Fannie Mae Second Quarter 2020 Earnings Media Call Remarks
Adapted from Comments Delivered by Hugh R. Frater, Chief Executive Officer, and Celeste Mellet Brown, Executive Vice President and Chief Financial Officer, Fannie Mae, Washington, DC
Hugh R. Frater:
Welcome and good morning.
I'm going to start us off with an overview of how we as a company are navigating this historic year. Then, Celeste will discuss our latest outlook on the economy and the housing market and the drivers of our second-quarter results.
I said last quarter that this was a mission moment for Fannie Mae, and in the months since, this has proven true.
In March, the pandemic forced our business to go remote. We did so swiftly, demonstrating the resiliency of our people and our operations.
In the second quarter, the ensuing economic downturn led to a great many homeowners and renters to look for help and assistance, which we provided.
Finally, George Floyd's death led to renewed nationwide protests against police brutality and racism.
Let me briefly describe our ongoing responses to these historic events.
In March, we began to prepare for what we expected would be a significant shock to our economy, our customers, and borrowers. In response to COVID, we deployed Fannie Mae’s homeowner and renter assistance tools and took steps to meet the extraordinary liquidity demands of the market.
We suspended single-family foreclosures and worked with servicers to make forbearance plans widely available to borrowers. As of June 30, nearly 1 million of the single-family loans in our book of business were in forbearance.
At the same time, historically low interest rates fueled refinancing at volumes we have not seen in more than 15 years. Our Single-Family acquisition volumes in the second quarter were the highest we have seen since 2003. Our presence in the market made it possible for more than 1 million homeowners to purchase a home or refinance their mortgage at lower rates during the second quarter.
An important component of this volume was community lenders — independent mortgage banks, credit unions, and small financial institutions who rely heavily on our whole loan conduit for the liquidity they need to serve their customers.
For many of these lenders, Fannie Mae was a stable lifeline in a time of extraordinary uncertainty.
We deployed flexibilities on inspections and appraisals, and relied on our digital tools — such as income and asset verification — to help lenders meet demand and close loans in a remote work environment.
And in Multifamily, while some sources of financing retreated from the market, our Multifamily business has been an important source of sustainable financing for affordable and workforce housing during the first months of the pandemic.
We offer COVID-related forbearance plans to our Multifamily borrowers that require those borrowers to agree to certain protections for tenants, including suspending evictions for non-payment of rent, consistent with the requirements of the CARES Act.
We know from past disruptions how vital it is that borrowers and renters have timely, relevant, and accurate information on their options. That's why in May, we launched our Here to Help campaign to educate homeowners, renters, servicers, lenders, and multifamily borrowers. This campaign supports and empowers Fannie Mae Single-Family servicers and originators, as well as Multifamily DUS lenders and borrowers, with information and tools to help people get through this pandemic.
We are also educating homeowners and renters directly through our KnowYourOptions.com website, which has become a go-to source to understand forbearance and other assistance options.
The Here to Help pages on Fanniemae.com have had more than 600,000 pageviews since May, when the campaign began.
And homeowners and renters have used our Loan Lookup Tool and Renters Resource Finder more than 370,000 times to see if their house or apartment is eligible for our assistance.
Taken together, our actions are having a positive impact:
- Homeowners looking to take advantage of refinancing have found a stable, liquid market where lenders are able to deliver refis and home purchase loans at high volume even while working remotely.
- And the Here to Help campaign has provided vital information to hundreds of thousands of homeowners and renters in need.
At the same time, our credit performance during this period is benefiting from the strong underwriting practices we've had in place for the last 10 years.
To me, the three takeaways from the quarter are this:
- One, we have built a solid book of business with safety and soundness at its core.
- Two, we are delivering on our mission to be a force for stability, affordability, and liquidity during a time of turmoil.
- And three, we're doing all of this with the commercial speed and agility this moment demands.
I remain incredibly proud of the performance of our people during this period. They are taking this mission moment to heart and producing results for the housing system.
However, the hard reality is that, for all the good work Fannie Mae has done so far in 2020, the future is full of challenges.
One of those challenges surely is reckoning with our country's legacy of racism and its poisonous effects on our society. This issue is close to home for Fannie Mae. Not only because it speaks directly to our values and our long history as a champion of diversity and inclusion; but also, because housing — and the housing market's history of racist practices and outcomes — speaks directly to our mission and Fannie Mae’s role in building a better future for our country.
