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Prepared Remarks of Melvin L. Watt, Director of FHFA at the National Association of Real Estate Brokers' 70th Annual Convention

FOR IMMEDIATE RELEASE
8/1/2017
 

Remarks as Prepared for Delivery

Melvin L. Watt, Director

Federal Housing Finance Agency

The National Association of Real Estate Brokers' 70th Annual Convention

New Orleans, LA

August 1, 2017

Thank you for inviting me to be a part of the National Association of Real Estate Brokers’ (NAREB) 70th Annual Convention. Seventy years of continuous existence is, in and of itself, a significant milestone.  But 70 years of providing support to each other and trusted advice to help African Americans achieve the goal of homeownership deserves extra special recognition. Your mission is still as important today as it was when your organization was formed in 1947.    

In my remarks this evening, I want to focus on topics that I believe are related to helping fulfill critical parts of your mission: ensuring access to credit and ensuring sustainable homeownership for African Americans.  

***

Before I turn my attention to the difficult challenges we face related to African American homeownership, let me tell you a story of homeownership heroism that revealed itself during the economic and foreclosure crisis.  The heroes and heroines were the homeowners who made every conceivable sacrifice imaginable to hold on to their homes and continue to pursue the American dream, even as they saw the value of their homes plummet or fall further and further under water.  

In the midst of the crisis, these heroes and heroines continued to pay their mortgages.  In fact, the overwhelming majority of homeowners whose homes fell under water during the crisis continued to pay their mortgage, most of them without any government-sponsored help or mortgage modifications.  Others got assistance through programs developed by the federal government or proprietary programs offered by lenders.  More than 3 million received streamlined refinances through the HARP program.  And roughly 8 million more got modifications through HAMP or other modification programs.  The big picture is that the tenacity of these homeowners in the face of adversity prevented the crisis from getting a lot worse.  

Throughout history, as we’ve lamented the pain and struggles we endured, we’ve always stopped to honor those who, in the midst of the crisis and hard times, sacrificed to keep things from getting even worse.  It would be disrespectful for us not to acknowledge and thank these mortgage crisis homeownership heroes and heroines before moving on to a discussion of the difficult challenges we continue to face.  

The truth is that the egregious historical forms of housing discrimination, such as racially restrictive covenants and overt racist attitudes, have largely given way to other intractable obstacles that negatively impact African American homeownership.  The numbers don’t lie.  In 2004, prior to the economic and housing meltdown, African Americans enjoyed a homeownership rate of almost 50 percent.  By 2017 the African American homeownership rate had declined to 42 percent, almost back to 1994 levels.  So, on the criteria of homeownership, we are worse off today than we were 20 years ago.  Because equity in homes has always represented a major part of African American assets, the impact of the economic and foreclosure crisis on African American wealth has been substantial.  

The reasons for the retrogression in African American home ownership are multiple.  Some of them are historical factors that were exacerbated by the economic meltdown and the irresponsible practices that led to it.  Others are new factors that casual observers may not focus on or put in context.  Using the bulk of my time this evening to dwell on the multiple reasons for the decline in African American home ownership would make my comments more distressing than this occasion calls for.  But it’s important for me to discuss, or at least mention, some of them to provide necessary context and to make sure we are all operating with the same level of information and focus.  

We all know well the historical reasons for low African American homeownership rates: disproportionate African American unemployment and under-employment, low and stagnant wages, non-existent and depleted savings, and lower wealth in general.  We also know well the unsavory practices that set the stage for our homeownership rates to get worse, especially subprime and predatory lending that disproportionately targeted minorities with mortgages that were designed to fail.  We also know about the generally irresponsible practices in the real estate and mortgage finance sector that ultimately led to the meltdown.  And then, of course, the meltdown resulted in disproportionate reductions in housing values, a disproportionate number of foreclosures, abandoned properties, destabilization, disinvestment and much slower rates of recovery in most African American neighborhoods. 

What may not be as obvious to everyone are some of the newer reasons for the decline in African American homeownership.  

