA Study of Securitization of Acquired Member Assets

AGENCY: Federal Housing Finance Agency.

ACTION: Notice of Concept Release; request for comments.

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SUMMARY: The Federal Housing Regulatory Reform Act (Act), Division A of 
the Housing and Economic Recovery Act of 2008 (HERA), requires the 
Federal Housing Finance Agency (FHFA) to conduct a study on the 
securitization of home mortgage loans purchased or to be purchased from 
Federal Home Loan Bank (Bank) System member financial institutions 
under the Acquired Member Assets (AMA) programs. FHFA is seeking public 
comment and hopes that the responses to this request for comments will 
constitute an important source of information that will assist it in 
its preparation of the study. FHFA urges commenters to analyze, in 
light of current market conditions, the benefits and risks associated 
with securitization, the potential impact of securitization upon 
liquidity and competitiveness in the mortgage and broader credit 
markets, the ability of the Banks to manage the risks associated with a 
securitization program, and the effect of a securitization program on 
the Banks' existing activities, as well as on the joint and several 
liability of the Banks and the cooperative structure of the Bank 
System. This release in no way alters current requirements, 
restrictions or prohibitions on the Banks with respect to the purchase 
or sale of mortgages or to the AMA programs.

DATES: Comments on the Concept Release must be received on or before 
April 28, 2009. For additional information, see SUPPLEMENTARY 
INFORMATION.

ADDRESSES: You may submit your comments on this Concept Release, 
identified by a subject line of ``Securitization Study'' by any of the 
following methods:
    <bullet> U.S. Mail, United Parcel Post, Federal Express, or Other 
Mail Service: The mailing address for comments is: Alfred M. Pollard, 
General Counsel and Christopher T. Curtis, Senior Deputy General 
Counsel and Managing Counsel, Attention: Comments/Securitization Study, 
Federal Housing Finance Agency, Fourth Floor, 1700 G Street, NW., 
Washington, DC 20552.
    <bullet> Hand Delivered/Courier: The hand delivery address is: 
Alfred M. Pollard, General Counsel and Christopher T. Curtis, Senior 
Deputy General Counsel and Managing Counsel, Attention: Comments/
Securitization Study, Federal Housing Finance Agency, Fourth Floor, 
1700 G Street, NW., Washington, DC 20552. The package should be logged 
at the Guard Desk, First Floor, on business days between 9 a.m. and 5 
p.m.
    <bullet> E-mail: Comments to Alfred M. Pollard, General Counsel and 
Christopher T. Curtis, Senior Deputy General Counsel and Managing 
Counsel, may be sent by e-mail at <a href="/cdn-cgi/l/email-protection#72201715311d1f1f171c060132343a34335c151d04"><span class="__cf_email__" data-cfemail="1e4c7b795d7173737b706a6d5e5856585f30797168">[email protected]</span></a>. Please include 
``Securitization Study'' in the subject line of the message.
    <bullet> Federal eRulemaking Portal: http://www.regulations.gov. 
Follow the instructions for submitting comments.

FOR FURTHER INFORMATION CONTACT: George G. Korenko, Senior Economist, 
(202) 408-2543 or Christina Muradian, Senior Financial Analyst, (202) 
408-2584, Division of Federal Home Loan Bank Regulation; or Thomas E. 
Joseph, Senior Attorney-Advisor, Office of General Counsel for Federal 
Home Loan Bank Supervision, (202) 408-2512, Federal Housing Finance 
Agency, 1625 Eye Street, NW., Washington, DC 20006. The telephone 
number for the Telecommunications Device for the Deaf is (800) 877-
8339.

SUPPLEMENTARY INFORMATION:

I. Comments

    The Federal Housing Finance Agency (FHFA) invites comments on all 
aspects of the Concept Release and will consider all comments before 
issuing a report to Congress. FHFA requests that comments submitted in 
hard copy also be accompanied by the electronic version in 
Microsoft[reg] Word or in portable document format (PDF) on CD-ROM.
    Copies of all comments will be posted on the internet web site at 
https://www.fhfa.gov. In addition, copies of all comments received will 
be available for examination by the public on business days between the 
hours of 10 a.m. and 3 p.m., at the Federal Housing Finance Agency, 
Fourth Floor, 1700 G Street, NW., Washington, DC 20552. To make an 
appointment to inspect comments, please call the Office of General 
Counsel at (202) 414-3751.