As I said in my statement of June 11, Fannie Mae's role in housing finance brings with it important responsibilities. We are committed to doing all we can to support a housing finance system that is free of racism. But we also recognize that more needs to be done.
We look forward to partnering with those across the housing sector who have the commitment, resources, and energy to make lasting change.
We can do better, and we will. I expect the many stakeholders who rely on Fannie Mae will help us keep that pledge.
Looking forward, our focus for the rest of 2020 is unchanged:
- We will continue to address the needs of customers and consumers and maintain stability in the housing market — especially by continuing to help homeowners and renters affected by COVID-19.
- We will continue to rebuild our capital base and operate in a safe and sound manner.
- We will continue to build our digital mortgage capabilities, which proved themselves during the past few months and which are vitally important to the mortgage industry's future.
- And, we will continue to build our business around strong governance, positive social impact, and creating opportunities for everyone to have access to housing that they can afford.
Now I'll turn it over to Celeste.
Celeste Mellet Brown:
Thanks, Hugh, and good morning everyone.
I will start off today by discussing our economic outlook and providing an update on the financial impact that we are seeing from COVID-19. I’ll also review the quarter and then touch on a few topics.
When we reported our earnings in late April, we had limited data about the pandemic. We estimated the potential financial impact by making assumptions about the progression of the illness and likely effects on our business and financial results. This quarter, we have a great deal more information to evaluate, but there remains a high degree of uncertainty about the pandemic's path and wide-ranging knock-on effects. We are closely monitoring the impact on borrowers, the progression and resurgence of the illness, and the effects of government relief and intervention.
Before I get into the details of the quarter, one initial comment of Hugh's that I want to touch on is the substantial strides we, and the industry, have made in managing risk. A decade of regulatory reform and the adoption of better underwriting standards have created a much healthier mortgage market today than what existed in the run-up to the 2008 financial crisis. We have spent years strengthening the quality of our book while supporting our goal of providing financing for sustainable housing. We believe the quality of our risk management practices has positioned us well to navigate the challenges facing us today.
The U.S. economy officially entered a recession in Q1, driven by the response to COVID-19. While portions of the economy have re-opened, regional outbreaks may become the new norm and the extent to which consumers, workers, and businesses retrench in the coming months is uncertain.
Annualized real GDP fell by 5% in the first quarter, and we estimate a further decline of 35% in the second quarter. Despite a likely rebound later this year, we expect full-year 2020 GDP to fall approximately 4% before returning to growth in 2021. The unemployment rate spiked to nearly 15% in April, which we believe will be the peak of this recession, though we may see volatility in the coming months due to an uptick in cases.
In the second quarter, Treasury yields remained at or near historic lows, while mortgage rates recently fell below 3.0%. We expect them to remain low for the remainder of the year.
Our proprietary Home [Purchase] Sentiment Index, or HPSI, increased in June after sharp losses in optimism in April and May. While the June survey results suggest favorable conditions for home buying and home selling, they also show that survey respondents have persistent, elevated concerns about job security in the face of record unemployment. We believe the index may fluctuate in the coming months, depending on the extent to which customers choose to delay or accelerate home-buying plans due to the pandemic.
To date, the housing market has held up better than our initial expectations. As a result of the very low rate environment as well as continued low housing supply, we have increased our 2020 home price forecast to over 4% from our estimate of near zero in Q1, due primarily to strong growth in the first half of the year. In our view, growth in 2020 represents a pull forward from future years. We have thus reduced our longer-term home price forecast, as we believe there may be a delayed response in home prices due to ongoing economic and labor market weakness.
We expect existing home sales to grow approximately 25% in the third quarter after declining approximately 20% in the second [quarter], consistent with the recent uptick in purchase mortgage applications. We expect full year sales to be around 8% below last year’s level. On the refinance side, given strong mortgage applications and continued low rates, we believe that originations will reach nearly $1.9 trillion in 2020, a level eclipsing the last large refinance wave in 2012.
Based on current mortgage rates, we estimate that approximately 70% of the Single-Family book is incentivized to refinance, defined as the case when prevailing mortgage rates are at least half a percentage point below the borrower' current rate. If a large portion of such loans in our book were to refinance, this may slow future single-family acquisitions, but would result in an even more stable guaranty book of business.