First, it is obvious that the foreclosure crisis left many people wary of homeownership.  Many homeowners, even those who were able to hold on and avoid foreclosure, witnessed the most reliable and valuable asset they owned decline in value, many to a market value well below the balance on their mortgage.  In this atmosphere, conversations about the value of homeownership changed dramatically.  Parents became reluctant to talk up homeownership.  Children who saw their parents lose or come close to losing a home started seeing a lot more prestige and status in owning a car than in owning a home.  It’s important to acknowledge the emotional toll that the crisis had on our lives – both individually and as a community.  As in many aspects of our lives, it’s hard to separate economic impacts from emotional impacts.  In this case, unfortunately, both were devastating.  While applications for conventional home loans have declined by 58 percent overall since the foreclosure crisis, the decline in African American applicants has been a whopping 77 percent compared to a 45 percent decline for white applicants.      

A second factor adversely impacting African American homeownership rates has been the increasing value placed on staying flexible.  In a difficult job market, where the ability to move quickly can be important to get to new job opportunities or to take advantage of promotions, many people, especially recent graduates, are simply placing a higher priority on the flexibility provided by renting.  African Americans probably haven’t thought as much about the value of being able to move since our great migration from the south to the north years ago.  

Third, let’s not underestimate the impact of some cultural and social changes that are taking place in our communities.  For example, marriage, which has long had a high correlation to becoming a first-time homebuyer, is increasingly likely to be delayed these days.  I was barely 22 when I got married, but both my sons delayed marriage until they were approaching 40.  Thankfully, after they got married, both of them saw the value of becoming homeowners and it seemed reasonable for me to help them do so.  

Another thing adversely impacting minority homeownership is something we’re often reluctant to talk about in “mixed company,” the vexing issue of gentrification.   After ignoring our communities for years because of racial attitudes and stereotypes, the world has finally realized that many of our communities are situated in the most valuable and convenient locations.  Living in the “inner city” has taken on new meaning.  Changing racial attitudes, the trendy appeal of living in diverse neighborhoods and the age-old attraction of “location, location, location” are resulting in a double negative impact on African American homeownership.  On one hand, African American families who have lived in these neighborhoods for years, often generations, are faced with escalating property taxes, and they are finding it hard to resist rapidly escalating, often cash, offers from buyers.  On the other hand, African Americans looking to buy homes are finding it increasingly difficult, if not impossible, to compete to buy in these suddenly attractive, inner city neighborhoods. 

***

For both historical and new reasons, the odds are challenging for improving African American homeownership.  But haven’t you at NAREB been confronting similar challenges for the last 70 years?  In the face of all the obstacles, both old and new, you are to be applauded for the five year goal embodied in your Two Million Black Homeowner Initiative.  

While this goal is ambitious, it’s well worth taking on the challenge.  While homeownership is not right for everyone and we should all be advocating for African Americans to diversify their investments beyond just investments in their homes, homeownership has long been a great way for our families to build wealth.  Studies confirm that, even after accounting for the severe adverse impact of the housing crisis, homeownership continues to be a powerful tool for building wealth in our communities.[1] 

So let me turn my attention quickly to a discussion of some things we are doing at the Federal Housing Finance Agency (FHFA) that we believe will help.  As I do so, please keep in mind that Fannie Mae and Freddie Mac have been in conservatorship under the control of FHFA for the last nine years and that the role, if any, they will play in the future of housing finance is still the subject of debate in Congress.  You should also keep in mind that Fannie Mae and Freddie Mac (which we refer to as "the Enterprises") are not lenders.  They provide liquidity to the market by buying mortgage loans off lenders' books, packaging them as securities, and selling the securities to investors around the world to help finance housing in the United States. 

Because the Enterprises are not lenders and, of course, can't buy loans from lenders unless and until lenders make the loans, one of our biggest challenges at FHFA has been getting lenders to make loans to creditworthy borrowers who want to buy a home.  That has been far from an easy challenge to meet.  Just as the credit of borrowers and the relationship between borrowers and lenders needed repair after the foreclosure crisis, the relationship between the Enterprises and lenders has also needed major repair.  The uncertainty of the post-crisis mortgage market and the substantial litigation risks that followed made many lenders a lot more reluctant to lend and required ongoing dialogue between FHFA, the Enterprises, and lenders about needed changes.  There's no sense burdening you here with details about how revising the "representation and warranties framework" helped.  But, take my word, these revisions were critical to getting credit availability to move back toward normalcy. 