II. Purpose of Release

    Effective July 30, 2008, the Act, Public Law 110-289, 122 Stat. 
2654 (2008), transferred the supervisory and oversight responsibilities 
of the Office of Federal Housing Enterprise Oversight (OFHEO) over the 
Federal National Mortgage Association (Fannie Mae) and the Federal Home 
Loan Mortgage Corporation (Freddie Mac) (collectively, Enterprises), 
and the oversight responsibilities of the Federal Housing Finance Board 
(FHFB) over the Banks and the Office of Finance (which acts as the 
Banks' fiscal agent) to FHFA, a new independent executive branch 
agency. FHFA is responsible for ensuring that the Enterprises and the 
Banks operate in a safe and sound manner, that they maintain adequate 
capital and internal controls, that their activities foster liquid, 
efficient, competitive and resilient national housing finance markets, 
and that they carry out their public policy missions through authorized 
activities. See Sec.  1102, Public Law 110-289, 122 Stat. 2663-64. The 
Enterprises and the Banks continue to operate under regulations 
promulgated by OFHEO and the FHFB until FHFA issues its own 
regulations. See id. at Sec. Sec.  1302, 1313, 122 Stat. 2795, 2798.
    Section 1215 of the Act requires the Director of FHFA to conduct a 
study on securitization of home mortgage loans purchased or to be 
purchased from Bank member financial institutions under the AMA 
programs.\1\ See id. at Sec.  1215, 122 Stat. 2791. The Act requires 
FHFA to submit a report to Congress by July 30, 2009, detailing the 
results of the study. The report must include policy recommendations 
based on the Director's analysis of the feasibility of the Banks, 
either individually or collectively, issuing mortgage-backed securities 
(MBS), and the benefits and risks associated with such a program.
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    \1\ As explained more fully in this release, AMA is the name 
given to conforming mortgage loans that the Banks purchase from 
their members pursuant to part 955 of current regulations. 12 CFR 
part 955. The transactions through which the Banks purchase AMA must 
meet a number of conditions set forth in the regulations. These 
conditions are explained more fully below.
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    The Act stipulates that the study address the benefits and risks 
associated with securitization of AMA; the potential impact of 
securitization upon liquidity in the mortgage and broader credit 
markets; the ability of the Banks to manage the risks associated with 
such a program; the impact of such a program on the existing activities 
of the Banks, including their mortgage portfolios and advances; and the 
effects of securitization on joint and several liability of the Banks 
and the cooperative structure of the Bank System. The Act further 
requires that in conducting the study, the Director

[[Page 8956]]

consult with the Banks, the Office of Finance, representatives of the 
mortgage lending industry, practitioners in the field of structured 
finance, and other experts as needed. The Director also must establish 
a process for the formal submission of comments on the study. The 
purpose of this release is to solicit such comments regarding a 
potential Bank securitization program.

III. Background

A. The Bank System

    The twelve Banks are instrumentalities of the United States 
organized under the Federal Home Loan Bank Act (Bank Act). See 12 
U.S.C. 1423, 1432(a). The Banks are cooperatives; only members of a 
Bank may own the capital stock of a Bank and only members or certain 
eligible housing associates (such as state housing finance agencies) 
may obtain access to the products provided by a Bank. See 12 U.S.C. 
1426, 1430(a), 1430b. Each Bank is managed by its own board of 
directors and serves the public by enhancing the availability of 
residential mortgage and community lending credit through its member 
institutions. See 12 U.S.C. 1427. Any eligible institution (typically, 
thrifts, Federally insured depository institutions or state-regulated 
insurance companies) may become a member of a Bank by satisfying 
certain criteria and by purchasing a specified amount of the Bank's 
capital stock. See 12 U.S.C. 1424, 1426; 12 CFR part 931.
    As government sponsored enterprises (GSEs), the Banks are able to 
borrow funds in the capital markets on terms more favorable than could 
be obtained by most other entities. Typically, the Bank System can 
borrow funds at a modest spread over the rates on U.S. Treasury 
securities of comparable maturity, although under recent market 
conditions spreads to U.S. Treasuries have widened considerably. The 
Banks can pass along their GSE funding advantage to their members--and 
ultimately to consumers--by providing advances (secured loans) and 
other financial services at rates that would not otherwise be available 
to their members. Some of the Banks also have AMA programs whereby they 
acquire fixed-rate, single-family mortgage loans from participating 
member institutions.
    Consolidated obligations, consisting of bonds and discount notes, 
are the principal source for the Banks to fund advances, AMA programs, 
and investments. The Office of Finance issues all consolidated 
obligations on behalf of the twelve Banks. Although each Bank is 
primarily liable for the portion of consolidated obligations 
corresponding to the proceeds received by that Bank, each Bank is also 
jointly and severally liable with the other eleven Banks for the 
payment of principal of, and interest on, all consolidated obligations. 
See 12 CFR 966.9.

