The reproposal of bank capital rules for mortgages appears to deliver on earlier signals, including looser servicing asset rules, additional loan-to-value ratio distinctions and accommodations for credit enhancement.
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But some fear there could be a catch in the small print of the new Basel III plan.
“Capital rules are notoriously complex, but based on our initial review, the re-proposal incorporates several priorities long advocated by MBA,” said Bob Broeksmit, president of the Mortgage Bankers Association.
MSR impacts
In line with what Federal Reserve Vice Chair Michelle Bowman signaled earlier, the reproposal appears to contain looser loan capital rules more nuanced around LTVs. It also provides limited relief for servicing rights, eliminating the Tier 1 capital cap but keeping risk weight at 250% for now.
Bowman has indicated the risk weight that determines how much capital has to be held against mortgage servicing rights could still potentially be lowered later through a regulatory process that involves public review.
How much lower that might be remains to be seen. The Fed official has shown some caution around increasing banks’ broad involvement in MSRs, which can incur volatile swings in valuations and has noted that they are “not right for every bank.”
In the meantime, even lifting the limit on the extent to which mortgage servicing rights count toward banks’ core or highest quality capital makes them relatively more attractive to hold.
The reproposal also appears to recognize credit enhancement like mortgage insurance and provide relief for loans secured by commercial real estate.
Potential nonbank impacts
Details that will be key to outcomes for the nonbank mortgage industry include where capital levels related to warehouse financing end up. The MBA has estimated that these credit facilities underpin roughly two-thirds of single-family lending.
The MBA has been calling for a reduction in the 100% risk weight assigned to warehouse lines and has attributed some of the past departures from that business to a previous Basel proposal that sought to double the credit conversion factor on unused lines in a punitive way. The association was still reviewing the reproposal’s impact on warehouse lines at the time of this writing.
What the MBA would like to see when it comes to warehouse lines is a return to a 50% risk weight that existed prior to rule changes made in 2014.
“The 2014 modification was made pursuant to an accounting policy change that we believe ignores the substance of the underlying credit risk and instead focuses on the form of the transaction,” Pete Mills, MBA’s senior vice president of residential policy, wrote in a letter to banking officials last month.
Nonbank players in housing finance also have been watching to see if relaxation in depositories’ capital rules could put them at a disadvantage, although some forecasts have suggested its impact on mortgages could be limited.
Friction points
Looser mortgage capital rules in the reproposal are facing opposition from critics like Elizabeth Warren, D-Mass., ranking member of the Banking, Housing and Urban Affairs Committee in the Republican-led legislature.
Warren called it “a weak rule that fails to address the severe flows in the capital framework that were never fixed after the 2008 financial crisis.” She also has shown concern about loosening rules given vulnerabilities exposed in the 2023 banking crisis, some of which were mortgage related.
In addition, looser capital rates could lead rating agencies responsible for risk assessments to tighten standards over time. That could influence what it costs to do ratings-dependent business in the mortgage market.
“Fitch does not expect a sharp near-term drop in capital, but warns that gradual easing across stress tests, leverage rules and risk-based standards could cumulatively erode buffers and ratings headroom over the medium-term,” said Therea Paiz Fredel, senior director at Fitch Ratings.