WASHINGTON WEEKLY
Keeping the Markets Informed from the Capital
March 14, 2008
PWG Releases Recommendations to Improve the Future of the Financial Markets
The President’s Working Group on Financial Markets (PWG) issued recommendations to improve the future state of the U.S. and global financial markets. The PWG recommended reforming parts of the mortgage origination process; enhancing disclosure and improving the practices of sponsors, underwriters and investors with respect to securitized credits; reforming the credit rating agencies’ processes for rating structured credit products; ensuring the global financial institutions take appropriate steps to address the weaknesses in risk management and reporting practices; and ensuring prudential regulatory policies including capital and disclosure requirements provide incentives for effective risk management practices.
The Chairman of the House Financial Services Committee and the Chairman of the Senate Banking Committee introduced similar draft proposals that would grant the Federal Housing Administration (FHA) the authority to guarantee the refinancing of distressed mortgages.
The House approved by voice vote legislation that would make technical corrections to the Pension Protection Act of 2006. A similar bill was approved by the Senate in December.
In a letter to the Chairman of the Senate Republican Capital Markets Task Force, SIFMA encouraged Congress and Federal regulators to adopt proposals in the areas of financial regulation, securities litigation, tax policy, visa and immigration and international trade in order to enhance the competitiveness of the U.S. capital markets.
The Senate Judiciary Committee postponed its scheduled meeting to continue consideration of legislation that would allow bankruptcy judges to modify residential mortgage loans during Chapter 13 bankruptcy proceedings.
During the House Financial Services Committee hearing on the impact of the turmoil in the municipal bond markets on states and municipalities, Chairman Barney Frank (D-MA) called on the credit rating agencies and the bond insurers to develop solutions to the current market conditions or Congress will intervene.
Senate Banking Committee Chairman Chris Dodd (D-CT) said his legislation, the National Infrastructure Bank Act of 2007 (S.1926), provides a basis for an infrastructure financing framework.
Senate Finance Committee Chairman Max Baucus (D-MT) and Ranking Member Charles Grassley (R-IA) asked the Joint Committee on Taxation (JCT) to describe and analyze the history, current rules and policy rationales for the U.S. tax rules applied to U.S. investment by foreign governments, including investments made by sovereign wealth funds (SWFs).
PWG Releases Recommendations to Improve the Future of the Financial Markets
President’s Working Group on Financial Markets (PWG) issued recommendations to improve the future state of the U.S. and global financial markets. In its policy statement on financial market developments, the PWG found the principal underlying causes of the turmoil in the financial markets were a breakdown in underwriting standards for subprime mortgages; an erosion of market discipline by those involved in the securitization process; flaws in the credit rating agencies’ assessments of certain structured finance products; weak risk management policies at some U.S. and European financial institutions; and regulatory policies that failed to mitigate risk management weaknesses. The PWG said turmoil in the markets has not yet abated. In its report, the PWG recommended: reforming parts of the mortgage origination process; enhancing disclosure and improving the practices of sponsors, underwriters and investors with respect to securitized credits; reforming the credit rating agencies’ processes for rating structured credit products; ensuring the global financial institutions take appropriate steps to address the weaknesses in risk management and reporting practices; and ensuring prudential regulatory policies including capital and disclosure requirements provide incentives for effective risk management practices. The PWG called on states to implement nationwide licensing standards for mortgage brokers and Federal and state regulators to strengthen oversight of entities that originate and fund mortgages. Credit rating agencies should disclose what qualitative reviews they perform on originators of assets that collateralize asset-backed securities and should differentiate between structured products ratings and ratings for corporate and municipal securities. The PWG also recommended regulators to encourage financial institutions to make more detailed and comprehensive disclosures of off-balance sheet commitments.
Additionally, the PWG will create a private sector committee to develop best practices regarding disclosure to investors in securitized credits. The PWG will also facilitate the formation of a private-sector group, with representatives of investors, issuers, underwriters and CRAs, to develop recommendations for further steps that issuers, underwriters, CRAs and policymakers could take to ensure the integrity and transparency of ratings. The PWG is beginning implementation of its recommendations and will issue a summary progress statement in the fourth quarter of 2008.
