At the end of 2011, Fannie Mae, Freddie Mac and FHA accounted for more than half of multifamily origination volume. What accounts for their majority market share?
Fannie Mae, Freddie Mac and the Federal Housing Administration (FHA) have been drivers of the multifamily real estate finance market in recent years. Given continuing changes in multifamily markets-and within Fannie, Freddie and FHA themselves-this is an opportune time to review the facts about the roles the government-sponsored enterprises (GSEs) and FHA have played, and are playing, in the market.
The role of the GSEs
Fannie Mae and Freddie Mac are government-sponsored enterprises whose charters charge them with a number of responsibilities. Those include: providing stability in the secondary market for residential mortgages; responding appropriately to private capital markets; increasing liquidity of mortgage investments and improving the distribution of capital available for mortgage finance; and promoting access to mortgage credit throughout the nation.
The GSEs don't make multifamily loans. Rather, they buy mortgages and mortgage-backed securities (MBS) and fund those purchases through the issuance of mortgage-backed securities, general obligation corporate debt and other sources of capital.
Fannie Mae and Freddie Mac are private, stockholderowned corporations. Prior to September 2008, they enjoyed an implicit tie to the federal government that resulted from their congressional charters, a line of credit with the Treasury Department, presidentially appointed directors, an implied federal guarantee of their debt and more.
The GSEs' special relationship with the federal government - first implicit, but then made explicit with Treasury's capital infusions and preferred stock purchase agreement - has meant that Fannie Mae and Freddie Mac enjoy a lower cost of funds than firms operating in the fully private markets.
Fannie Mae and Freddie Mac have provided capital to the multifamily mortgage markets in a variety of ways through the years, with an upward trend in their overall holdings and guarantees of multifamily mortgages and mortgage debt.
The most fundamental role the GSEs play in the multifamily mortgage market is that of buying recently closed mortgages that were originated under the GSEs' multifamily guidelines and were intended to go to Fannie Mae or Freddie Mac. These loans are sometimes referred to as the GSEs' "flow" volume.
The enterprises have different approaches to the acquisition, underwriting and funding of these loan purchases, but to borrowers the end result can be relatively similar. In 2011, the Mortgage Bankers Association's (MBA's) Commercial/Multifamily Annual Origination Volume Summation report tracked $23 billion of such originations for Fannie Mae and $21 billion for Freddie Mac (see Figure 1). Both volume numbers were records.
While Fannie Mae's and Freddie Mac's dollar volumes of flow originations increased during 2011, their aggregate market share declined, as other multifamily lenders picked up their volumes at a rate faster than the GSEs.'
During 2009, in the throes of the credit crunch and recession, MBA's Commercial/Multifamily Annual Origination Volume Summation report showed multifamily borrowing and lending dropped to just $36.5 billion, of which the GSEs' relatively steady $31 billion made up 85 percent. By contrast, the $44 billion of originations for the GSEs in 201 1 made up 57 percent of the $77 billion total.
The GSEs have played other roles in the multifamily markets, too. They have purchased commercial mortgage-backed securities (CMBS), low-income housing tax credits (LIHTC), pools of seasoned multifamily mortgages, mortgage revenue bonds and other multifamily financing vehicles.
According to data from the Federal Housing Finance Agency (FHFA), at the end of 2008 Fannie Mae and Freddie Mac held $90 billion of multifamily-related CMBS - an amount equal to 80 percent of the total multifamily mortgage debt held in CMBS at the time.
Reporting on their 2007 multifamily business volumes, the GSEs announced more than $100 billion of total multifamily activity - including purchases of seasoned loan pools, CMBS, LIHTC and more - of which only $35 billion was flow volume. By contrast, nearly all of their reported 201 1 volume was flow.
As a result of being placed in conservatorship, Fannie Mae and Freddie Mac are now directly overseen by the government. The Federal Housing Administration has been part of the government from the start.
FHA provides an explicit federal guarantee on multifamily loans through a menu of congressionally created programs. The guarantee assures investors in the loans, or in securities backed by the loans, that they will receive the principal and interest payments due to them.
The government guarantee attracts mortgage capital at lower rates. The guarantee is paid for through a mortgage insurance premium (MIP) that is set by the Department of Housing and Urban Development (HUD) and is paid by the borrower.
FHA's various multifamily loan programs are each designed to address a different loan type or segment of the market. Some of the major multifamily categories/programs in terms of current production volume are: i) new construction/substantial rehab (NCSR) programs that support the construction or rehabilitation of multifamily properties; 2) Section 223f for the purchase or refinancing of existing multifamily properties; and 3) Section 22337 for the refinancing of loans that already have an FHA-insured mortgage.
FHA and its lender partners also provide a variety of finance programs to support health-care and assisted-living facilities.
Fannie Mae and Freddie Mac's flow business saw a considerable pick-up in market share during 2008, 2009 and 2010 as much of the rest of the market slowed down around them. FHA, on the other hand, saw a marked increase in its volumes at the same time the broader market was pulling back.
