The Financial Stability Oversight Council released its 2013 annual report on Thursday.  The Council is composed of representatives of most of the financial and regulatory agencies in the federal government including Housing and Urban Development (HUD), the Federal Reserve, Consumer Financial Projection Bureau (CFPB), Treasury, and the Office of Comptroller of the Currency.

The report deals primarily with the larger issues in the financial system such as structural vulnerabilities, liquidity, U.S. sensitivity to foreign events, interest rate risk, and cyber security.  The Council, however does recap some of the recent events and current concerns about housing finance and makes a few recommendations for going forward.

The report acknowledges that structural and cyclical weakness persist in the housing sector.  In particular the large numbers of households with low or negative equity in their homes could result in increased pressures on the housing market should there be a slowdown in economic growth.  As in other sectors, cyber security is an area of concern.

The housing finance system has required an extraordinary level of government support in the past few years.  The two government sponsored enterprises (GSEs) Freddie Mac and Fannie Mae have been in conservatorship since 2008 and even now approximately 90 percent of new mortgages carry some form of government support because the market does not have enough private support to back residential mortgage credit risk.

Over the past year some of the Council's member agencies have worked on a framework for housing reform to encourage the return of private capital and reduce taxpayer support while protecting consumers from abuses.  The Federal Housing Finance Agency (FHFA) has developed a Strategic Plan for the GSEs that includes plans for new mortgage infrastructure, reduction of GSE credit risk, and increased incentives for the private sector to absorb more credit risk.

In addition CFPB is developing rules to implement provisions of the Dodd-Frank Act that apply to mortgage lenders and other member agencies are working to promote more efficient markets for residential mortgage-backed securities (RMBS).   Of note, the Securities and Exchange Commission (SEC) continues to consider appropriate disclosure rules for RMBS.

More needs to be done to increase certainty about the future of the housing finance infrastructure and related policy issues to further promote the return of private capital.  There are not yet any broadly agreed-upon standards to characterize the quality and consistency of mortgage underwriting which is necessary to support the valuation and liquidity of mortgage-backed instruments.  Foreclosure practices lack uniformity across the states and there remains uncertainty about the obligations of mortgage securitizers when a loan fails to conform to representations and warranties.

The Council recommends that Council members continue the work begun by HUD and Treasury in a joint white paper in 2011 to develop a long term housing reform framework and to work with Congress to address the weaknesses that became evident in the recent housing crisis.

The Council also continues to focus on the need for national mortgage servicing standards and servicer compensation reform.  Earlier work by multiple agencies and an interagency work group resulted in supervisory consent orders with major servicers that are now being implemented.  Also in 2011 FHFA announced the Servicing Alignment Initiative to standardize practices of servicers of GSE loans.  This produced a consistent set of protocols for servicing mortgages from the onset of delinquency.  The work group has provided a public outline of its plans for mortgage servicing regulations and formal rules are expected to be proposed for comment this summer. 

The Council recommends that FHFA, HUD, CFPB, and other agencies as necessary develop comprehensive mortgage servicing standards that require consistent and transparent processes for consumers and promote efficient alternatives to foreclosure as appropriate.  In addition the Council recommends continued efforts to implement compensation structures that align the incentives of mortgage servicing with those of borrowers and other participants in the mortgage markets.