FHLB Mortgage Programs Could Have
Impact on Fannie Mae and Freddie Mac

Mortgage purchases by the 12 Federal Home Loan Banks (FHLBs) represent a small but rapidly growing part of the secondary conforming mortgage market in the United States. These relatively new mortgage purchase programs provide FHLB member financial institutions a competitive alternative to securitizing mortgages with the Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corp. (Freddie Mac). These are the findings of an article by Scott Frame, an Atlanta Fed economist who analyzes the economic implications of the FHLBs’ mortgage purchase programs.

What cost credit risk?
Whether or not the FHLBs’ mortgage purchase programs are cheaper than Fannie’s and Freddie’s is something of an apples-and-oranges comparison. The average charge for Fannie Mae and Freddie Mac mortgage guarantees is about 20 basis points annually, and institutions in the FHLBs’ programs charge about 10 basis points, but there may be more to the equation. According to Frame’s research, the bottom-line price of credit risk with the FHLB programs appears to be less. This difference might give FHLB members an incentive to retain the credit risk and benefit from servicing and credit enhancement income, argues Frame.

A competitive alternative
For large lenders selling fixed-rate conventional mortgages, the FHLB programs can be a serious alternative to Fannie and Freddie. In the first half of 2003 alone, FHLBs purchased more than $46 billion in loans primarily through the Mortgage Partnership Finance program of the Chicago FHLB. But, Frame notes, “it is unclear whether they [the FHLBs’ mortgage programs] can become significant competitors to Fannie Mae and Freddie Mac because [the programs’] continued growth will require the FHLBs to restructure their balance sheets by either selling more equity stock to members or selling assets.”

Challenging Fannie and Freddie
Increased competition in the secondary conforming mortgage market is a good thing for homebuyers because it may result in lower mortgage rates. However, another consequence of this heightened competition is that “the risk profiles of Fannie Mae and Freddie Mac could change,” Frame writes. “If competition reduces Fannie Mae and Freddie Mac’s expected profits (returns), these GSEs [government-sponsored enterprises] will be faced with either accepting the lower expected returns or taking on more risk.”

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