B. AMA Regulation

    In July 2000, the Board of Directors of the Finance Board adopted a 
final regulation governing AMA activities. See Final Rule: Federal Home 
Loan Bank Acquired Member Assets, Core Mission Activities, Investments 
and Advances, 65 FR 43969 (July 17, 2000) (hereinafter Final AMA Rule). 
The rule, contained in Part 955 of the Finance Board's regulations, 
remains in effect today. To date, two separate mortgage programs are 
authorized under Part 955--the Mortgage Partnership Finance (MPF) 
program and the Mortgage Purchase Program (MPP).
    The AMA products are structured such that the Banks acquire, 
through either a purchase or funding transaction, whole, single-family 
mortgage loans from their members. Products exist for both conventional 
and government-guaranteed/-insured loans. The risks associated with the 
mortgages are such that the Bank manages the interest-rate risk and the 
member manages a substantial portion of the risks associated with 
originating the mortgage, including a substantial portion of the credit 
risk. Part 955 requires that the member provide a credit enhancement 
sufficient to enhance the credit quality of the assets to an equivalent 
of an instrument rated at least investment grade (e.g., BBB), although 
all approved AMA programs require members to enhance the loans to the 
second highest investment grade (e.g., AA). The member may provide this 
credit enhancement through various means.
    In order for a Bank to acquire a mortgage loan as AMA, the loan 
must meet the requirements set forth under a three-part test 
established by regulation. See 12 CFR 955.2. The three-part test 
consists of a loan type requirement; a member or housing associate 
nexus requirement; and a credit risk-sharing requirement.
    The loan type requirement establishes the types of assets that 
could be considered as AMA-eligible. Assets acquired by a Bank must 
fall within three certain categories. The assets may be whole loans 
eligible to secure advances that do not exceed the conforming loan 
limits that apply to the Enterprises. Further, the loans must be 
secured by property located in a state.\2\ The assets also may be whole 
loans secured by manufactured housing, regardless of whether such 
housing qualifies as residential real property. Finally, state and 
local housing finance agency (HFA) bonds are AMA-eligible. Interests in 
whole loans backed by mortgages that meet the previously noted asset 
type requirements are also eligible for purchase under AMA.\3\
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    \2\ As defined by regulation, ``state'' means a state of the 
United States, American Samoa, the Commonwealth of the Northern 
Mariana Islands, the District of Columbia, Guam, Puerto Rico, or the 
United States Virgin Islands. See 12 CFR 900.3.
    \3\ In fact, the Banks purchase whole, single-family mortgage 
loans under the AMA programs. The Chicago, Pittsburgh and Des Moines 
Banks have also purchased securities that represented senior 
interests in pools of AMA-qualified single-family mortgage loans 
under the MPF Shared Funding Program, but this program is not 
active. Banks have not purchased any manufactured housing loans or 
HFA bonds under the AMA programs.
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    The second part of the three-part test is the member or housing 
associate nexus requirement. The nexus requirement was established to 
ensure that the assets acquired by the Banks have some connection to a 
System member or housing associate. In order for an asset to be 
considered AMA-eligible, the asset must be originated (if a loan) or 
issued (if a bond) by, through, or on behalf of a Bank System member, 
housing associate, or affiliate thereof; or held for a ``valid business 
purpose'' by a Bank System member or housing associate prior to the 
acquisition by the Bank. In addition, the asset must be acquired from 
either a member or housing associate of the acquiring Bank; a member or 
housing associate of another Bank, but only pursuant to an arrangement 
between the Banks; or another Bank.
    The final part of the three-part test is the credit risk-sharing 
requirement. The risk-sharing requirement was established to emphasize 
the cooperative nature of the Bank System by ensuring that the member 
or housing associate shares with the Bank the credit risks associated 
with the asset. See Final AMA Rule, 65 FR at 43975-78. While the first 
and second parts of the three-part test focus on asset eligibility, the 
third part focuses on the transactions through which the Bank acquires 
AMA. In general, the credit risk-sharing requirements prescribe the 
manner in which AMA products must be structured in order to ensure that 
the member bears the economic costs associated with enhancing AMA pools 
to at least a BBB level. The AMA regulation provides detailed credit 
risk-sharing structure requirements. See 12 CFR 955.3. Essentially, 
these

[[Page 8957]]

requirements provide that AMA products must be structured such that the 
member provides a credit enhancement sufficient to bring a pool up to 
the equivalent of an instrument rated at least the BBB level or such 
higher level required by the Bank. The member must have direct economic 
responsibility for the credit enhancement that covers expected losses 
(i.e., the member must be in the first loss position). For the portion 
of the credit enhancement beyond expected losses, the credit 
enhancement may be provided by a member's insurance affiliate; loan-
level insurance (which includes U.S. Government insurance or guarantee) 
provided that the insurer is rated at least the second highest 
investment grade rating established by a Nationally Recognized 
Statistical Rating Organization (NRSRO); pool insurance, but only to 
cover the portion of the credit enhancement attributable to pool size; 
or another member. A member's credit enhancement obligation must be 
secured fully in parallel with the requirements for securing advances 
under Part 950 of the Finance Board's regulations.