In fiscal year (FY) 2009, FHA reported dollar-volume increases of 160 percent for NCSR, 160 percent for 223f and 275 percent for 22337. Volumes more than doubled again in FY 2010 before FY 201 1 saw declines in NCSR and 223Í volumes and a rise in 22337 volume (see Figure 2).
In terms of new apsrtment units being built, FHA's share of multifamily new-construction activity rose 3S funding of NCSR projects increased and broader newconstruction activity decre3sed. FHA NCSR firm commitments 3s 3 share of total building stsrts in five-plusunit buildings rose from 6 percent in FY 2008 to 38 percent in FY 2010. In FY 2011, the share dipped to 21 percent.
Growing share of outstanding multifamily mortgage debt
Given these numbers, it is not hard to see how the GSE 3nd FHA share of total multifamily mortgage debt has grown through the credit crunch, the recession and the recovery.
According to MBA's Quarterly Analysis of Commercial and Multifamily Mortgage Debt Outstanding, agency and GSE portfolios and mortgage-backed securities - essentially Fannie Mae, Freddie Mac and FHA/Ginnie Mae - held or guaranteed $198 billion, or 30 percent of all outstanding multifamily mortgage debt in 2007. By the end of 2011, that figure had grown to $342 billion and their share had grown to 42 percent (see Figure 3).
These numbers include only whole loans held or guaranteed by the GSEs and FHA, and do not include the GSEs' holdings of CMBS, LIHTC or other related investments.
According to FHFA, at the end of 2010, the most recent date for which the information is available, Fannie Mae and Freddie Mac held $84 billion of multifamily-related CMBS, a figure equal to 85 percent of the $99 billion of multifamily mortgage debt held in CMBS at that time.
Who funds what
It is important to remember that the multifamily rental market is large and diverse, and requires a finance market that is equally large and diverse.
According to data from the Census Bureau's 2009 American Housing Survey, 30 percent of multifamily renter households live in buildings with five to nine units; 28 percent live in buildings with 10 to 19 units; 21 percent live in buildings with 20 to 49 units; and 21 percent live in buildings with 50 or more units.
An individual landlord who owns one seven-unit apartment building requires a very different lending product and approach than does a real estate investment trust (REIT) that owns 100,000 units in 400 separate properties.
The multifamily real estate finance market has evolved to support this diversity. In addition to Fannie Mae, Freddie Mac and FHA, other multifamily lenders include banks, the CMBS market, state governments, life insurance companies and more.
Based on MBA's Annual Report on Multifamily Lending, the average loan size across all these sources was $3.1 million in 2010 - but out of 22,256 multifamily loans closed, 12,965 (58 percent) were loans of $1 million or less. On the lender side, one-third of multifamily lenders made just one multifamily loan during the year and 75 percent made five or fewer.
Looked at from another angle, just 127 lenders (4 percent of the total) were responsible for 29 percent of all multifamily loans and 78 percent of the dollar volume of mortgage capital extended.
To generalize, life insurance companies tend to focus on larger properties and borrowers, with an average apartment loan size of $17.5 million in the fourth quarter of 2011, according to the American Council of Life Insurers (ACLI), Washington, D.C. MBA's Commercial/Multifamily Annual Origination Volume Summation report shows average 2011 loan sizes of $9 million for Fannie Mae, $16 million for Freddie Mac and $10 million for FHA (including health-care loans). Through their retail operations, banks tend to line up with the smaller multifamily borrowers, many of whose loans are for $500,000 or less.
These are only generalizations, however, and there are plenty of exceptions. There are life insurance companies that focus on smaller-balance loans, and many banks have corporate banking operations that specialize in large, sophisticated properties and borrowers.
Sources/pricing of funds
One of the key reasons the GSEs and FHA have seen their market shares grow in recent years is the tie between their costs of funds and recent investor interest in low- or norisk investment options. FHA loans enjoy an explicit guarantee from the federal government, and thus command higher prices and lower interest rates than those available through private markets.
Fannie Mae and Freddie Mac - first through the implicit guarantee and now through Treasury's capital backstop and explicit statements of support - also enjoy borrowing rates that generally track with U.S. government rates and sit well inside of other capital sources. This was particularly evident - and important - during the credit crunch and recession.
In early 2007, prior to the credit crunch, investors in the safest commercial mortgage-backed securities demanded a yield that was 70 to 80 basis points higher than a 10-year Treasury rate to invest in the CMBS, according to JP Morgan Securities, New York.
According to Credit Suisse USA Inc., New York, investors in Fannie Mae Delegated Underwriting and Servicing (DUS®) 10/9.5 multifamily bonds demanded a yield that was 10 to 20 basis points higher than Treasuries.
Investors in Ginnie Mae Project Loan Certificates (PLC), which are backed by FHA multifamily mortgages, demanded a yield that was o to 5 basis points higher than the 10-year Treasury (see Figure 4). (In addition to differences in the credit risk of the different bonds, differences in the expected lives of the bonds also affect their pricing.)
