On Jan. 5, the Federal Housing Finance Agency announced substantial loan-level price adjustment changes for certain loan scenarios.
The Federal Housing Finance Agency (FHFA) is taking another crack at implementing changes that target Fannie Mae and Freddie Mac’s (the Enterprises) upfront fees for certain loans. These targeted pricing changes are intended to “strengthen the Enterprises’ safety and soundness and to ensure access to credit for first-time homebuyers and low- and moderate-income borrowers.” Broadly translated, these changes – similar to the changes implemented in January 2021 and then suspended in September 2021 – are aimed at improving capital ratios, while allowing the Enterprises to adhere to their mission to “facilitate equitable and sustainable access to homeownership and quality affordable rental housing across America.”
The Jan. 5 FHFA announcement outlines substantial upfront fee loan-level price adjustment (LLPA) changes for two specific loans scenarios:
- Second homes
- High-balance loans, except first-time homebuyers with income less than the area median
Fannie Mae and Freddie Mac have each announced specifics of these changes and aggregators have already started to implement the new LLPAs for loans locked via best efforts. However, mandatory pricing may not be affected until much later, as the agencies will be charging these new LLPAs on loans purchased on or after April 1.
Unlike the market disruption in March 2021 brought on by agency policy changes, which included seller-specific delivery concentration limits and no stated deadline, this week’s changes are transparent with a longer lead time for implementation. The LLPAs have been established and the timeline for agency delivery is clear. As a result, it seems less likely these changes will produce the same immediate, violent price movement observed in 2021.
What does this mean for borrowers?
With the exception of first-time homebuyers with income below the median in their census tracts, loan rates on second homes and loans that exceed base conforming loan limits will go up in the short term, regardless of bond market movement.
What does this mean for lenders?
Lenders should quickly consider their borrower pricing and loan delivery strategies to protect them from margin deterioration and adverse selection. The result may be an arbitrage opportunity and some price relief down the road.
Lenders that are not hedging loans with securities or mandatory commitments (i.e., locking loans best efforts at the time of borrower lock) should see investors changing their borrower pricing over the coming days. If there is concern about a potential flood of second home and/or high-balance locks, it may make sense to add these new LLPAs pre-emptively.
Lenders that are hedging and delivering mandatory to aggregators should consider implementing these updated LLPAs for new locks now to protect margin on new locks that may be committed or purchased after investors have implemented these fees.
If a lender decides to be aggressive and hold off on implementation, there could be a risk of price deterioration prior to delivery. Lenders who delay implementing new LLPAs should closely monitor the volume of second home and high-balance locks added to the position, as well as investor pricing on these loans, for any sign of deterioration.
Lenders delivering agency-direct have likely seen this movie before and could refrain from making LLPA changes on shorter-term locks, and instead implement LLPAs closer to April.
In these last two scenarios, lenders will want to deliver loans as soon as possible before LLPAs start to rise.
Going forward, with the advantage of some hindsight, we have reason to be hopeful that the market may partially reverse these changes slowly over time. During the similar situation last year, several aggregators were able to create private-label securities (PLS) to capture investment property loans, the same way PLS had been capturing high-balance loans for years, and at higher prices than the GSEs. It is possible that we will see something similar for second homes in 2022.
Because the FHFA and the government-sponsored enterprises (GSEs) have laid out a clear path for these changes, protecting margin is easier this time around. However, lenders should keep a close eye on pipelines & pricing and communicate closely and frequently with their hedge advisors. By remaining focused on the impact of these changes, lenders can help minimize the impact of these new FHFA changes.