C. Mortgage Programs

    Two AMA programs have been authorized by the Finance Board, MPF and 
MPP, under the AMA regulation. Additionally, two programs, MPF Xtra and 
Global Mortgage Alliance Program (GMAP), were authorized under the 
Banks' incidental authority. Prior to offering these programs to its 
members, each FHLBank underwent an application process with the Finance 
Board or FHFA, as appropriate. This application process included a 
safety and soundness examination to verify that the Banks had in place 
adequate policies, procedures, and controls to manage the risks 
presented by these programs.
    As already noted, the AMA programs are designed, pursuant to 
regulation, such that members are responsible for a substantial portion 
of the credit risk while the Banks manage the interest rate, 
prepayment, and funding risks. The exact method through which the 
member assumes responsibility for the credit risk varies depending upon 
the structure of the AMA product. For example, the ``MPF-Plus'' and 
``MPP-Conventional'' products both rely on supplemental mortgage 
insurance purchased by the member to credit enhance the mortgage pools 
to the equivalent of an AA-rating. The ``MPF-Government'' and ``MPP-
FHA'' products rely on government insurance or guarantee to meet the 
credit-risk sharing requirements of the AMA regulation. For other MPF 
products, members provide the amount of credit enhancement necessary to 
enhance the mortgage pools to achieve a putative rating of the second 
highest investment grade rating. The Banks determine the amount of the 
required credit enhancement by using methodologies verified by an 
NRSRO. The AMA programs allow members to receive compensation for 
providing the credit enhancement to the loans sold. The structure of 
this compensation varies both between MPF and MPP and among the various 
products offered under the MPF program.
    The Banks that currently offer MPF to their members (MPF-Banks) are 
Boston, New York, Pittsburgh, Chicago, Des Moines, Dallas, and Topeka. 
The ``MPP-Banks'' are Atlanta, Cincinnati, and Indianapolis. 
Outstanding mortgages in the Bank System totaled $87.9 billion as of 
September 30, 2008. Mortgage loans comprised 6 percent of total Bank 
System assets while advances (i.e., loans made to member institutions) 
represented 71 percent of total assets.
    In May 2007, the Finance Board approved the Atlanta Bank's request 
to offer GMAP under which it would facilitate the sale of certain 
qualified conforming mortgage loans from eligible members to another of 
its members, which would then securitize those loans. To date, no 
transactions have occurred under GMAP. In September 2008, FHFA approved 
the Chicago Bank's request to engage in the MPF Xtra program, under 
which it would buy certain qualified, conforming mortgages from 
eligible members for immediate onward sale to Fannie Mae. Neither MPF 
Xtra nor GMAP are AMA programs authorized under part 955 of the Finance 
Board rules. Since September 2008, five additional Banks requested and 
received approval to engage in MPF Xtra through the Chicago Bank. In 
both the GMAP and MPF Xtra programs, the mortgages are not held by the 
Banks and are not assets of the Banks. Instead, the participating Banks 
receive a fee for their role in the program.

D. Securitization

    In its most basic form, securitization of mortgages involves the 
sale of pools of mortgages from the holder of those instruments to a 
special purpose vehicle (SPV). The SPV would be organized to be legally 
distinct from the entity selling the mortgages and would be structured 
so that it would not be affected by problems associated with or 
bankruptcy of the original seller of the mortgages. The SPV often is 
structured as a trust. The SPV would in turn issue securities--
generally referred to as mortgage-backed securities (MBS)--that are 
backed by the pool of mortgages held by the SPV and represent an 
interest in the payments generated from that pool of mortgages. These 
securities themselves may be pooled together and new securities issued 
representing various claims to the underlying cash flows.
    There are alternate formats for securitizing loans. For example, a 
simple form of an MBS is a mortgage pass-through, whereby all principal 
and interest payments (excluding a servicing fee) from the pool of 
mortgages are proportionately passed directly to investors each month. 
Thus, a holder of the MBS has an undivided, pro rata interest in the 
underlying pool of loans. By contrast, a collateralized mortgage 
obligation (CMO) is another type of MBS. Unlike a pass-through, a CMO 
has different classes of securities where net cash flows are divided 
differently among each class or tranche. The tranches are structured to 
have different risk characteristics and maturity ranges. Examples of 
differing structures are sequential pay, interest-only (IO), principal 
only (PO), and z-bonds. CMOs can be created directly based on an 
underlying pool of mortgages, but they are often created by pooling 
pass-through MBS and dividing the underlying cash flows from those 
securities into the various tranches. For tax purposes, transactions 
creating the CMOs generally are structured to qualify as Real Estate 
Mortgage Investment Conduits (REMICs) under the Internal Revenue Code. 
See 26 U.S.C. 860A-860G.
    In securitizing loans, the Banks could also consider adding a 
guarantee that principal and interest on the MBS created under a Bank 
securitization program will be paid. The holders of the MBS, therefore, 
would not assume the credit risk associated with the pool of loans but 
would retain the market, interest rate, and prepayment risk. 
Essentially, the Enterprises currently operate in this way. They 
purchase conforming mortgage loans, use those loans to back the MBS 
they issue, and add a guarantee that the principal and interest on 
these securities will be paid in return for a fee that is paid by the 
seller of the loans. Banks could also have the option of securitizing 
loans directly or selling loans on to a third party and allowing that 
party to undertake the actual securitization.