Dodd and Frank Announce Proposals to Allow FHA to Guarantee Refinancings
At a joint press conference this week, House Financial Services Chairman Barney Frank and Senate Banking Committee Chairman Chris Dodd announced similar draft proposals that would grant the Federal Housing Administration the authority to guarantee the refinancing of distressed mortgages. The FHA Housing Stabilization and Homeownership Retention Act, proposed by Chairman Frank, would permit the FHA to provide up to $300 billion in new guarantees to help refinance at-risk borrowers into viable mortgages. Under the program, a borrower or servicer would contact an FHA-approved lender, who would then determine the size of the new loan and whether the borrower could repay. In exchange for the acceptance of a substantial write-down of principal, the existing lender or mortgage holder would be paid from proceeds of the new FHA loan in an amount based on the current value of the house. Only mortgages on owner-occupied principal residences meeting certain criteria are eligible. The proposal includes a “bulk refinance facility” that would refinance and guarantee mortgages in large numbers through an auction facility or other mechanism. The program would sunset in two years. The proposal also includes $10 billion in loans and grants for the purchase and rehabilitation of vacant, foreclosed houses. Frank’s proposal will likely be packaged with The Emergency Mortgage Loan Modification Act of 2008 (H.R.5579), introduced this week by Rep. Paul Kanjorski (D-PA) and Rep. Mike Castle (R-DE). A full description of H.R.5579 can be found below.
According to the outline of Sen. Dodd’s proposal, The HOPE for Homeowners Act of 2008 would create a new program within FHA to back FHA-insured mortgages to distressed borrowers. The program will be overseen by a Board, made up of the HUD Secretary, the Secretary of the Treasury and the Chairman of the Federal Deposit Insurance Corporation (FDIC). Only owner-occupant mortgages will be eligible for the program. Other eligibility criteria will be established by the Board. The Act provides for $20 billion in federal credit subsidies, which is expected to insure new refinancing loans for approximately $400 billion troubled mortgages. The size of the new loans issued would be the lesser of either 1) the amount the borrower can afford to repay, based on certain criteria; 2) the amount of the existing loan minus a discount established through a bulk-refinancing auction. The HOPE for Homeowners Act provides servicers with a safe harbor against legal liability to participate in the program. In addition, the proposal requires the HUD Secretary, the Treasury Secretary and the Director of the Office of Federal Housing Enterprise Oversight (OFHEO) to establish a new Foreclosure Prevention goal for the government-sponsored enterprises (GSEs).
House Approves PPA Technical Corrections Bill
The House approved by voice vote legislation (H.R.3361) that would make technical corrections to the Pension Protection Act of 2006. The bill introduced by House Ways and Means Committee Chairman Charles Rangel (D-MA) and Ranking Member Jim McCrery (R-LA) and House Education and Labor Chairman George Miller (D-CA) and Ranking Member Buck McKeon (R-CA), would clarify that distributions from tax-qualified retirement plans, tax-sheltered annuities and governmental Section 457 plans are allowed to be rolled over directly into Roth IRA accounts, subject to certain conditions. H.R.3361 would also provide that a rollover from a Roth-designated account in a tax-qualified retirement plan or tax-sheltered annuity (Section 402) to a Roth IRA is not subject to the gross income inclusion and adjusted gross income conditions. The bill would also define the terms “Single employer plan” for funding-related limits on benefits and accruals and the term "plan sponsor” for multi-employer funding rules to conform to the definition provided in ERISA. H.R.3361 would also clarify the foreign exchange provision to exempt any foreign exchange transaction between a bank or broker-dealer (or any affiliate of either) and a plan from the prohibited transaction rules if the exchange rate used by the bank or broker-dealer is not more than three percent from the interbank bid and asked rates for transactions of comparable size and maturity as displayed on an independent service that reports exchange rates in the foreign currency market. A companion bill (S.1974) passed the Senate by voice vote in December.
