Could New 'Delta Mortgage Banks' Come to the Rescue?
Editor's note: This is part three in a series appearing Sunday's in HomesSunday.
The previous article in this series critiqued the Obama administration's proposal for a new federal reinsurance program on the grounds that it did not address the three major structural defects in the current housing finance system: the excessive market power of four mega-banks, the barriers to effective shopping by mortgage borrowers, and the vulnerability of the private secondary market to a contagious loss of confidence.
The following is a ramp-up proposal that would deal with these problems.
The major focus is a new type of federally chartered mortgage lender that would lend and securitize simultaneously. I'll call them "delta mortgage banks," or DMBs, to distinguish them from the kind of mortgage banks we have now (MBs). Both originate mortgages for sale, but there are major differences in how this is done.
MBs often sell packages of loans where DMBs sell one loan at a time.
MBs may hold mortgages for days or weeks before sale where with DMBs the granting of the loan and its sale occur simultaneously.
Sale by an MB, aside from representations and warrantees provided to the buyer, terminates the seller's risk of loss in the event of borrower default; that risk is passed to the buyer. A DMB, in contrast, remains fully liable for the risk of loss after sale because loans are sold into open-ended bonds issued by the DMB.
DMBs issue such bonds for each type of mortgage that they make.
For example, there would be separate bonds for 30-year fixed-rate mortgages (FRMs) and 5/1 adjustable-rate mortgages (ARMs). If a new loan is a $200,000 30-year FRM, the corresponding 30-year FRM bond is increased by $200,000 through sale to investors. Each individual loan is funded by the secondary market.
Authorizing a new type of mortgage lender that would be competitive with mega-banks is the preferred way to deal with excessive market power. DMBs would be competitive because, until they become established, their bonds would be backstopped by the federal government, and the diseconomies of a small-scale operation would be avoided by cooperative bond pooling arrangements (see below).
Note that this proposal is very different from those that would authorize depository institutions to issue "covered bonds" against some or all of the mortgages in their portfolios. …