With the onset of the credit crunch, CMBS AAA spreads spiked to more than 1,300 basis points. Unrest about commercial real estate pushed Fannie Mae DUS and Ginnie Mae PLC spreads up as well, but their ties to the government capped their spreads at 300 to 340 basis points.
With greater stability having returned to the market, spreads have come back in significantly. As of the end of February 2011, senior AAA CMBS spreads were 243 basis points over Treasuries (new issue bonds were 123 basis points over Treasuries). Fannie Mae DUS 10/9. 5s were pricing at 60 basis points over Treasuries. Finally, Ginnie PLCs tightened to 40 basis points over Treasuries.
The rates cited here are all related to securities in which most, if not all, of the underlying credit risk of the mortgages has been removed. In the case of Ginnie Mae, FHA takes on the risk in exchange for mortgage insurance premiums. In the case of DUS, Fannie Mae and its lender partners tske on the risk in exchsnge for gusrantee and other fees. Freddie Mac has a securitization product often referred to as a K-series, whose highest-rated bonds are backed by Freddie Mac.
In the case of CMBS, the credit risk is directed away from the AAA securities through a structuring process that concentrates the risk in a set of lower-rated securities.
Risk is also mitigated and priced through the underwriting, terms, conditions and pricing of the mortgages themselves. As 3 result, loans for different investor groups will often have different profiles.
* During the third quarter of 2011, the median Section 223f (multifamily purchase and refinance) FHA loan for which a firm commitment was issued was a $4 million losn with a mortgage rate of 3.95 percent (based on data from FHA's firm commitments datsbsse).
* The medisn io-ye3r multifsmily losn thst wbs closed during the third qusrter and included in a Freddie Mac K-series deal during the year was a $12 million loan with an underwritten loan-to-value (LTV) ratio of 71 percent and a mortg3ge r3te of 5.03 percent (bssed on dst3 from Freddie Msc's Mortgsge Securities Investor Access tool).
The 3ver3ge (rsther than medisn) life insurance company apsrtment losn committed during the quarter was a $17 million loan with a 61 percent LTV and a 4.47 percent mortgage rate (based on dat3 from ACLI's Commercial Mortgage Commitments report).
Given thst the GSEs hsve traditionally held onto at least some of the credit risk of their multifamily mortgages, they have tended to operate in many ways like portfolio lenders.
Each month, Fannie Mae snd Freddie Mac report on the delinquency rates of their mortgsges in their Monthly Volume Summary reports. They siso provide additionsl detsil in 3 credit supplement to their qusrterly e3rnings snnouncements.
The GSEs' multifsmily mortgsges hsve performed fsr better during this downturn thsn hsve their single-family mortgages. At the end of December 2011, the seriousdelinquency rate for single-family mortgages at Fannie Mae was 3.91 percent, while the serious-delinquency rate for multifamily mortgages was just 0.59 percent.
At Freddie Mac, the singlefamily serious-delinquency rate W3S 3.59 percent while the multifsmily seriousdelinquency rate W3S 0.22 percent.
For compsrison purposes, 3t bsnks snd thrifts, 9.22 percent of single-fsmily mortgages were 90-plus days delinquent or in non3ccru3l at the end of the fourth quarter of 201 1, compared with 2.53 percent of multifsmily mortgages. There is no regular source of comparable information on the FHA-insured multifamily portfolio.
The GSEs' multifamily mortgages have had a similar delinquency experience to commercial and multifamily mortgages held by life insurance companies. At the end of the fourth quarter of 2011, the 60-plus-day delinquency rates for Fannie Mae and Freddie Msc multifsmily loans were 0.59 percent and 0.22 percent, respectively. The óo-plus-dsy delinquency rate for life insurance company commercial and multifamily mortgages was 0.17 percent, and for only apsrtment losns was 0.13 percent.
The delinquency rates for Fannie Mae, Freddie Mac and life companies as a whole all remained remsrksbly low throughout the credit crunch snd recession.
A major source of capital
Fannie Mae, Freddie Mac and FHA are all major sources of mortgage capital for the multifamily market. During the credit crunch and recession, their ties to the federal government attracted investors to their debt, and shored them up as sources for new loan originations when other sources pulled back. As the market has stabilized and other lending sources have picked bsck up, the GSEs' snd FHA's msrket shsres hsve declined, even ss their volumes hsve grown.
Even with the return of other lenders, st the end of 2011, Fsnnie Mae, Freddie Mac and FHA represented more thsn hslf of multifsmily originstion volume snd more thsn 40 percent of multifsmily mortgage debt outstsnding.
With greater stability having returned to the market, spreads have come back in significantly.
The GSEs' multifamily mortgages have performed far better during this downturn than have their single-family mortgages.
Jamie Woodwell is vice president of commercial real estate research for the Mortgage Bankers Association (MBA) in Washington, D. C. He can be reached at email@example.com.