After major efforts and the passage of way too much time, we're finally starting to see some movement.  Some lenders are finally showing more willingness to extend credit to borrowers who meet the broader credit criteria reflected in the Enterprises' credit boxes, rather than basing their lending decisions solely on their own narrower criteria that routinely led to the extension of credit primarily to borrowers with pristine credit. 

A second step the Enterprises and FHFA took several years ago to improve access to credit goes directly at perhaps the most difficult challenge many African Americans face in obtaining a mortgage, the lack of a down payment.  Our analysis showed that many borrowers were creditworthy and could sustain paying a mortgage, but they did not have the money to cover a large down payment and closing costs.  So we approved a limited program that allowed the Enterprises to purchase mortgages with only a three percent down payment.  Between 2015 and June 2017, the Enterprises have purchased over 130,000 mortgages with a three percent down payment and the program is continuing to grow.  The average loan amount has been about $180,000, and over 95% of these borrowers were first-time homebuyers.  The Enterprises also allow reduced fees when the borrower's income is at or below the area median income.  Your members should definitely be reaching out to the Enterprises to learn more about their three percent down payment programs and you should be insisting that lenders provide this as an option to eligible borrowers.   

A third factor we've spent quite a bit of time working on is the role of debt to income ratios in assessing whether a borrower is creditworthy.  Those of you who have known me long enough to be able to trace my service back to the House Financial Services Committee in Congress, may recall that I share a lot of the responsibility (some will say blame) for what became known as the "ability to repay" rule.  This provision in the Dodd-Frank law gave rise to the "qualified mortgage" or "QM" standard, which sets certain standards regarding a borrower's ability to repay a mortgage.  The regulations implementing this law allow lenders to meet the standard by originating loans with debt to income ratios that do not exceed 43 percent. 

While the Enterprises are in conservatorship, loans that they approve for purchase, including loans with debt to income ratios higher than 43 percent, also meet the qualified mortgage standard.  The guidelines of both Enterprises allow the purchase of loans to borrowers who are otherwise creditworthy and have DTI ratios of up to 50 percent, and both Enterprises have communicated to lenders that these loans fall within their approved credit boxes.  Our studies show that the flexibility to allow for higher DTIs in a responsible way is extremely important to supporting access to mortgage credit and homeownership for African Americans. 

In light of the number of borrowers who do not have traditional credit, another important change at both Enterprises has been to allow the purchase of loans through their automated underwriting systems to borrowers who do not have credit scores.  This program requires the lender to certify a borrower's repayment history on nontraditional forms of credit, such as rent payments or utility bills.  While certainly not a substitute for working with borrowers to build or repair their credit scores, this is an important step to enable the Enterprises to consider non-traditional sources of credit, particularly rent payments.  

We are also continuing to make progress on the alternative credit score model project we have been working on for quite some time.  This project started by evaluating the costs and operational impacts different credit score options would have on the Enterprises and the broader industry and whether different credit score options would improve access to credit and the accuracy of loan purchase decisions by the Enterprises.  As we looked deeply at these issues, however, the project has evolved to include additional considerations about competition in the credit score market.  For example, how would we ensure that competing credit scores lead to improvements in accuracy and not to a race to the bottom with competitors competing for more and more customers?  Also, could the organizational and ownership structure of companies in the credit score market impact competition?  We also realized that much more work needed to be done on the cost and operational impacts to the industry.  Given the multiple issues we have had to consider, this has certainly been among the most difficult evaluations undertaken during my tenure as Director of FHFA. 