[[Page 8958]]

IV. Policy and Safety and Soundness Considerations

A. Securitization of AMA

    Certain characteristics of the AMA program make the securitization 
of the Bank's existing mortgage holdings more difficult than the 
securitization of new mortgages that may be acquired. For example, 
members enter into master commitments with the Banks participating in 
the MPF program. These master commitments define the terms under which 
loan sales to the Bank will take place, including the amount of the 
first-loss account, amount of the credit-enhancement fees paid to the 
participating financial institution, and the amount of the credit 
enhancement obligation. In addition, Banks have engaged in 
``participations,'' whereby one Bank has acquired an interest in the 
AMA holdings of another Bank. These two features leave the 
responsibility for losses, the credit enhancement responsibilities, and 
the ownership of some of the AMA, fragmented throughout the Bank 
System. To securitize the existing loans, the Banks may have to 
negotiate termination of these provisions.
    To avoid these issues arising with newly purchased loans, the AMA 
regulation could be amended to make buying loans for securitization 
less complicated. For example, the credit risk sharing requirement 
could be waived for loans that would be securitized. In this way, their 
mortgage purchases would be similar to those of Fannie Mae and Freddie 
Mac. When purchasing mortgages, the Enterprises must, for example, 
purchase ``conforming'' loans and abide by any limits on the size of 
their overall portfolio that are imposed by FHFA. The conforming loan 
requirements include loan-to-value ratio limits, documentation 
requirements, and maximum loan size. For a securitization program, the 
Banks could follow existing loan-type requirements of the AMA program, 
including the purchase of only conforming loans, or they could be 
allowed to purchase mortgages from a more or less expansive pool of 
loans. In addition, some Banks have had difficulty managing the risks 
associated with their AMA portfolios. Thus, it may be prudent to limit 
the size and the growth of the AMA portfolio at the Bank level and/or 
at the System level.
    With respect to securitization, we are seeking comment on the 
following:
    A.1. Should the Banks be authorized to securitize loans? If so, 
should the Banks be authorized to continue their existing AMA programs 
in addition to being authorized to securitize loans? Would a pass-
through program such as MPF Xtra provide a better alternative to a 
direct securitization program?
    A.2. Should individual Banks be authorized to securitize loans or 
should the securitization be conducted by the Bank System as a whole?
    A.3. Should any limitations be imposed on the Banks with respect to 
the mortgages purchased either under the AMA program as it currently 
exists or under a modified AMA program? If so, what types of 
limitations should be imposed?
    A.4. What are the ways that the master commitment obligations and 
participations between Banks can be unwound so that the existing AMA 
mortgages could be securitized and sold?

B. Credit Enhancement on MBS

    One potentially critical feature of any MBS that the Banks 
securitize is the level of credit enhancement. For example, the 
Enterprises provide a guarantee of interest and principal payments on 
their MBS. If the Banks were to securitize mortgages, it may be 
beneficial to the program for them to provide a similar guarantee. The 
guarantee could be the joint and several obligation of all the Banks in 
the System or by a subset of the Banks if not all Banks are 
participating in the program. Alternatively, the Banks could securitize 
the AMA in a CMO structure, providing tranches, some with more 
protection against credit losses and some with less. The Banks could 
also purchase credit enhancement in the form of an insurance ``wrap'' 
provided by a highly rated private mortgage insurer.
    With respect to credit enhancements, we are seeking comments on the 
following:
    B.1. If the Banks securitize mortgages, should they guarantee the 
resulting MBS?
    B.2. Given the Banks' joint and several liability for consolidated 
obligations, would it be reasonable for only a sub-set of the Banks to 
guarantee MBS?
    B.3. If the Banks did not provide a guarantee, would other types of 
credit enhancement be economically viable or more efficient?
    B.4. Would there be a viable market for MBS issued by the Banks or 
the Bank System?
    B.5. How would the market in which these securities would trade be 
affected by the level and type of credit enhancement?
    B.6. Would these securities be likely to trade similarly to Private 
Label MBS or Agency MBS, and if so, how might such a program affect 
these markets? Alternatively, would such securities constitute a new 
market? How large would this program need to be to achieve a liquid 
market?

C. Benefits and Risks of Securitization

    An important consideration in the establishment of a securitization 
program is an evaluation of the potential benefits and risks of such a 
program. If a securitization program were allowed, the potential 
benefits of such a program would need to be weighed against possible 
risks. Potentially, benefits could include increased liquidity and 
competition in the markets and greater access to smaller member 
financial institutions to sell mortgage loans. When the AMA programs 
were introduced, a primary goal was to provide participating member 
financial institutions with an alternative avenue to sell single-family 
mortgage loans with the risks aligned to the competencies of the 
members and the Banks. A securitization program could also help the 
Banks manage some of the risks such as interest rate risk associated 
with holding mortgages on their balance sheet. Difficulty in managing 
the interest rate risks associated with the AMA program has caused 
financial problems for some Banks.
    The benefits of securitization would need to be weighed against the 
risks. For example, the Banks currently classify their AMA portfolios 
as held-in-portfolio. This classification is available to the Banks 
since they can demonstrate the intent and ability to hold these assets 
to maturity, and can insulate them from some changes in the market 
value of the assets. Mortgages acquired for a securitization program 
would likely be classified as held-for-sale, and fluctuations in the 
values of these assets would need to be reflected on the Banks' 
financial statements, potentially affecting earnings--and therefore, 
affect contributions to the Affordable Housing Program (AHP) \4\--and 
economic and regulatory capital. In addition, a successful program may 
require the Banks to build portfolios of mortgages that are 
substantially larger than those they are currently holding. While these 
mortgages are held in the portfolio and not yet securitized, the Banks 
may assume substantial market and credit