The pandemic also negatively impacted national multifamily market fundamentals in the second quarter, as higher unemployment and economic uncertainty resulted in a weakening of rental and occupancy growth. Property sales activity continues to be very low, but there are signs that this market is returning.
As of the end of June, we estimate that 5.7% of our Single-Family loans (based on loan count) and 1.2% of multifamily loans (based on UPB) were actively in forbearance. Since last quarter, we have refined our estimates of forbearance take-up rates for both books. Based on recent economic data and actual forbearance activity in the second quarter, we now expect to reach forbearance take-up rates of 12.5% in Single-Family and 10% in Multifamily. While we anticipate fewer loans entering forbearance versus our expectations at the end of April, the profile of those loans is worse than previously expected. Our analysis of forbearance take-up rates and outcomes will continue to evolve based on the path of the pandemic and its effect on economic activity.
Since the onset of the pandemic, approximately 1 million of our single-family loans have entered forbearance. However, we believe that some of the borrowers entered into forbearance pre-emptively, in case of economic hardship. Around 15% of borrowers who entered forbearance this year have since exited, while 25% of single-family loans in forbearance as of June 30 remained current.
Single-family loans with lower quality credit characteristics are more likely to enter forbearance. At the end of the second quarter, for loans actively in forbearance, 21% had a FICO score below 680 (as compared to 10% for all Single-Family loans in our book), and 18% had a mark-to-market loan-to-value ratio greater than 80% (as compared to 13% for the total book).
For Multifamily, approximately 280 loans with UPB of $4.3 billion were in forbearance at quarter end. We have updated the Multifamily forbearance program by extending relief for most borrowers experiencing financial hardship for an additional three months, to six months. Repayment plan guidance has been extended to 24 months versus the original 12.
For Multifamily, seniors properties have been impacted disproportionately, driven by increased COVID-related operating expenses as well as limits on new tenants. We have also seen higher forbearance rates in student housing, as most universities shifted to online learning in the spring and uncertainty about in-person classes in the fall remains. Forbearance rates in seniors and student properties were 11% and 3%, respectively, at quarter end. The overall forbearance rate for Multifamily was 1.2%. Seniors and student properties represent less than 10% of the UPB of our multifamily book.
As a result of the economic dislocation of COVID, our seriously delinquent rate, or SDQ rate, at quarter-end in Single-Family increased by almost 200 basis points from the first quarter to 265 basis points and in Multifamily by 95 basis points to 100 basis points. Excluding loans in forbearance, the SDQ rate for Single-Family and Multifamily loans at quarter end would have been 59 and 9 basis points, respectively.
For our allowance, our updated analysis of the expected impact of COVID was relatively flat when compared with the $4.1 billion allowance impact in the first quarter. While the outlook for forbearance take-up rates is lower as I mentioned, this change was offset by worse expectations regarding credit profile of loans entering forbearance. As we receive more data, our allowance for credit losses could increase or decrease in coming quarters.
Let me update you on the application of our non-accrual policy as it pertains to COVID-related loans in forbearance. Normally, after two months of delinquency, we stop accruing interest income on loans and reverse out previously accrued interest. However, pursuant to Interagency Accounting guidance issued in the second quarter, we updated the application of our non-accrual policy for COVID-affected loans to accrue interest for up to six months for both single-family and multifamily delinquent loans.
For loans in forbearance beyond six months, we will continue to accrue interest income only if collection continues to be reasonably assured. The updated application of the policy also requires the establishment of an allowance for expected credit losses on the accrued interest, which was approximately $200 million at quarter end. We expect this allowance to grow as our population of delinquent loans increases and loans extend time in forbearance.
We expect that a subset of loans in forbearance will modify or default and will need to be purchased out of MBS trust, and expect to begin making P&I payments after four months. To fund these purchases and payments, we have and will continue to increase our liquidity through the issuance of additional debt, which will decrease the income earned on our retained portfolio.
Turning now to our second quarter financials.
We earned comprehensive income of $2.5 billion, up $2.1 billion from the first quarter, primarily due to lower credit-related expenses. In the first quarter, credit-related expenses were driven by a $4.1 billion increase in the allowance for loan losses due to the economic dislocation caused by COVID. The allowance was materially unchanged in the second quarter.