Fortunately, two factors have led us to conclude that we have more time to complete our evaluation than almost everyone involved would like for us to take.  First, based on the overwhelming feedback we have received from the industry, it is clear that it would be a serious mistake to change credit scoring models before mid-2019 when the Common Securitization Platform is fully operational and the Enterprises implement the Single Security.  For this reason, any credit score model change would not go into effect before 2019 even if I announced a decision today. 

Second, we believe that, regardless of the decision we make on credit score models, the short term impact on access to credit will not be nearly as significant as was first imagined or as the public discourse on this issue has suggested.  Credit scores are only one factor the Enterprises use to evaluate loan applications and the Enterprises currently use the same or even greater levels of credit data in their underwriting systems as the credit scoring companies use.  

All of this means that we have enough time and flexibility to get the additional input and information we believe will be important to making the right decision.  Consequently, FHFA will be issuing a request for input this fall to get additional information about the impact of alternative credit scoring models on access to credit, costs and operational considerations, and including questions around competition and using competing credit scoring models to make mortgage credit decisions.  We have an obligation to get this right and we need more information to be able to do so. 

Some other efforts to increase access to credit are still in development.  As part of our 2017 Scorecard, FHFA required the Enterprises to redouble their efforts to conduct sound research about ways to improve access to credit.  We are working with the Enterprises to ensure that this research builds on past efforts and leads to new pilots and initiatives so we can test and learn from new approaches.  I'll mention a few examples.  Earlier this year, Fannie Mae announced several changes related to student loan debt that went into effect in April.  These changes look to responsibly address the growing challenge that student loan debt poses for many young people and that certainly impacts their debt to income ratio.  Both Enterprises are also considering how to better verify income for self-employed applicants and people who take part in the so-called gig economy, such as those who drive for Lyft or Uber.  Another research area is focusing on how to grow a pipeline of mortgage-ready borrowers over the long term by helping individuals and families build their financial readiness.  We will continue to work with the Enterprises on these and other ideas throughout the year, and I look forward to sharing more details as this process unfolds.

Let me conclude by discussing a topic NAREB's leadership has championed consistently, the desire to have FHFA approve lower guarantee fees.  On this issue, I am confident that our objectives are the same.  However, our responsibilities are different. 

As you may recall that even before I was sworn in at FHFA, I announced that I would suspend the guarantee fee increases that had previously been announced by my predecessor.  Shortly after I was sworn in as Director of FHFA, I did just that.  After we suspended the planned increases, we undertook an extensive review of the amount of guarantee fees being charged by the Enterprises, including ongoing guarantee fees and upfront delivery fees.  At the end of this review, we concluded that the Enterprises were charging the appropriate overall level of guarantee fees, but without the increases that had been previously proposed and that I had suspended.  We removed the adverse market charge and made some small adjustments to the guarantee fees that resulted in modest reductions for borrowers with lower credit scores or higher loan to value ratios.  But we left the overall guarantee fee structure largely the same.

We constantly monitor the level of guarantee fees and will certainly make adjustments if we think they are warranted.  But, in addition to the statutory responsibility FHFA has to ensure liquidity and access in the housing finance market, we also have the responsibility to ensure the safety and soundness of the Enterprises.  We are constantly balancing these statutory obligations.  For now, I continue to believe that we have found the right balance.

***

Thank you again for the invitation to join you this evening.  I hope my comments help further an understanding of some of the challenges we face and some of the steps FHFA and the Enterprises are taking to help meet those challenges.  More importantly, I hope my comments reaffirm our commitment to making progress as we seek to reach our common goals.  


[1] Christopher Herbert, Daniel McCue, Rocio Sanchez-Moyano, Update on Homeownership Wealth Trajectories Through the Housing Boom and Bust, Working Paper: Harvard Joint Center on Housing Studies (February 2016) (stating that "[e]ven after the precipitous decline in home prices and the wave of foreclosures that began in 2007, homeownership continues to be associated with significant gains in household wealth at the median for families of all races/ethnicities and income levels.  Households who are able to sustain homeownership over prolonged periods stand to gain much."), available at http://www.jchs.harvard.edu/sites/jchs.harvard.edu/files/2013_wealth_update_mccue_02-18-16.pdf.

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