SIFMA Offers Recommendations to Enhance Competitiveness of U.S. Capital Markets
In a letter to Sen. Mike Crapo (R-ID), Chairman of the Senate Republican Capital Markets Task Force, SIFMA encouraged Congress and Federal regulators to adopt proposals—in the areas of: 1) financial regulation; 2) securities litigation; 3) tax policy; 4) visa and immigration procedures; and 5) international trade—in order to increase the efficiency of capital markets, promote investor protection and create a robust and reasonable system of oversight. Specifically, SIFMA recommended the U.S. regulatory regime for financial institutions needs both substantive and structural reforms that would shift regulation toward a regulatory approach based on principles and prudential regulation, simplify the regulatory oversight structure and modernize regulation of cross-border activities of global firms and exchanges. SIFMA called on Congress and the SEC to take steps to improve the securities class action system, while preserving investors’ rights of action against issuers that engage in fraud. SIFMA also called for making the capital gains and dividends tax rate reductions and the Active Financing Exception (AFE) under Subpart F permanent. In order for U.S. financial services firms to attract the highest caliber of talent, both domestically and overseas, SIFMA recommended improving the visa process to facilitate short-term visits, increasing the number of H1-B visas and extending the Optional Practical Training (OPT) visas to twenty-nine months. SIFMA urged Congress to work towards the reduction and elimination of the barriers in China’s capital markets and ratify the Free Trade Agreements (FTAs) with Korea, Columbia and Panama.
Continuation of Bankruptcy Markup Postponed
The Senate Judiciary Committee postponed its scheduled meeting to continue consideration of the Helping Families Save Their Homes in Bankruptcy Act of 2007 (S.2136) this week. The bill would amend the bankruptcy code to allow bankruptcy judges to modify residential mortgage loans in Chapter 13 proceedings. Homeowners would be required to pass a means test to verify their inability to pay off the current mortgage. Under the bill, bankruptcy judges would be allowed to reduce interest rates on nontraditional and subprime mortgages originated as of the date of enactment of the bill, to the prime interest plus a reasonable premium for risk, and could extend the life of the loan up to thirty years minus the period the loan has been outstanding. Also, under the bill, if a borrower sells their home within five years of the mortgage modification, the lender would receive any increase in market value up to the original loan amount. During last week’s markup, Senate Judiciary Committee Ranking Member Arlen Specter (R-PA) introduced his legislation, the Home Owners Mortgage and Equity Savings Act (S.2133), as a substitute amendment to S.2136. This week’s markup was postponed due to votes on the Senate floor. SIFMA, the American Securitization Forum, and other members of the Bankruptcy Coalition sent a letter to members of the Senate Judiciary Committee in opposition of S.2136 and S.2133. The Coalition said the bills would increase the cost of buying a home and would price many Americans out of the housing market and make owning a home more expensive for others.
Frank Says He’ll Look Into Ways Fed Can Help Muni Market
During the House Financial Services Committee hearing on the impact of the turmoil in the municipal bond markets on states and municipalities, Chairman Barney Frank (D-MA) called on the credit rating agencies and the bond insurance companies to develop solutions to the current market conditions or Congress will have to intervene. He said the Committee would look at all possible ways to help municipalities, including allowing the Federal Home Loan Banks (FHLBs) to issue letters of credit for certain municipal bonds. Frank said he would also talk with the Federal Reserve to explore ways the Fed could help the municipal market. Rep. Paul Kanjorski (D-PA) said he would talk to the House Ways and Means Committee to get them to move on legislation that would grant the FHLBs authority to issue letters of credit for certain municipal issuers. Ranking Member Bachus said Securities and Exchange Commission (SEC) Chairman Christopher Cox will appear before the Committee later this year to discuss his recommendations for improved disclosures in the municipal market.
Erik Sirri, director, Division of Trading and Markets, SEC, said SEC staff is developing guidance designed to clarify that with appropriate disclosures and compliance with certain other conditions, municipal issuers can participate in auctions for their own securities without triggering market manipulation concerns. Staff intends for the guidance to remove any hesitancy on the part of broker-dealers and auction agents to allow municipal issuers to bid. Chairman Frank questioned the need for different credit rating scales for the municipal and corporate bond markets. Connecticut Attorney General Richard Blumenthal said his office is investigating the dual system of rating bonds. He urged Congress to take action to prohibit credit rating agencies from assigning different credit ratings to bonds with similar or equivalent rates of default and risk. He said Congress should not regulate the methods and procedures in which rating agencies estimate risk, but should ensure all public and private issuers are treated equally. Bill Lockyer, California State Treasurer, said a unified rating system based on default risk would make the market more efficient, transparent and better serve taxpayers and investors.
