Freddie Mac is proposing to start buying home equity loans, a new program that would allow the US mortgage agency to securitize and sell a new kind of debt to investors.
The Federal Housing Finance Agency, which regulates Freddie and its larger sibling Fannie Mae, requested public comments starting Tuesday on Freddie's plan to purchase these loans, also known as closed-end second lien mortgages.
The regulator is launching the 30-day comment period at a time when homeowners are finding mortgage rates stubbornly high and expectations on the timing of Federal Reserve rate cuts are pushed further into the future.
Freddie's proposed foray into this area of home financing could help lower the borrowing costs for homeowners as well as for originators of home equity loans, analysts said.
"If Freddie Mac ends up buying and securitizing second liens, it would probably change the business model of incumbents but also may bring new lenders in," Santander's head of investment strategy Steven Abrahams said in a report on Wednesday.
"My intuition is that total volume in second liens would rise," Abrahams said.
Homeowners are still sitting on a huge reserve of equity as property prices have remained elevated after hitting a record high during the pandemic. The total value of home equity at the end of 2023 was US$31.79trn, down slightly from the record of US$32.5trn at the end of the second quarter of 2022, Fed data show.
Meanwhile, high mortgage rates have made it unattractive for homeowners to do a traditional cash-out refinancing.
Mortgage rates
Currently, 63% of primary or first-lien mortgages have interest rates below 4%, Bank of America analysts wrote in a research note today. By comparison, interest rates on 30-year mortgages averaged 6.88% in the week ended April 11, according to Freddie Mac.
A home equity loan is one way for many homeowners to avoid a surge in monthly payments at those higher rates through a cash-out refinancing.
"Freddie Mac has indicated that the primary goal of this proposed new product is to provide borrowers a lower cost alternative to a cash-out refinance in higher interest rate environments," the FHFA said in its comment request.
For a home equity loan to be considered for the program, Freddie would already have to hold the first-lien mortgage on the underlying property. In addition, the home equity loan cannot be for longer than 20 years.
Abrahams said lenders might have to split their business into home equity loans eligible for sale to Freddie and those that are ineligible. The ineligible loans may be suited for private securitization.
The purchased home equity loans would reside on Freddie's portfolio for six to nine months until a second mortgage securitization program is ready, the FHFA said.
Moreover, the mortgage agency may evaluate credit risk transfer measures for the home equity loans it buys, the regulator said.
These measures may include issuing credit risk transfer securities, a potential new structured finance product to complement the securitization of home equity loans. Freddie and Fannie have been selling CRT securities to offload default risks on the first lien mortgages they guarantee.
Nonetheless, not everyone is happy with the proposal. The Structured Finance Association, which represents the securitization industry, said it is opposed to Freddie's home equity proposal, calling it "unnecessary."
“It is quite unclear what role the government-sponsored enterprises have in funding these mortgage products, or how that fits into Freddie Mac’s overall government-chartered mission objective," SFA chief executive Michael Bright said in a statement on Wednesday.