[[Page 8959]]

risk, depending on the terms under which the mortgages are acquired.
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    \4\ Each Bank is required to allocate at least 10 percent of its 
prior year's net income to fund the AHP. Under the terms of the AHP, 
a member may submit an application to its Bank for funds to finance 
the purchase, construction or rehabilitation of housing for very 
low-, low-, and moderate-income households. See 12 CFR part 951.
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    With respect to the potential benefits and risks of a 
securitization program to the Banks, their members and housing markets 
more generally, we are seeking comment on the following:
    C.1. Would the Bank's securitization of mortgages provide added 
liquidity and competition to the housing finance market?
    C.2. What are the benefits to Bank System members?
    C.3. Would the benefits be different for large and small members?
    C.4. How would this activity further the public purpose of the 
Banks and promote the cooperative nature of the System? How would it 
affect the availability and affordability of mortgage credit, 
especially for low- and moderate-income households and first-time 
homebuyers?
    C.5. How could the Banks' joint and several liability be affected?
    C.6. What types of risk would the Banks face under a securitization 
program?
    C.7. Do the Banks have the ability to manage these risks? What 
activities would the Banks need to undertake to mitigate and manage any 
such risks?
    C.8. What prudential principles are needed and what prudential 
rules, limitations, and constraints would FHFA need impose on the Banks 
to ensure that securitization is conducted in a safe and sound manner?

D. Capital Requirements

    The Bank Act states that each Bank must hold total capital equal to 
at least 5 percent of its total assets, provided that in determining 
compliance with this ratio, a Bank's total capital shall be calculated 
by multiplying its permanent capital by 1.5 and adding to this product 
any other component of total capital.\5\ See 12 U.S.C. 1426(a)(2) and 
12 CFR 932.2(b). The Bank Act also requires that when total capital is 
calculated without application of the multiplier of 1.5, a Bank's total 
capital must equal at least 4 percent of its total assets. See 12 
U.S.C. 1426(a)(2)(B) and 12 CFR 932.2(a). A Bank also must hold 
sufficient permanent capital to meet its market, credit and operations 
risk, as measured under current regulations. See 12 U.S.C. 1426(a)(3) 
and 12 CFR 932.3.
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    \5\ The Bank Act defines ``permanent capital'' as the amounts 
paid for Class B stock by members plus the Bank's retained earnings 
as determined in accordance with generally accepted accounting 
principles (GAAP), and defines ``total capital'' as permanent 
capital plus the amounts paid by members for Class A stock, any 
general allowances for losses held by a Bank under GAAP (but not any 
allowances or reserves held against specific assets) and any other 
amounts from sources available to absorb losses that are determined 
by regulation to be appropriate to include in total capital. See 12 
U.S.C. 1426(a)(5). However, because the Banks have no general 
allowances for losses (not held against specific classes of assets) 
and no additional sources have been determined to be appropriate to 
include in total capital, a Bank's total capital currently consists 
of its permanent capital plus the amounts, if any, paid by its 
members for Class A stock.
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    Under current capital requirements, loans purchased for 
securitization would be subject to the same capital requirements as AMA 
for the period of time a Bank held the loan, assuming the loans were 
purchased with a member credit enhancement. If the loans the Bank 
intended to securitize were purchased without a member credit 
enhancement, however, credit risk charges under the risk-based capital 
rules would likely be higher than for AMA because the credit quality of 
the unenhanced loans would be lower.\6\ See 12 CFR 932.4.
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    \6\ Current regulations would not allow the Banks to purchase 
and accumulate mortgage loans for securitization unless they were 
credit enhanced to investment grade by the member. The regulations 
would need to be amended before the Banks could purchase loans that 
were not credit enhanced. See 12 CFR 956.3(a)(4).
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    If the Banks were to guarantee any mortgages that they sold for 
securitization against default, the current risk based capital rules 
would likely require the Banks to treat those mortgages as ``Asset 
sales with recourse where the credit risk remains with the Bank.'' See 
id. and Table 2 of 12 CFR part 932. Under this provision, a Bank would 
have to treat the pools of loans underlying the guaranteed MBS as if it 
owned the loans and apply a credit risk charge appropriate for the 
credit rating of those loans. Such capital charges could prove 
prohibitive to a securitization program, especially if the loans did 
not retain a credit enhancement from the member after securitization. 
Banks may also need to modify their market risk models to assure that 
the models would calculate an appropriate market risk capital charge 
associated with the guarantees. See 12 CFR 932.5.
    With respect to capital requirements, we are seeking comments on 
the following:
    D.1. What, if any changes, to the current capital requirements may 
be necessary if the Banks were to undertake a securitization program?
    D.2. Would the current rules need to be changed to account for 
credit or other risks associated with mortgage loan guarantees, if the 
Banks were to provide a guarantee, as part of the securitization 
program?
    D.3. What are the risks related to mortgage loans and associated 
hedging instruments that would be in a securitization pipeline?
    D.4. How should the potential increased exposure to operational 
risk associated with a securitization program be captured by the risk 
based capital rules?