Our net worth reached $16.5 billion at the end of June.
In the Single-Family business, our market share of single-family mortgage loans securitized by the GSEs was 61% in the second quarter, compared to 59% in the first quarter.
Single-family acquisitions of [approximately] $350 billion in the second quarter increased by 84% quarter-over-quarter, driven by a $137 billion increase in refinance volume. This is the highest level of refinance volumes in any quarter since the third quarter of 2003. The higher share of refinance acquisitions drove improvement to the overall credit profile of our Single-Family acquisitions.
The average guaranty fee on acquisitions, net of TCCA, fell nearly 3 basis points to 47 basis points in the second quarter, driven by an improvement in the credit profile.
Our average Single-Family conventional guaranty book of business grew by over $50 billion quarter over quarter to reach more than $3 trillion in the second quarter.
For Multifamily, our share of GSE mortgage acquisitions was 49% in the second quarter. Multifamily volume in Q2 was $20 billion, bringing our total acquisition volume against FHFA's five-quarter volume cap to $52 billion, leaving $48 [billion] in capacity through the end of 2020.
The Multifamily book grew nearly 4% in the quarter, while the credit quality of the acquisitions remains strong. In Q2, new Multifamily business acquisitions had an average loan-to-value ratio of 65% and an average actual debt service coverage ratio of 2.2 times.
Our capital requirement under FHFA's Conservatorship Capital Framework was approximately $88 billion in the second quarter, up from $82 [billion] in the first. Single-Family and Multifamily credit risk capital both increased due to growth in the book of businesses. Additionally, our Single-Family CRT benefit declined during the quarter due to the strong refinance environment and the cessation of issuance.
During the second quarter, FHFA provided updated guidance on the capital treatment for Single-Family loans in forbearance, which provides some capital relief, consistent with actions taken by bank regulators. Under the new guidance, loans that become delinquent while in COVID-related forbearance will incur a lower capital charge than loans delinquent not in COVID-related forbearance. Additionally, COVID-related forbearance delinquencies that self-cure through a payment deferral or repayment plan will not incur an increased capital charge. Without FHFA's updated capital treatment guidance for COVID-related forbearance, our total capital requirement would have been [approximately] $7 billion higher, before accounting for CRT.
In May, the FHFA released a new proposed regulatory capital framework for the GSEs that is expected to require us to hold significantly more capital than the rule proposed in June of 2018.
While the re-proposed rule maintains a mortgage-risk-sensitive framework, it includes additional requirements that:
- Increase the minimum leverage-based capital;
- Require capital buffers that can be drawn down in periods of financial stress;
- Impose minimum percentages, or "floors," on risk-weight exposures and on retained portions of credit risk transfer transactions; and
- Provide less capital relief for credit risk transfer activities than under the 2018 proposal.
We believe the new proposed capital rule could have significant consequences for our business model, capital planning, and ability to attract private investment if implemented as currently proposed. We plan to submit a public comment letter with our recommendations for the final rule.
Finally, as you are aware, we announced last month that we retained Morgan Stanley as our underwriting financial advisor to assist in development of a recapitalization plan that is a critical input into our FHFA-directed transition out of conservatorship.
The Morgan Stanley team, along with our legal counsel, Sullivan & Cromwell, has been integrated into our process.
We plan to continue to work closely with FHFA to develop and implement a responsible and viable approach that enables us to exit conservatorship.
Hugh R. Frater:
Thanks a lot, everybody, for your time this morning. We look forward to speaking with you again about our third-quarter results in the fall.
Fannie Mae's July 30, 2020 media call includes forward-looking statements, including statements relating to: the impact of the COVID-19 pandemic on the company's business and financial results; economic and housing market conditions; the impact of the company's potential future capital requirements; the company's business plans and strategies; and the credit quality and performance of its book. Actual results and events, and future projections, may turn out to be very different from these statements. Factors that may lead to different results are discussed in "Risk Factors," "Forward-Looking Statements," and elsewhere in the company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2020 and its Annual Report on Form 10-K for the year ended December 31, 2019. The company's forward-looking statements speak only as of the date they are made, and the company undertakes no obligation to update any forward-looking statement as a result of new information, future events or otherwise, except as required under the federal securities laws.