Banking Committee Explores National Infrastructure Bank
During this week’s Senate Banking Committee hearing on the condition of the nation’s infrastructure and funding proposals, Chairman Chris Dodd (D-CT) said his bill, the National Infrastructure Bank Act of 2007 (S.1926), provides a basis for an infrastructure financing framework. Dodd said he wants the final infrastructure financing framework to include a regulatory process which is not cumbersome or time intensive so projects can be expedited and the overall process is not discouraged. Sen. Chuck Hagel (R-NE), a co-sponsor of S.1926, said the lack of public-private partnerships in some states emphasizes the need for greater state and federal cooperation. Ranking Member Richard Shelby (R-AL) said it is important to develop alternate ways to finance the high costs of infrastructure maintenance and creation. Shelby suggested sovereign wealth fund capital could be leveraged for infrastructure finance sources. Felix Rohatyn, trustee, Center for Strategic and International Studies, said infrastructure investments from sovereign wealth funds would be effective and safe since the infrastructure cannot be removed. John Mongan, president, American Society of Civil Engineers (ASCE), said the ASCE supports S.1926 and suggested said that public-private partnerships could be part of a multifaceted solution to infrastructure financing. Tracy Wolstencroft, managing director and head, Public Sector and Infrastructure Banking, Goldman Sachs, said public-private partnerships can play a major role in supplementing taxpayer dollars for infrastructure funding. He recommended the infrastructure bank incorporate strong risk-management models and have management and directors experienced in credit due diligence.
Finance Committee Leaders Ask JCT to Examine Taxation of SWFs
Senate Finance Committee Chairman Max Baucus (D-MT) and Ranking Member Charles Grassley (R-IA) asked the Joint Committee on Taxation (JCT) to describe and analyze the history, current rules and policy rationales for the U.S. tax rules applied to U.S. investment by foreign governments, including investments made by sovereign wealth funds (SWFs). Baucus and Grassley said in light of the rapid increase in the size and number of SWFs, their investments in the United States and their expected continued growth, it is appropriate to examine the tax regime. Specifically, Baucus and Grassley asked the JCT to examine the trends in the level and types of investment by foreign governments and domestic public funds as well as the techniques used by SWFs to invest in U.S. corporations. They also asked the JCT to compare the tax treatment of SWFs with the federal tax treatment of U.S. investment by non-governmental foreign residents and tax-exempt entities.
Bills Introduced This Week
The Security Against Foreclosures and Education (SAFE) Act, introduced by Sen. Kit Bond (R-MO), would authorize $10 billion in mortgage-revenue bonds (MRBs) to refinance subprime mortgages. S.2734 also includes the FHA Modernization Act (S.2338), which passed the Senate in December. The bill would also provide $15,000 in tax credit for the purchase of homes in foreclosure; and would increase disclosure requirements for adjustable rate mortgages.
Rep. Joe Pitts (R-PA) introduced legislation (H.R.5591) to allow non-taxable employer matching contributions to Section 529 college savings plans. The Help Kids Save for College Act of 2008 would allow tax-free employer contributions up to the lessor of $500 or the amount contributed to the plan by the employee that year.
Rep. Paul Kanjorski (D-PA) and Rep. Mike Castle (R-DE) introduced the Emergency Mortgage Loan Modification Act of 2008 (H.R.5579), which would provide a safe harbor from legal liability for mortgage servicers who engage in qualified loan modifications and workout plans according to specific criteria. A qualified loan modification or workout plan is scheduled to remain in place for at least five years, unless the borrower sells the property or refinances the loan; does not include repayment schedules that result in negative amortization and does not require the borrower to pay additional points and fees. H.R.5579 applies only to owner-occupied residential mortgage loans and modification or workout plans initiated prior to January 1, 2011. The bill is an update to legislation (H.R.4178) Rep. Castle introduced last November.
The Week Ahead
Congress will be in recess for the two-week Easter recess from March 17 – March 28.