E. Financial Viability

    For any securitization program to be a viable business line for the 
Banks, the program would need to generate an adequate return. The 
outlook for generating such a return can be affected by many factors 
including market conditions, economies of scale, and the form of the 
securitization program (e.g., whether the Banks provide a guarantee on 
the securitized mortgages).
    With respect to financial viability, we are seeking comments on the 
following:
    E.1. What conditions, resources, and capabilities, including 
technological capabilities, would be necessary for the Banks to 
implement a viable securitization program?
    E.2. What are the key factors for launching and operating a 
successful securitization program in the foreseeable future? What scale 
of operations would be necessary to operate a successful securitization 
operation?
    E.3. Given the Banks' capabilities, what are the feasible strategic 
alternatives for competing in the securitization market?
    E4. How might the Banks achieve a comparative advantage over 
existing competitors in the market?
    E.5. What segment of the market for MBS would the Banks serve? How 
would the Banks differentiate their MBS product from existing 
competitors in that market? Would there be sufficient demand for 
product securitized by the Banks?
    E.6. Would the Banks be able to earn a sufficient return if the 
current structure of the AMA programs in which members provide the 
credit enhancement were carried over to the securitized products? Would 
a Bank guarantee of the mortgages be necessary to assure an adequate 
return for the Banks and/or the success of the program?
    E.7. How would the Banks' advances programs (and returns from the 
advances business) be affected if the Banks also bought mortgages from 
members to securitize? Could a securitization program affect other Bank 
products, such as MPF Xtra?
    E.8. How would the development of a market for covered bonds affect 
the feasibility of launching a securitization program?

[[Page 8960]]

F. Accounting Issues

    Currently, the mortgages purchased under the mortgage purchase 
programs are designated by the Banks as Held-in-portfolio. Therefore, 
short-term market gains and losses on their purchased mortgage 
portfolios are not recognized in financial statements. If the Banks 
developed a securitization program, mortgage loans that they purchased 
for securitization would have to be designated as held-for-sale. 
Fluctuations in current market values of these loans would be 
recognized through current income while the loans are held by the Bank. 
Allowing a mortgage securitization program, therefore, could in theory 
create greater volatility in Banks' reported income, although such 
possibility must be weighed against the longer terms effects on income 
that might arise from not needing to hold purchased mortgages on their 
books for the life of the loans. The Banks could also be expected to 
implement hedging strategies that could mitigate the effects of market 
value changes in the mortgages held for securitization on their income.
    Accounting considerations may also affect a Bank's decision as to 
whether it would securitize loans that it previously purchased with the 
intent to hold them to maturity. If a Bank determined that it wanted to 
securitize any of these loans, the Bank would need to identify which 
loans that it would likely securitize, and designate such loans as 
held-for-sale. It would also have to recognize immediately current 
market value gains and losses in current income and continue to 
recognize future changes in market value through income until the loans 
actually are securitized. Given that the mortgages portfolio for most 
Banks currently show market value losses, such immediate recognition of 
the losses initially could negatively affect a Bank's reported income.
    If the Banks were to guarantee the payment of principal and 
interest on the MBS they issue, they would also have to record the 
guarantee on their balance sheets. Guarantees generally would appear to 
meet the definitions of derivatives under Statement of Financial 
Accounting Standard 133, but may qualify for the exemption provided for 
financial guarantee contracts in that statement. In any case, the use 
of a guarantee as part of the securitization program would affect the 
timing and the amounts of the Banks' reported income.
    In September 2008, the Financial Accounting Standards Board (FASB) 
issued Exposure Drafts requesting public comment on a proposed 
amendment to Interpretation No. 46 (revised December 2003), 
Consolidation of Variable Interest Entities (FIN 46(R)) as well as to 
FASB Statement No. 140, Accounting for Transfers of Financial Assets. 
These amendments could significantly affect financial reporting for 
securitizations and associated guarantees. Therefore, the amendments 
could present challenges for the Banks in implementing a securitization 
program.
    F.1. Would accounting considerations, including, but not limited to 
amendments to FIN 46(R) and FASB 140, present a major obstacle to the 
Banks' implementing a securitization program?

G. Legal Issues

    The Banks currently purchase mortgages under the incidental 
authority in sections 11(a) and 11(e)(1) of the Bank Act. 12 U.S.C. 
1431(a) and (e)(1). In approving the initial mortgage purchase 
programs, the Finance Board noted that the programs were a way for the 
Banks to channel funds into residential housing finance in a manner 
that was functionally similar but technically more sophisticated than 
the advances programs. For that reason, it saw the activity as 
incidental to the dominant statutory purpose of the Banks to make 
advances. See Fin. Brd. Res. No. 96-111 (Dec. 23, 1996). See also, 
Office of General Counsel Opinion, 1996-GC-10 (Fin. Brd. Dec. 18, 
1996).
    The Finance Board's decision to allow the Banks to purchase 
mortgages was challenged in court, but it was eventually upheld by the 
Fifth Circuit Court of Appeals. See Texas Savings v. Fed. Housing Fin. 
Brd., 201 F.3d 551 (5th Cir. 2000). In upholding the Finance Board's 
action, the court concluded that the Finance Board's interpretation of 
the Bank's incidental authority was ``permissible * * * because it is 
consistent with the structure and purpose of the * * * Bank Act, i.e., 
to use the FHLBanks' access to low-cost funds in the securities markets 
in an effort to improve the level of housing finance.'' \7\ Id. at 556. 
While major amendments were made to the Bank Act in 1999 by the Gramm-
Leach-Bliley Act and more recently by HERA, the Banks' central mission 
remains providing funding for housing finance so that the underlying 
reasoning in Texas Savings is still applicable. See 12 U.S.C. 1430. See 
also, Sec.  1313, Public Law 110-289 (amending 12 U.S.C. 
4513(a)(1)(B)(ii)).
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    \7\ The court determined that it was sufficient that the Banks 
had authority to purchase mortgages as an activity incidental to 
their housing finance mission, and it did not find it necessary to 
consider the Banks' investment authority or the Finance Board's 
construction of the investment authority provision of the Bank Act. 
See Texas Savings, 201 F.3d at 551 n.5.
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    Securitization would go beyond the Banks' current mortgage purchase 
programs. It would provide the Banks an additional means to manage the 
risks of these programs by allowing them to package and sell the loans 
that they purchase. The underlying purpose of the mortgage purchase 
programs--to channel funding into housing finance--would not be 
altered, however, by a securitization program. Thus, the underlying 
legal reasoning applicable to the mortgage programs might apply to a 
securitization program so that the Banks should be able to undertake 
such a program without additional changes to their authorizing 
statutes. This would especially appear to be true if the Banks do not 
also guarantee the payment of principal and interest for the MBS as 
part of the securitization program.
    In fact, in 1999, the Finance Board approved a program for the New 
York Bank that allowed it to buy certain conforming mortgages and 
community development loans originated by members, pool the loans and 
create credit support and other tranches from those pools, and sell 
those interests back to its members. See Fin. Brd. Res. 1999-43 (Aug. 
18, 1999) (approving modifications to Community Mortgage Asset 
Activities Program). See also Office of General Counsel Opinion, 1999-
GC-03 (Fin. Brd. Aug. 12, 1999). The program required that the member 
that originated the loans buy the credit support tranche from the Bank, 
and that the loans sold by the member meet certain other requirements. 
The Bank was not authorized to guarantee payments on the pooled loans.
    This program was approved under the Banks' incidental powers, as 
were the other mortgage purchase programs. See Fin. Brd. Res. 1999-43, 
and 1999-GC-03. In analyzing the program, the Finance Board's Office of 
General Counsel reasoned that the securitization of the loans in 
question both would be a means to help members control the risks of 
their housing and community development lending \8\ and would be a 
means for the Bank itself to manage the risk of its investment 
portfolio so that the program would be ``convenient and useful'' in 
carrying out the Bank's express investment powers. See 1999-

[[Page 8961]]

GC-03 at 5. Although the Bank in question never implemented this 
program, so no loans were securitized under it, the legal reasoning 
remains valid given that the incidental powers provisions have not been 
amended since the program was approved. The same legal reasoning could 
be extended to a more general securitization program for the Banks.
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    \8\ The Opinion noted that one of the underlying purposes of 
amendments to the incidental power provisions of the Bank Act made 
by Federal Financial Institutions Reform, Recovery and Enforcement 
Act of 1989 (FIRREA) was to permit the Banks to assist members in 
controlling their costs, and the interest and credit risks arising 
from their activities. See 1999-GC-03 at 4-5.
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    With respect to legal issues, we are specifically seeking comment 
on the following:
    G.1. Do the incidental authorities in section 11(a) and 11(e)(1) of 
the Bank Act provide a sufficient basis to authorize a securitization 
program, especially if the Banks are allowed to guarantee the 
securitized mortgages?
    G.2. Are there other laws, such as the Government Corporation 
Control Act or specific tax provisions, which could create obstacles to 
a Bank securitization program? \9\
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    \9\ For example, if the Banks were to issue CMOs as part of the 
program, the Banks would want such interests to qualify for the tax 
treatment provided to REMICs. The Banks, however, because they are 
not subject to Federal taxes, would most likely be considered a 
``disqualified organization'' under the REMIC tax provisions and 
therefore could not hold any residual interests that were created by 
the securitization. See 26 U.S.C. 860E.
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    G.3. Given that different formats for securitization could be 
adopted by the Banks, would some formats present more legal obstacles 
to a program than others?

V. Summary of Request for Comment

    In anticipation of presenting a report to Congress by July 30, 
2009, FHFA is seeking public comment with respect to a possible 
securitization program in the Bank System. Some of the policy and 
safety and soundness issues that FHFA would need to address in the 
study are described in this notice. FHFA anticipates that responses to 
the questions raised in this notice will constitute an important source 
of relevant data and analysis. In addition to responses on the specific 
questions raised, commenters should provide other information that they 
believe may be useful in our analysis and preparation of the FHFA 
report to Congress.

    Dated: February 23, 2009.
James B. Lockhart III,
Director, Federal Housing Finance Agency.
[FR Doc. E9-4262 Filed 2-26-09; 8:45 am]
BILLING CODE 8070-01-P


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